Is it always wrong to buy a newer house at retail?

21 Replies

Hello Bigger Pockets, First Post! Thanks for such a wonderful resource!

Question: Is buying a house at retail really that undesirable?

I’m speaking in the context of buying a house for long term rental income, not flipping.

Pretty much every book / resource I’ve read up to this point (12+ books or so) have stressed the importance of buying below retail. Many authors insist one should buy a fixer-upper house, fix it up, and rent it out. I can see how this would make sense for someone who makes a living on real estate, but I am not seeing how this would apply to my situation.

For example, let’s take a tenant-ready house worth $120,000 that rents for $1,200 a month. Suppose instead, I buy the house for $90,000, fix it up for $10,000, and rent it for $1,200. Great, now my annual cash on cash is 14.4% instead of 12%. I saved myself $20,000. Great.

Now here is the problem. I’ve never worked with contractors before, so there is a near-certain chance that I would overspend on the repairs / underestimate the cost. One could say that should have been more aggressive in shopping and tried to buy a $120,000 house at $100,000 (e.g. by flyering or something).

But here-in is the problem. I don’t have the time (or desire) to shop around like that. In my situation, if $20,000 was plunked into my lap, my life would not change very much to be honest. The time I would spend trying to save that $20,000 is quite likely better spent in a consulting side-job that would recover the difference in about 100 hours, for a lot less risk. My thought is that there are thousands of real estate investors who are way better than me at buying below market, so why compete with them at their game? I’d rather spend the time in my area of expertise (software) where I can earn more money per time spent with far less risk.

I’m not trying to make a living off of real estate – it’s more to park cash in a tax-efficient vehicle and remove the temptation to spend it on luxury items (let's be honest, I'm not as frugal as many of you ;-) ). Obviously, I want returns at least as good as the stock market, but I’m not trying to hit home-runs. If I combine the 1% rule with the 50% rule, I get 6% returns per year on an asset that usually at least keeps up with inflation and has a lot less volatility than traditional equity. Those returns are not good if real estate is the primary source of income, but I personally can be happy with returns like that.

I’ve used a turnkey company before. Let’s just say that did not go well and I sold the house back to the turnkey. This time around, I want to do it myself. I’m okay with spending time finding a manager and doing the random tasks that turnkey companies overcharge for, but I don’t want to spend dozens of hours trying to buy below retail.

Basically, I want to pick a new-ish construction house off of the MLS, negotiate to roughly retail price, do the due diligence, get a managing company, and get on with my life. I'm leaning towards a newer house because I don't want to deal with big-ticket repairs right off the bat.

Has anyone been in my situation and can provide an opinion? Thank you so much!

Originally posted by @Jeffrey Scholz :

Hello Bigger Pockets, First Post! Thanks for such a wonderful resource!

Question: Is buying a house at retail really that undesirable?

I’m speaking in the context of buying a house for long term rental income, not flipping.

Pretty much every book / resource I’ve read up to this point (12+ books or so) have stressed the importance of buying below retail. Many authors insist one should buy a fixer-upper house, fix it up, and rent it out. I can see how this would make sense for someone who makes a living on real estate, but I am not seeing how this would apply to my situation.

For example, let’s take a tenant-ready house worth $120,000 that rents for $1,200 a month. Suppose instead, I buy the house for $90,000, fix it up for $10,000, and rent it for $1,200. Great, now my annual cash on cash is 14.4% instead of 12%. I saved myself $20,000. Great.

Now here is the problem. I’ve never worked with contractors before, so there is a near-certain chance that I would overspend on the repairs / underestimate the cost. One could say that should have been more aggressive in shopping and tried to buy a $120,000 house at $100,000 (e.g. by flyering or something).

But here-in is the problem. I don’t have the time (or desire) to shop around like that. In my situation, if $20,000 was plunked into my lap, my life would not change very much to be honest. The time I would spend trying to save that $20,000 is quite likely better spent in a consulting side-job that would recover the difference in about 100 hours, for a lot less risk. My thought is that there are thousands of real estate investors who are way better than me at buying below market, so why compete with them at their game? I’d rather spend the time in my area of expertise (software) where I can earn more money per time spent with far less risk.

