Inspection Done - Look for advices on this house

OP

Member since 2021 · 44 posts · 8 votes

4y

@Greg Scott in our market, probably few houses would have positive CF anymore. This one, if I have 35% equity, the monthly CF is about $150. I am hesitant to go to C or lower neighborhoods in this economy. The valuation is too high.

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Kim Meredith HamptonBusiness Member

Real Estate Broker · St Petersburg · Member since 2014 · 2k+ posts · 2k+ votes

4y

@Anne W. sounds like you are opening a can of worms with all the work that needs to be done, and most of these things are major. Have you ever done rehab or have experience with this level of repairs? The old adage always holds true, it ends up taking longer and costing more than you thought!

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Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

4y

This is a terrible house for a rental. Based on the problems you have, and the costs associated with them, you are never going to CF, your cost will be tremendously high, and it will probably take 30 years before your CF (if you have any) will recover your costs...sorry.

IS there anyway you can get out of this deal?...and when you say "you don't think you can get a deal in this market", that tells you don't invest in that market...NOT to take any property you can get. An investor collects money, not properties. The goal is ALWAYS to get a deal, and NOT just accept the best that comes along. You'll go broke very, very fast that way.

8 Reply

Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

4y

Quote from @Anne W.:

@Greg Scott in our market, probably few houses would have positive CF anymore. This one, if I have 35% equity, the monthly CF is about $150. I am hesitant to go to C or lower neighborhoods in this economy. The valuation is too high.

Then don't buy in that market. It's that simple. Find a different market to invest in.

Also, 150/month CF for an old house (any house) is really just negative CF waiting to happen.

Rick Albert

Real Estate Agent · Los Angeles, CA · Member since 2018 · 2k+ posts · 1k+ votes

4y

You can ask for a price reduction or credit towards closing costs. It's free to do it and the worst a Seller can say is no. I just did that for a client where we asked for money, they said no, we asked again at a lower amount, and got $14,000. Was any of this disclosed to you prior to acceptance?

Two things I would think about:

1. What are the options out there, even if limited? Every house has its issues so you have to pick which issue you are willing to deal with.

2. Inspections only go so far. This is what you can see. What about what you can't see? Is there a chance based on what you are seeing here that there could be surprises later on? Do you have the financial means to take it on?

If it were me or my clients, I would first determine if I have the financial means and the time to deal with it and if so, I would ask for a very large amount of money. Of course the numbers have to work. Check your state laws but in California any reports a Seller receives has to pass it on to the next buyer. It's basically a poison pill for the Seller. They can cancel on you, but do they really want to present the reports to the next buyer? Unlikely. They are better off playing ball with you.

OP

Member since 2021 · 44 posts · 8 votes

4y

@Joe Villeneuve thank you for your feedback. I didn't consider old house maintenance eats up the CF. The house is in a primary owner-occupied neighborhood. I was thinking as long as I am breakeven on the CF, I probably will get appreciation given the population inflow and how expensive the surrounding towns are.

@Rick Albert The house is sold "as is", we can object inspection and walk away. I am not sure if I can negotiate the price down. the seller disclosed asbestos, lead paint and have testing reports. This is a mature neighborhood, 1950's. The inspector is local and he said old houses have these issues and this property is not too bad, he would rate 3.5/5. I hired him, not an agent referral.

My target areas have 50% appreciation since early 2020. It's very difficult to get positive CF. I know I probably should've looked at other towns, I just don't feel comfortable. My first rental was my house for 12 years. I guess my mindset has not shifted to a true investor's.

Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

4y

Quote from @Anne W.:

@Joe Villeneuve thank you for your feedback. I didn't consider old house maintenance eats up the CF. The house is in a primary owner-occupied neighborhood. I was thinking as long as I am breakeven on the CF, I probably will get appreciation given the population inflow and how expensive the surrounding towns are.

