Profits in High Tax Rate Cities

18 Replies

Can one make money with rental properties within a city that has a high property tax rate?

Yes, but you certainly need to take that into consideration for your current calculations and your future. One thing is a guarantee: those taxes are only going up, not down!

If not, no one would invest in Texas.  It can make finding cash flow a bit more challenging, but it can be done.

@Nathan G. I’ve bee analyzing properties here and there around the city and have very little to zero cash flow. The way I see it, in order for me to have a larger cash flow is to maybe make a bigger down payment. Any suggestions?

@Kris L. Thanks for the reply. I hear you loud and clear though. It seems the best way to make profits is through flipping. I haven’t invested in anything yet, but that seems to be the route here. What would you recommend?

I am in a high taxed city in a high taxed state... I make out alright.

@Patrick M. Thanks for the reply. Maybe I just need more experience and knowledge to get comfortable with what’s a good or bad deal in my area. Time to get into them books I guess.

@Phil Begay if you buy a home for cash and it rents for $1000 a month, then you could claim to have really good cash flow, but that's how you should do it.

When people talk about cash flow, they're typically talking about the minimum 20% down. You rent it for $XXXX. You deduct any known expenses (mortgage principal, interest, taxes, insurance, utilities) and then any unknown/projected expenses (vacancy, regular maintenance, capital expenditures, and property management). What's left over is your cash flow.

Example:

House is $150,000 so you buy it with $30,000 down. It rents for $1,200 a month.

You deduct your mortgage payment, taxes, and insurance. Tenant pays all utilities and there's no HOA fee.

Then you deduct projected expenses. This is money you set aside to use in case the expense arises. You can generally expect to pay 10% of the rent income towards ordinary maintenance, 10% for vacancies, 10% for capital expenditures (roof, flooring, etc.), and 10% for property management in case you aren't able to manage yourself.

Once all that is taken care of, your leftover money is your cash flow. Some people won't buy anything unless it produces $200 a month cash flow. It depends on your tolerance level.

10% for each expense category is a rule of thumb that you need to adjust based on your market and personal experience. For example, in my market a 5% rule is pretty safe for vacancy.

These are very general numbers and I'm probably missing something but I hope this helps. Biggerpockets has a ton of videos that walk you step-by-step on how to evaluate property and why all these numbers are important. It's worth watching a few of them and then practicing.

Originally posted by @Patrick M. :

I am in a high taxed city in a high taxed state... I make out alright.

Same. Generally, high rents go along with high taxes. High taxes and low rents is not a sustainable situation.

Originally posted by @Nathan G.:

if you buy a home for cash and it rents for $1000 a month, then you could claim to have really good cash flow, but that's how you should do it.When people talk about cash flow, they're typically talking about the minimum 20% down. You rent it for $XXXX. You deduct any known expenses (mortgage principal, interest, taxes, insurance, utilities) and then any unknown/projected expenses (vacancy, regular maintenance, capital expenditures, and property management). What's left over is your cash flow.

Nathan, don't you think it might best to never talk about cashflow on BP in dollars at all, ever, only cash on cash returns?  There's too many variables to talking about cashflow that make it meaningless and merely symbolic. As has been said here many times, one can maximize cashflow by paying cash, but that's usually a poor plan.

@Phil Begay Take it from an NJ investor, yes you can. The higher rents we receive have the higher property taxes baked in. I always say that I don’t pay my property taxes, my tenants do. That being said if you do buy something make sure your property taxes don’t get reassessed upon sale or improvement of the property. For example if the property is assessed at 50k and you pay 100k a lot of municipalities will swoop in and double your taxes as soon as the deed is recorded. Also if you make improvements that add significant value and the township knows about it through inspection they may change your assessment as well. Had that happen right before a closing on a house I was flipping and the buyer was on the hook for higher taxes going forward. I disclosed the letter I received about that before closing so at that point it wasn’t my problem anymore.