I’m not trying to make a living off of real estate – it’s more to park cash in a tax-efficient vehicle and remove the temptation to spend it on luxury items (let's be honest, I'm not as frugal as many of you ;-) ). Obviously, I want returns at least as good as the stock market, but I’m not trying to hit home-runs. If I combine the 1% rule with the 50% rule, I get 6% returns per year on an asset that usually at least keeps up with inflation and has a lot less volatility than traditional equity. Those returns are not good if real estate is the primary source of income, but I personally can be happy with returns like that.

I’ve used a turnkey company before. Let’s just say that did not go well and I sold the house back to the turnkey. This time around, I want to do it myself. I’m okay with spending time finding a manager and doing the random tasks that turnkey companies overcharge for, but I don’t want to spend dozens of hours trying to buy below retail.

Basically, I want to pick a new-ish construction house off of the MLS, negotiate to roughly retail price, do the due diligence, get a managing company, and get on with my life. I'm leaning towards a newer house because I don't want to deal with big-ticket repairs right off the bat.

Has anyone been in my situation and can provide an opinion? Thank you so much!

 All this junk about buying stuff under it's actual value is honestly laughable. If something is worth $1 obviously it's better to get it at $.80 but is that really feasible? Ask yourself who is touting that stuff. Is it guys who are selling books or seminars? Things are worth what they are worth because they are worth it. 

Buying Real Estate as a means to generate wealth is a proven business. Time has told us that one will make money owning Real Estate. Odds are good that if you aren't willing to pay what something is worth you won't be buying any property. So ask yourself. If owning Real Estate makes money and you don't own any because you aren't willing to pay the entry price are you helping or hurting yourself?

if people did not buy new or newer homes at retail you would have No construction industry. 

AS Jim points out value Is subjective.. and regional.

in some markets properties on MLS sell for 99% of list or over list .

in other markets you will see properties starting at one price point and be lowered and lowered and end up selling 20% back of where they started.. IE markets with more homes that peeps.

@Jeffrey Scholz Those 12+ books are trying to teach you how to not lose money. If you want to ignore that advice that's up to you. Now is NOT the time to buy property at retail, the entire global market is hitting another peak, the US in particular is heading straight for another collapse of another bubble.

Originally posted by @Doug Pretorius :

@Jeffrey Scholz Those 12+ books are trying to teach you how to not lose money. If you want to ignore that advice that's up to you. Now is NOT the time to buy property at retail, the entire global market is hitting another peak, the US in particular is heading straight for another collapse of another bubble.

 Doug any catalyst in your mind for a US market bubble pop.. what are you thinking and why do you think other than the full recovery is just about on us..  can the markets not make knew high??  or do you think that 07 was the highest real estate will ever go.

Sure did not play out that way in CA..  Geesh my last fishing trip to BC  and prices since 2001 in Kelowna  Triple to quadrupled.. 

I mean I really don't know the answer.. but there are still a lot of markets were homes have been receding in value since the 80s and 90s  think Rural NY  Rural PA   Detroit  etc etc.. maybe they are just getting back to stability and ready to make brand new highs.

I really have a hard time though comprehending the Silicon valley and the 2 million dollar 1000 Sq ft 60 YO rancher though  :)  

Buying new construction below value is not likely. Buying used homes under value is how good investors make money. I just purchased one two weeks ago over 30K under value. I made money. After rehab there is a 40K+ profit if i want to sell now. But as a buy and hold investor, i will take annual income over a fast buck.

Does it cash flow? Then, according to BP podcasts, does it matter if you paid below asking, at asking, or above asking? Does it cash flow? Just make sure you do the whole math to determine if it cash flows. Don't leave out hiring a manager (I assume 10% even though I self manage right now) or capex in order to make it cash flow. Even new houses will eventually need new HVAC, roof, etc. 

@Jay Hinrichs Stock market is up nearly 40% from its previous high in 2016, and up 250% from its previous low in 2009. House prices are up 16% from the high of Q1 2007. While income is almost unchanged. And subprime lending is making a come back.

I don't believe you can achieve sustainable price increases with near-zero income growth. It's far more likely that idiotic lending practices is what's driving appreciation. The situation on the ground in places like like rust belt is probably a far more accurate indication of the real health of the US economy.