@Rick Albert The house is sold "as is", we can object inspection and walk away. I am not sure if I can negotiate the price down. the seller disclosed asbestos, lead paint and have testing reports. This is a mature neighborhood, 1950's. The inspector is local and he said old houses have these issues and this property is not too bad, he would rate 3.5/5. I hired him, not an agent referral.

My target areas have 50% appreciation since early 2020. It's very difficult to get positive CF. I know I probably should've looked at other towns, I just don't feel comfortable. My first rental was my house for 12 years. I guess my mindset has not shifted to a true investor's.

Surrounding towns don't have any impact. If they did, all areas would be the same since all areas have surrounding towns next to them.
Population inflow doesn't guarantee anything as far as prices going up. If the neighborhood is primarily homeowners, then it is unlikely a renter would be looking there...and if they did, there is nothing in the area that would dictate what the rent would be.
Everything you said at the start tells me, and should have told you, not to buy the house. Everything you said after that, is you rationalizing with yourself it was OK that you did.
Rationalization is the most expensive word in the dictionary, and should never be used by a REI.

3 Reply

Bruce WoodruffPro Member

Contractor/Investor/Consultant · San Diego / Phoenix · Member since 2021 · 12k+ posts · 15k+ votes

4y

Just looking at it with my old Contractor's hat on.....I'd say you've got $20k electrical, $20k plumbing. The concrete issue is unclear - is the 3 inch displacement in the cement patio, the slab or the stem wall? The other issues are meh....

Anyway, you've bit off a big bite there. If you have the cash available to spend on this ($125,000?) then maybe go for it and wait for appreciation....? But you sound inexperienced in the - 'find a house in terrible shape, fix it up and make a killing' - type of business.

I think Joe is right...find another neighborhood where you can get some cash flow.....

OP

Member since 2021 · 44 posts · 8 votes

4y

@Bruce Woodruff thank you Bruce. The concrete is outside of the garage wrapping around to the back (where the AC is). I am familiar with fix-it-up. I didn't use GC for the remodel in my own house. With the current economy and how high the valuation is, I want to stay in a relatively good location, rent it out quickly without much upfront investment. It's just very hard to accomplish all three. IMO, doing fix-it-up is risky now. Buy at the highest point and dump $$$ to get it ready.

OP

Member since 2021 · 44 posts · 8 votes

4y

@Joe Villeneuve Hi Joe, I thought for SFH, people want to live in a neighborhood that is primarily owner occupied. If there are so many rental homes, isn't there more competitions, too? new investors have to charge a rent that gives them CF. Not if you bought the house 20 years ago.

Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

4y

Your first statement is a common mistake many REI make. Renters want to live where they can afford the rent in an area. Just because they "may" want to live there, doesn't mean they can afford to live there. More important, just because they want to live there doesn't mean it's a good area to invest in. High rents alone isn't what defines a good area to buy rentals in, just like low rents won't define an area as a bad one. REI's make money, and this alone is what decides good from bad areas/markets, based on the spreads between cash in and cash out. High rent areas can also means high expenses, which can translate to low cash flow.

IF there are no other rental properties, what do you base your rent on? You can charge a rent that gives you CF (and you must), but that doesn't mean the tenant will pay it. Most areas where there are few rentals means higher owners. Owners are more willing to pay more for owning a home, so the property values are greater. Sounds like a place to buy a rental, right? Wrong. All that means is the mortgage payment is higher, and the cash flow is less.

You buy rental properties for the CF. If you buy a low, or negative CF property as a rental, you are losing money exponentially...even if the house appreciates well. That equity gained from appreciation is losing you money, and is not a positive when it comes time to access it, through refi or sale. Refi the property, and the mortgage payment goes up...way up, and the CF goes down,...way down (negative likely). Selling it to a HO is next to impossible. They might pay the higher value, but not with a tenant in place. Another REI won't pay it because it won't CF for them.

What does "not if you bought the house 20 years ago" mean?