Originally posted by @Johann Jells :
Originally posted by @Nathan G.:

if you buy a home for cash and it rents for $1000 a month, then you could claim to have really good cash flow, but that's how you should do it.When people talk about cash flow, they're typically talking about the minimum 20% down. You rent it for $XXXX. You deduct any known expenses (mortgage principal, interest, taxes, insurance, utilities) and then any unknown/projected expenses (vacancy, regular maintenance, capital expenditures, and property management). What's left over is your cash flow.

Nathan, don't you think it might best to never talk about cashflow on BP in dollars at all, ever, only cash on cash returns?  There's too many variables to talking about cashflow that make it meaningless and merely symbolic. As has been said here many times, one can maximize cashflow by paying cash, but that's usually a poor plan.

everyone has a different metric to talk about. GRM, Cap rate, IRR, Equity multiple; etc etc.

COC is just a function of debt.

The best metric IMO, that takes in the full picture, is a MIRR. Now most people dont know that on small properties, but it's a more accurate picture. But than again most people screw up their assumptions on an IRR and skew their numbers either too positively or negatively.

OP, yes you can make money in high tax areas. You make your money on rent growth. NYC has taxes of 20-25% of EGI usually. People are still making money. 

Originally posted by @Syed H. :
COC is just a function of debt. 

Can you explain that? Seems to me cashflow is the function of debt, while CoC is a simple snapshot of your monthly return on cash Investment, that ignores appreciation and debt issues.

All these metrics depend on info. Something like GRM is very useful when you know little about a property you're sizing up. Hard to do a full IRR at that stage.

Originally posted by @Allan Szlafrok :

For example if the property is assessed at 50k and you pay 100k a lot of municipalities will swoop in and double your taxes as soon as the deed is recorded.

Good luck figuring out that in NJ!!! Because most cities revalue on a schedule rather than a "rolling reval" like you describe, the assessment on the tax record can have no obvious relation to FMV. Until the recent reval here, properties were assessed at less than 1/4 FMV., and the official tax rate was over 7%! Confuses the hell out of less knowledgeable property owners, many who should have appealed didn't because it "looked" like they were under assessed. It's a nasty bit of business.

Originally posted by @Johann Jells :
Originally posted by @Syed H.:
COC is just a function of debt. 

Can you explain that? Seems to me cashflow is the function of debt, while CoC is a simple snapshot of your monthly return on cash Investment, that ignores appreciation and debt issues.

All these metrics depend on info. Something like GRM is very useful when you know little about a property you're sizing up. Hard to do a full IRR at that stage.

By definition COC is a function of debt. Higher your leverage, higher your COC (if you have positive leverage). Higher COC sounds great, but if it's at 95% financing, is that a good thing? It is just too simplistic. Even if we want to take appreciation out of the equation that's fine, but your debt will be paid down as well. Financing is also partially a reflection of the sponsor. A new buyer with limited experience might have a higher rate initially for investment property. So it's hard to compare COC or even cash flow per door.

Don't get me wrong, I look at a COC as well. But an IRR is pretty simple to make. You should already have a cash flow proforma built for your stabilized year. Just grow your expenses and revenue using conservative numbers and project out 6 years. After you have your cash flow proforma it takes another 5-10 mins to do it roughly.

@Johann Jells Yeah I own property in JC that reval was pretty crazy stuff. That’s why I always appeal my taxes if I think I have a case. I usually win too.

I appreciate everyone's input to my discussion thread. I have learned a lot in the process of reading you all's comments. I guess I just need to do a lot of homework and get some experience under my belt.

From your experience, what is a good ROI? Is it even worth trying to get property with a low ROI?

@Phil Begay There's no doubt about it! If no one can make money in high tax rate cities, how can the business survive there? It only depends how you manage your business. Think carefully before you jump into the region. 

@Rachel Foster The more I research I do through reading comments, blogs, podcasts and YouTubing the better I’m understanding. I understand now that rental properties will give you residual income monthly, but will build equity over time as your renters pay your mortgage. I think I was expecting a larger cash flow and thought my analysis of the property wrong. Thanks for you input.

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