Originally posted by @Jeffrey Scholz :

My thought is that there are thousands of real estate investors who are way better than me at buying below market, so why compete with them at their game? I’d rather spend the time in my area of expertise (software) where I can earn more money per time spent with far less risk.

I'm going to comment on your question from a different angle, not as a recommendation, but as food for thought.

As you spend time on the BiggerPockets forums, you'll learn that hands-on real estate when done correctly is a full time job requiring highly specialized knowledge. Just as anyone can learn to code (as I did in high school in the 1960s writing Fortran II programs on punch cards for an IBM model 1401 computer), anyone can learn how to buy the house next door and fill it with tenants who pay for it for you with their rent payments over the next 30 years. But will it be the most effective use of your time?

In my case, I took a page out of Silicon Valley's playbook and kept my "core competency" in house (technical writing) and outsourced the other aspects of running a business to a boutique temporary help agency (marketing, accounts receivable). I knew I received only 80 cents of every dollar the client paid the agency, but some of that profit went to pay the employer's share of the FICA tax (which I would otherwise have to pay as the self-employment tax). I used my spare time to study the many different ways to invest, from publicly-traded securities to direct real estate to private equity (angel investing).

One of the opportunities I discovered was real estate investment trusts through Ralph Block's Investing in REITs book and the National Association of REITs site. I started buying REITs in the early 2000s when the typical yield was 6% (it's less than half that now). I wanted to build my passive income stream. I looked at direct real estate, but the NINJA loan craze of that era scared me away. With public investments, the SEC is looking at financial statements reported under penalty of perjury (which is why executives from scam companies such as Enron and Worldcom were sent to prison), while the promoters of private investment scams don't receive as much government attention and require defrauded investors to file the lawsuits.

But with the greater potential risk of private investments comes the greater potential reward. It's a "return on effort" tradeoff. Crowdfund real estate provides something of a compromise because the Reg CF and Reg A+ offerings have made an attempt to screen out the bad actors. But investors are on their own in terms of bad actor screening with the Reg D (506c) offerings (Reg D 506c investors have to be accredited, which suggests they know how to fend for themselves).

If you're bored with tech and believe real estate is your passion, however, then it makes sense to figure out how to phase out of tech and into real estate in a manner that disrupts your income stream as little as possible. I know others have made this transition successfully. I'm just not one of them. Instead, I retired and have no desire to take on the full-time job of being a landlord or take on the potential risk of an unregulated private investment (although I don't mind toe-dipping in crowdfund offerings because the amount of money I can lose is only a small percentage of my net worth).

Buffet buys great businesses at a fair price. If you buy a great location at a fair price you will likely do just fine long term. But there are a lot of variables to consider. Buffet buys management. You need good, actually stellar management or buy local and self manage. You need a reserve fund. And you need to recognize that many markets may be over valued at this time, so if you choose to not risk waiting in case prices and rates climb, you risk prices reverting to the historic mean in the nearish future..no biggie if you dont sell...and rents following prices down. Investors buy brand new homes in brand new subdivisions all the time. I don’t know how that works out for them or even what their goals are. If an Inflation hedge, diversification from stocks and a degree of control are what they are after then they likely are content. If trying to match the sp 500 returns, maybe not so much. No one can predict the future and you need to decide your goals and risk tolerance. If I were buying new, I would consider large golf course community, a new multi-use community, or near higher ed or mass transit. And 1 story, small yard hopefully with greenbelt/view. But I am almost a hobby investor so worth price paid. I read a long time ago that buying near a new mall is a way to profit off of big developers’ research.

Wrong? Not at all... in fact it was our whole business model during the last construction craze. We bought 6 new builder closeouts in family friendly areas, under warranty, and rented them for a decade on 15 year fixed notes. Financing was easy because the builders will bend over backwards to finance you if you are a solid buyer with good credit. Find good tenants and structure your lease properly and they'll never call you, they'll never need to because everything is brand new. We sold our whole portfolio after 10 years and are now investing in multifamily.

As long as your numbers work it's a perfectly reasonable strategy.