Dan H.Pro Member

Investor · Poway, CA · Member since 2015 · 7k+ posts · 8k+ votes

4y

I am not of the @Joe Villeneuve thought that a REI must have positive cash flow to be a good investment. You can research the metrics of an area and make educated forecasts that are likely to perform to your well researched conservative pro forma. Similarly, positive initial cash flow can turn to negative cash flow as it did in many areas in the Great Recession (Detroit, Las Vegas, many areas in Arizona). Final item is that there is not a good relationship between initial cash flow and long term cash flow. All 3 of the cities at the top of the case Shiller highest return list for this century (San Francisco, Los Angeles, San Diego) had poor initial cash flow in the 2000 and poor initial cash flow today. However, the cash flow on a property purchased in 2000 in any of those cities would be insane. I have 2 properties purchased around 2000 in San Diego. One is an STR but its rent to purchase ratio would be over 2% as an LTR and the other is an LTR and its rent to purchase ratio is almost exactly 2%. Not only do they have good rent to purchase ratio, but one has appreciated over $1M and the other over $2m. When purchased neither of these had good cash flow compared to other markets (and if purchased today they would have poor initial cash flow).

However, I think your property is not a good investment and this is my thinking: you indicate it is not a good deal (buying at retail value). It requires a lot of work/expense which I would not be averse to if the work were likely value adds. Replacing a thrashed kitchen or bathrooms could be a value adds. Opening up a floor plan could be a value add. Fixing cement issues, old wiring and old plumbing are not going to produce a return that matches the cost. They are necessary maintenance items. You would be better served by finding another property, even if it also was not a deal (paying retail), that the work needed was going to add a value greater than its cost (i.e. has a value add).

Investors should strive to pay less than retail. They should strive to get paid for work performed (i.e. work be a value add). This property does not meet either of these conditions.

Note you did not present a pro forma. Even if the conservative pro forma based on valid metrics projected significant rent increases, I would still pass on this property and look for one that you will not be doing huge amounts of work for negative value (meaning cost is greater than the value added).

Good luck

3 Reply

Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

4y

Quote from @Dan H.:

I am not of the @Joe Villeneuve thought that a REI must have positive cash flow to be a good investment. You can research the metrics of an area and make educated forecasts that are likely to perform to your well researched conservative pro forma. Similarly, positive initial cash flow can turn to negative cash flow as it did in many areas in the Great Recession (Detroit, Las Vegas, many areas in Arizona). Final item is that there is not a good relationship between initial cash flow and long term cash flow. All 3 of the cities at the top of the case Shiller highest return list for this century (San Francisco, Los Angeles, San Diego) had poor initial cash flow in the 2000 and poor initial cash flow today. However, the cash flow on a property purchased in 2000 in any of those cities would be insane. I have 2 properties purchased around 2000 in San Diego. One is an STR but its rent to purchase ratio would be over 2% as an LTR and the other is an LTR and its rent to purchase ratio is almost exactly 2%. Not only do they have good rent to purchase ratio, but one has appreciated over $1M and the other over $2m. When purchased neither of these had good cash flow compared to other markets (and if purchased today they would have poor initial cash flow).

However, I think your property is not a good investment and this is my thinking: you indicate it is not a good deal (buying at retail value). It requires a lot of work/expense which I would not be averse to if the work were likely value adds. Replacing a thrashed kitchen or bathrooms could be a value adds. Opening up a floor plan could be a value add. Fixing cement issues, old wiring and old plumbing are not going to produce a return that matches the cost. They are necessary maintenance items. You would be better served by finding another property, even if it also was not a deal (paying retail), that the work needed was going to add a value greater than its cost (i.e. has a value add).

Investors should strive to pay less than retail. They should strive to get paid for work performed (i.e. work be a value add). This property does not meet either of these conditions.

Note you did not present a pro forma. Even if the conservative pro forma based on valid metrics projected significant rent increases, I would still pass on this property and look for one that you will not be doing huge amounts of work for negative value (meaning cost is greater than the value added).

