A tale of two Properties. Which is better investment?

Question

I know there are many factors that determine "a good deal".  Recently came across two very different San Diego properties.  And as a noobie, wasn't clear which is a better choice. Was wondering what everyone though of them.  Which would you pick to invest in?

Property #1- 2Bed 1 Bath good neighborhood.
- Condo in decent neighborhood
- Schools rated 9 & 10
- Popular area for families
- Comparable houses in area are 3-4x the cost
- Cash flow is close to 0
- Price and rent will steadily go up with time. So will start to cash flow steadily each year.
- Built in 1980's some minor repairs. But looks solid.

Property #2 - Duplex (2bed 1 bath each)
- Duplex in a poor area, next to small airport
- Schools are decent, but not stellar
- Instant cash flow of about $400 a month.
- Zillow trend shows appreciation close to inflation, very slow.
- Built in 1960's, so might be hidden repairs.

Dan H. · Answer

Are these in San Diego?  Did you use the 50% rule to double check cash flow projections?  I am skeptical of both cash flow projections if in San Diego and skeptical of the prop 2 appreciation (it would have to be long term positive) if it is in San Diego.

Condos have an additional risk that the HOA in some way limits rentals.  There is a certain control that is reduced for condos.  In addition, when purchasing a condo it is important to verify cap ex reserves.  If they do not have any you are likely buying into a complex that is expecting to provide their owners supplemental bills for all large cap ex charges (I know someone who recently got one to replace all the windows in the complex).

In general, I will take appreciation over initial cash flow for any long term hold.  So if prop 1 was not a condo, it would be my clear choice.

Good luck

Dan H. · Answer

I live in Poway.  It is a good school district and should have good appreciation.  However, unless you are purchasing way below retail, it will be big cash flow negative at purchase.  I assume you are aware of the school bond issue.  I have no idea what the increased property tax will do to the property values, but I suspect it will be a minor impact.  PUSD got ~$100M of funds for a cost of ~$1B.  Some of this outrageous cost was poor negotiation but a lot of it is because they pushed the repayment far into the future (so you will be paying for this bond if you hold long term).  No equity paydown of the bond for many years will raise the cost of the money.  I would grade even the worse areas in Poway as B and the nicest A.  Many professional athletes make Poway their home.  Quite a few gated communities.

Santee has had better appreciation than you indicated.  It will have better initial cash flow and possibly always have better cash flow than Poway but I suspect it will take more effort to manage than the Poway property.  Santee is more of a working class area.  I would grade it one full grade below Poway (best areas B, worse C).  Certainly it is not a bad area, but it is not Poway (I do not think top athletes are making their forever home there).  I suspect there to be a lot more rentals in Santee than Poway and therefore less demand for any one rental.

No later than the end of your due diligence time you need to find our quite a bit about the condo rules and finances.  Do they allow an unlimited number of rentals?  do they allow STRs?  What is their cap expense reserve?  What is included in your HOA fees?  How do they handle tenant scofflaws (less of an issue in higher class RE such as Poway)?  Basically you need to find out anything that can affect your future return.  Poway does not have many condos.  Condos should be the cheapest rentals in the city of Poway.  So I suspect it will typically be easy to get well qualified tenants.  The seller may have copy of CCR and latest audit but verify the info if the seller is the source.

Good luck

Martin Lim · Answer

@Dan Heuschele Yes these props are in San Diego.  And yes, prop1 is a condo.  You bring up good points about HOA risks.  Didn’t think to check.  How can this be found ahead of purchase or check it during escrow as CC&R are sent?Ive been reading about 50%, 1% and 2% rules.  I will def run the numbers.

Prop1 is in the Poway school district so hoping that will drive appreciation.

Prop2 is in santee, so less likely to appreciate as much