If you are buying a property under market you are likely either (a) lucky (not a sustainable model; (b) exploiting someone (not a sustainable model) or (c) in for a big surprise in terms of what you thought you were buying (not a sustainable model).  In the end, stop worrying about that as such things are only for selling books and seminars and low end coaching BS.  There are right ways and wrong ways to buy real estate.  If you think the market is at risk, fine then employ another approach.  Unless you think the entire world is going to collapse in which case you may want to spend your disposable income on canned goods and an underground bunker (what?  It’s real estate right?).  I have no problem with turn keys or near market purchases for long term holds.  Given enough time, you will be fine.  You can drive yourself crazy with the conflicting opinions.  What you need is a plan tailored to your goals not someone else’s.  The fact that you have the clarity that you do puts you ahead of most of the “investors” out there...good luck 

@Jeffrey Scholz

Every rehab is not a total gut job. Many homes are undervalued because they are dated, but 100% functional.

Buying an undervalued home for me is buying a home for $65,000 and putting $10,000 worth of paint and carpet and other inexpensive updates.

This is one of the reasons I love real estate from an investment standpoint . If you are doing buy and hold ..even if you bought it wrong you can still turn it into a good investment if you keep it long enough . It’s forgiving . Even a newbie will eventually make money if you maintain it and keep it

Everyone has their own investment strategy. Personally, I don't like paying retail, I don't and never have...even on my homestead properties. I know it's worked out for some but I've also seen people get spanked by paying retail and hoping for appreciation. Saw a ton of CA investors lose it all because they bought in Texas and thought they'd see the appreciation that CA saw 10 years ago...they found out otherwise. If you're comfortable paying retail, then do it. 

There are lots of investors that go ‘turnkey’. The property is rental-ready when they buy it, and many times, includes (you pay for) an PM to manage it all for you!

If that’s your niche and where you want to be - do it!

You still need to do your due diligence to be sure the new or renovated house is up to snuff. But as long as it’s cash flowing, keep making that money! Over time, your tenants will pay down the mortgage and you’ll have a lot of equity to either cash out for retirement, or buy another house.

Do it! :)

Originally posted by @Mike McCarthy :

There are lots of investors that go ‘turnkey’. The property is rental-ready when they buy it, and many times, includes (you pay for) an PM to manage it all for you!

If that’s your niche and where you want to be - do it!

You still need to do your due diligence to be sure the new or renovated house is up to snuff. But as long as it’s cash flowing, keep making that money! Over time, your tenants will pay down the mortgage and you’ll have a lot of equity to either cash out for retirement, or buy another house.

Do it! :)

 Good point.

Important to note with the good ole' turnkey or not to turnkey route is that turnkey is a SERVICE more so then a PRODUCT. What you are paying for is someone else to do the work. It will be more expensive because you're paying someone to do what you don't want to or cannot do. Same reason the steak costs more at the 5 star restaurant than it does at the grocery store. You ain't cookin' it!

No it’s not always bad to pay retail for a house. But if you do that 1) make sure the numbers work and 2) make sure it’s a new house. You don’t want to pay retail for a house that is old or has a bunch of deferred maintenance.

Over the long run (20 plus years) its really hard not to make money in real estate. Even if I buy at retail today, it’ll likely appreciate with the cost of inflation at a minimum.

My tenant will pay down my mortgage. And so on. If you want more instant return and wealth then you typically need to do some major rehabs.

I don’t really want to do that yet personally so I’m more focused on just getting “base hit deals”. Cash flow 200 or so a month per property, IRR around 15 percent and CoC around 10. Nothing fancy, nothing spectacular but since I’m young and if I do that 20 times, it’ll add up in 10 years.

Even in baseball 3 basehits in a row usually get you a run, imagine 20 in a row

Originally posted by @Jeffrey Scholz :

Hello Bigger Pockets, First Post! Thanks for such a wonderful resource!

Question: Is buying a house at retail really that undesirable?

I’m speaking in the context of buying a house for long term rental income, not flipping.

Pretty much every book / resource I’ve read up to this point (12+ books or so) have stressed the importance of buying below retail. Many authors insist one should buy a fixer-upper house, fix it up, and rent it out. I can see how this would make sense for someone who makes a living on real estate, but I am not seeing how this would apply to my situation.