Good luck

If I held onto a property I bought in 2000, it would almost be paid off,...and I would have lost almost $1M.

If I have negative CF, not only does that cost me by adding to "my" cost of the property (since it's now my money that covers it), I also lost 5 times its face value (exponentially) in buying power.

Bruce WoodruffPro Member

Contractor/Investor/Consultant · San Diego / Phoenix · Member since 2021 · 12k+ posts · 15k+ votes

4y

Quote from @Joe Villeneuve:

If I have negative CF, not only does that cost me by adding to "my" cost of the property (since it's now my money that covers it), I also lost 5 times its face value (exponentially) in buying power.

Joe - I generally agree with you on all posts. You're a very wise man. However, shouldn't a person consider that:
a) This property you mention might have gone up in appraised/actual value far more than the million you might have lost in lack of cash flow?
b) As the years passed and the property/economy/neighborhood/whatever improved, this once negative cash flowing property may have turned into a positive flowing cash monster?

Yes, I realize that this is uber dependent upon choosing the right property, but if one is skilled at choosing the right neighborhoods, I think this is possible. I've seen it happen.

Having said this, I still agree with you on general principles :-)

Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

4y

Two problems with your 2 questions:

1 - The use of the word "may" tells me my answer is "no" to both.

2 - The loss is even greater if the property appreciated "far more than lost". You're missing the point about the value of current cash and/equity vs the buying power and future gains from that buying power. Cash flow of $5k a year is equal to $25k in property value if used as a DP. Negative CF of $5k a year is a loss of that same $25k in PV. That new property also has positive CF that can be reinvested and buy 5 times its face value, which means that new investment's CF, plus the existing one's CF, can be invested and buy 5 times its face value,...and that new...

It all means an exponential loss...not simply a negative CF loss of one property. REI's are always asking "how do I expand?", well this is one sure way to NOT expand...and lose money at the same time.

Let's not forget that all pf these new properties are adding, and increasing, the value of their equity by selling them and turning that equity into 5 times its face value. NCF, and equity build up are looked at and valued based on their face value by most REI. They are worth one h377 of a lot more when they are positive...and moving, than when they are negative, and standing still.

Einstein once said that compound interest was the greatest invention of the 20th century. What he said after that was more important. He said that those that understand it, will live off of those that don't.

Bruce WoodruffPro Member

Contractor/Investor/Consultant · San Diego / Phoenix · Member since 2021 · 12k+ posts · 15k+ votes

4y

I get your point(s). I think there are exceptions though where a smart and seasoned investor can find properties that they are sure will appreciate massively and turn the low cash flow into high cash flow in short order.

Note - I am not supporting negative cash flow, but I will consider a low cash-flower when I am positive that will change in the near future. And when I am also positive that the appreciation will be massive and rapid.

I bet you do way better than I do though :-)

Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

4y

I've seen a lot of "smart seasoned" investors lose their shirt/skirt by using "smart seasoned" guesses. Why, when you don't have to? Why take chances taken when the opportunity for quick/controlled financial gain is right in front of them?

Depending on future events, that you have no control over, isn't investing...it's speculating...and there's no need for it. Even if that huge future appreciation takes place, all that means is an even greater loss because the compounding factor is never utilized.

Brian Garlington

Realtor · Oakland, CA and a Real Estate Investor with Multi-Family Units and a Self Storage Facility · Member since 2016 · 2k+ posts · 2k+ votes

4y

Quote from @Anne W.:

**This is cross posted since more foot traffic here**

Hello BP,

I am here to soliciting your input and thank you! Looking for a 2nd rental. Inspection done today. I am on the fence.

- Location: Old neighborhood, up and coming. 6 houses to an elementary school ( 7/10 per Greatschool.org). Within a mile, there's a high school (6/10), sports field, community rec center, swimming pool, police station and fire station. Also with in a mile to major turnpikes.

- House: 50's brick ranch, builder grade everything. 3 bedroom, 3 bath but only one shower. There's a space for adding a shower.

- Inspection issues: 1) the cement on the side of the house and back patio. big crack, 3 inches lower than its original place. The settling force tilted the basement window well. to repour the cement and fix the grading, about $20K

2) original insulation(disgusting), original electrical (need various repair), original plumbing, sewer line needs work (clay and cast iron). New roof.

3) Finished basement. Lead paint is one basement bedroom. About 400 sqft basement ceiling has asbestos. The entire 1200 sqft basement floor has asbestos but encapsulated. Faux wood paneling in the entire basement and one room at the main level. Not sure what's behind the faux wood.

4) no dishwasher in the kitchen, no hook-up.

My concern: the market is crazy, we paid the market price for this one, not a deal. This is "as is", so can't negotiate price for inspection results. I don't think I have a deal, but I don't think I can get a deal in this market, either. The inspector is very familiar with the neighborhood and he said the overall condition of this one is 3.5/5.

What should I fix before I can rent it out? Is this property too high-maintenance for a rental?

You're trying to make a house have positive cashflow here in the Bay Area? It will not work. If you have a duplex deep in the hood it possibly could work, but most people are not willing to try that here in the Bay Area like I did.

Rick Albert

Real Estate Agent · Los Angeles, CA · Member since 2018 · 2k+ posts · 1k+ votes

4y

Quote from @Anne W.:

@Joe Villeneuve thank you for your feedback. I didn't consider old house maintenance eats up the CF. The house is in a primary owner-occupied neighborhood. I was thinking as long as I am breakeven on the CF, I probably will get appreciation given the population inflow and how expensive the surrounding towns are.

@Rick Albert The house is sold "as is", we can object inspection and walk away. I am not sure if I can negotiate the price down. the seller disclosed asbestos, lead paint and have testing reports. This is a mature neighborhood, 1950's. The inspector is local and he said old houses have these issues and this property is not too bad, he would rate 3.5/5. I hired him, not an agent referral.

My target areas have 50% appreciation since early 2020. It's very difficult to get positive CF. I know I probably should've looked at other towns, I just don't feel comfortable. My first rental was my house for 12 years. I guess my mindset has not shifted to a true investor's.

When did the Seller disclose it? After Acceptance? Your agent needs to be a shark and ask. If disclosed after Acceptance, then you say something like, "I wrote an offer based on certain assumptions, yet it was later disclosed and discovered X,Y,Z. I understand that this is an As-Is sale but my budget doesn't allow for this. I am humbly requesting $X. This is a reasonable request considering subsequent buyers might ask for the same or more once they review these reports and discloses." Provide a full contingency release pending accepting of this request (assuming you are in a position to do so). The legal definition of "As-Is" just means there is no warranty after the close of escrow. Everyone just uses it incorrectly. It is based on a 1988 case.

Greg ScottPro Member

Rental Property Investor · SE Michigan · Member since 2014 · 4k+ posts · 6k+ votes

4y

Quote from @Bruce Woodruff:

I get your point(s). I think there are exceptions though where a smart and seasoned investor can find properties that they are sure will appreciate massively and turn the low cash flow into high cash flow in short order.

Note - I am not supporting negative cash flow, but I will consider a low cash-flower when I am positive that will change in the near future. And when I am also positive that the appreciation will be massive and rapid.

I bet you do way better than I do though :-)

I lived in Los Angeles in the 90s. At the time many of the aerospace jobs were leaving for the Southeast. A market that had been appreciated tremendously, suddenly started contracting. Many people were hurt. Appreciation is not guaranteed or predictable. Cashflow as @Joe Villeneuve says, offers much more security.

3 Reply

OP

Member since 2021 · 44 posts · 8 votes

4y

Thank you all for providing your input. It really helps me see different perspectives. I have only one rental which was my primary residence for 10+ years.