For example, let’s take a tenant-ready house worth $120,000 that rents for $1,200 a month. Suppose instead, I buy the house for $90,000, fix it up for $10,000, and rent it for $1,200. Great, now my annual cash on cash is 14.4% instead of 12%. I saved myself $20,000. Great.

Now here is the problem. I’ve never worked with contractors before, so there is a near-certain chance that I would overspend on the repairs / underestimate the cost. One could say that should have been more aggressive in shopping and tried to buy a $120,000 house at $100,000 (e.g. by flyering or something).

But here-in is the problem. I don’t have the time (or desire) to shop around like that. In my situation, if $20,000 was plunked into my lap, my life would not change very much to be honest. The time I would spend trying to save that $20,000 is quite likely better spent in a consulting side-job that would recover the difference in about 100 hours, for a lot less risk. My thought is that there are thousands of real estate investors who are way better than me at buying below market, so why compete with them at their game? I’d rather spend the time in my area of expertise (software) where I can earn more money per time spent with far less risk.

I’m not trying to make a living off of real estate – it’s more to park cash in a tax-efficient vehicle and remove the temptation to spend it on luxury items (let's be honest, I'm not as frugal as many of you ;-) ). Obviously, I want returns at least as good as the stock market, but I’m not trying to hit home-runs. If I combine the 1% rule with the 50% rule, I get 6% returns per year on an asset that usually at least keeps up with inflation and has a lot less volatility than traditional equity. Those returns are not good if real estate is the primary source of income, but I personally can be happy with returns like that.

I’ve used a turnkey company before. Let’s just say that did not go well and I sold the house back to the turnkey. This time around, I want to do it myself. I’m okay with spending time finding a manager and doing the random tasks that turnkey companies overcharge for, but I don’t want to spend dozens of hours trying to buy below retail.

Basically, I want to pick a new-ish construction house off of the MLS, negotiate to roughly retail price, do the due diligence, get a managing company, and get on with my life. I'm leaning towards a newer house because I don't want to deal with big-ticket repairs right off the bat.

Has anyone been in my situation and can provide an opinion? Thank you so much!

Jeffrey - 

Even though I own a large real estate company, I am really a passive investor.   Unless I am doing a renovation for sale, I have very little input and contact once I set a project.  I have been buying in one particular suburb of Memphis and paying full list price and often above list price for the properties.  I have also been doing updated renovations to all of the properties as if I was going to sell them immediately and then holding them for rent.

I am attracting rents sometimes 20% higher than other properties near by and renting properties without signage in the yards and often within a few days after one or two showings.  I rent everything on 2-year contracts.

The point of listing all of that is that the school district is in high demand.  The homes are not brand new-builds, but are between 10 and 30 years old.  Their are multiple bids on the properties and often from owner-occupants.  So, the houses and area are in high-demand.

I could not care less about what happens next in the economy as it pertains to my personal portfolio.  These are the safest bets I have made and I am an investor who had his *** completely handed to him in 2007-2009.  The properties are owned at or even above current market value according to a 3rd party appraiser after I am through with my renovations.  Of course, I am renting above normal rental rates, for long-term leases and rarely am looking for a rent payment after the 3rd of the month.  These properties will hold value in a downturn, demand will remain even if rents need to come down.  

Every dollar I make in rent above the PITI is put towards reducing principle so I have them scheduled to be paid off somewhere between 8 and 11 years after purchase.

Without a doubt, these are the best properties in my portfolio.  They are great assets, in great locations, with high-demand in a stable area.  I may be ahead of the market by renovating my rentals so nice, but eventually the rest of the market will catch up and by that time I will have already paid my investment down.

I am a big fan of investing from an informed standpoint.  So, IF you have done your homework and developed your investment plan and IF the properties fit your investment plan and criteria, then move forward.

Buying at retail is fine if you plan on keeping it for a long time.  I think buying it at a discount just offers more exit strategies.  Say you found a better opportunity and you want to sell your rental.  The full price property may lose you money where as the discounted may allow you to exit with a profit. 

I'm also in the software industry and can also consult (insert x hours) to make up the difference in cost between buying new and buying used.  However for me personally I think most of the fun is finding the deal and figuring out how to structure win win win win win situations.  

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