Emphasis on CF, expense on behind-the-scene stuff (concrete repair, insulation, electrical, plumbing) not translating to rent, appreciation may be speculation, etc. I am going back to ask credits from sellers. If not, I will move on.

Rodney Sums

Laveen, AZ · Member since 2016 · 584 posts · 528 votes

4y

Quote from @Anne W.:

Thank you all for providing your input. It really helps me see different perspectives. I have only one rental which was my primary residence for 10+ years.

Emphasis on CF, expense on behind-the-scene stuff (concrete repair, insulation, electrical, plumbing) not translating to rent, appreciation may be speculation, etc. I am going back to ask credits from sellers. If not, I will move on.

Foundation issues, 400sq ft of asbestos plus more that you'll find out about after you buy it, I bet your drain lines are old breaking down cast iron, electrical etc, and they want you to buy it at market value which I assume to mean they want the same amount as a comparable in good condition? They can say as-is all they want. If you're in your inspection period, offer a counter for them to fix it or reduce cost. If they say no, they can go ahead and try to get market value from some other sucker and have to disclose everything you just found out.

Why buy and have such a slim cash flow on a property that needs so much work and will likely need ongoing maintenance?

Bruce WoodruffPro Member

Contractor/Investor/Consultant · San Diego / Phoenix · Member since 2021 · 12k+ posts · 15k+ votes

4y

Quote from @Joe Villeneuve:

I've seen a lot of "smart seasoned" investors lose their shirt/skirt by using "smart seasoned" guesses. Why, when you don't have to? Why take chances taken when the opportunity for quick/controlled financial gain is right in front of them?

Depending on future events, that you have no control over, isn't investing...it's speculating...and there's no need for it. Even if that huge future appreciation takes place, all that means is an even greater loss because the compounding factor is never utilized.

I completely agree. However my life path kept taking me to distressed properties in areas that were obviously about to 'Gentrify'.....just dumb luck....

Dan H.Pro Member

Investor · Poway, CA · Member since 2015 · 7k+ posts · 8k+ votes

4y

Quote from @Joe Villeneuve:

I've seen a lot of "smart seasoned" investors lose their shirt/skirt by using "smart seasoned" guesses. Why, when you don't have to? Why take chances taken when the opportunity for quick/controlled financial gain is right in front of them?

Depending on future events, that you have no control over, isn't investing...it's speculating...and there's no need for it. Even if that huge future appreciation takes place, all that means is an even greater loss because the compounding factor is never utilized.

I have seen this quote that depending on future events is not investing many times, but I have never seen a definition of investing from a legit source that does indicate some form of expectation of profit. Investing depending on future events is investing if there is an expectation of profit by definition.

It is little different than Robert K using his own definition of asset. I understand what he desires to show, but the home you live in is an asset by virtually any dictionary definition. I wish he would not redefine the word.

Historically there is a poor correlation between initial cash flow and the actual cash flow achieved over a long hold period. without doing research on future expectations, I would purchase the highest projecting cash flow property at purchase (projected initial cash flow). In most urban areas these are the class d properties or have some other high risk. Nationally, they are often from markets with declining populations and/or declining incomes (some Midwest markets). Even if you invest for cash flow, you should do research that provides some level of confidence on the future performance. Recognizing that occasionally there are items like the Great Recession that can impact your projections. Does this mean you are not investing? If you are expecting a profit you are investing by definition. If you are expecting a profit but have not researched your investment, a fool and his money are soon separated.

Most of my RE investments are value adds. I typically extract my investment via a refi. Poor positive cash flow with zero invested produces incredible ROI. however my approach is not passive. It is definitely a job during the process. It is not for all investors. I believe it can produce great returns, but I know it is not the only way to succeed in RE.

Your responses for initial cash flow being the only criteria that dictates the success of an RE is historically incorrect. The best return markets (using Case Shiller ranking) for this century had poor initial cash flow. But they ended up having great cash flow over the long term (great rent increase) and great appreciation.