Experiences? How much to renovate in a changing neighborhood?

Question

Has anyone ever been in this situation? I'm renovating a triplex I just acquired, in a neighborhood which is currently going through transition from low income to high income.  The problem is it has been a low income neighborhood for a long time, and the transition has started but it will take a few years for the neighborhood to look nicer. I'm not sure how nicely to renovate. I have to renovate completely either way, as the place was a complete gut. I have to renovate the kitchens, but I have options, like to salvage the existing cabinets, which are older. The kitchens have to be renovated either way. Do I spend on new cabinets? Not very far away, about 6 blocks away, a traditionally trendy high income neighborhood delineated by a main street, has become overpriced, so many buyers and investors have decided to start buying in this neighborhood, which is equally close to everything.  While high priced homes have already started being built and purchased in the neighborhood, at the same time, there are several drunks who walk past my triplex several times a day, and usually ask anyone they can for money. While I have sort of gotten used to it, I doubt prospective higher income tenants are going to like this aspect of the neighborhood, drunks walking up to them and asking for money for a meal. I want to attract professionals who wants to live near downtown, and this place is literally under 5 minutes to anywhere downtown, and also about 10-15 minutes to the university. There is also a medical school moving to downtown. I see a lot of opportunity to rent to young professional renters. These are all 2/1 units, between 650-875 SF each. I can put in privacy fence to make it nicer and also to give some relief from the random inquiring local drunk brigade.  However, I'm still not sure if that is enough, and I'm worried if I renovate with nicer materials with that professional as my target market, which is my current plan, that I might find the neighborhood in transition will keep higher end tenants from renting. What can I do to make this situation better? And is it still smarter to use the nicer materials and go ahead and make the kitchens a bit nicer with new cabinets rather than salvaging the existing cabinets? Any suggestions appreciated.

Jon S. · Answer

That's what I needed to hear, "Kitchens and Bathrooms sell houses and rent homes." That is the philosophy I followed on my first buy and hold 4 months ago, I did nice kitchen and bathroom renovations, it turned out well, and as a result I got an excellent renter who moved in on Monday, and will probably be in the home for several years. On this 2nd property, I was just a little uncertain whether I was putting too much in, but I'm feeling reassured by that statement.

I purchased porcelain tile throughout all 3 units, at $1.78/SF (just the cost of the tile) as I figured that would hold up better than laminate, but I definitely would have saved some on laminate.  The tile floors will start being installed this week.

I'm going to see tomorrow if I can use steel wool to salvage some solid wood oak cabinets that are not in bad condition. If I can save them, then I will put on new counter tops. If I can't then I will buy new.

Again, thanks for your comments.

Karen Margrave · Answer

@Jon S. It's tough for anyone that doesn't know the specific area to give you advice on that. The question is, what is the difference in price going to be? New paint does wonders. Kitchens and bathrooms sell houses and rent homes. If you can't afford new cabinets, check into refacing the ones you have if the cabinets are in good condition, otherwise, replace them. Laminate on floors is always a good choice, and pretty inexpensive. New light fixtures, etc. Now is a great time to hit online sales!

Jon S. · Answer

Thank you Manola, I'll start reversing the formula to solve for renovation costs.

Jon S. · Answer

Thank you Elizabeth, good advice all the way around. I really appreciate the strategy that by making it a bit nicer the tenants will get a nicer place simply for dealing with a little unpleasantry. That will be the offset benefit, thanks. I already purchased the tile so on this one it is going to be the expensive tiles, but i can try to save cabinets. I am meeting with a kitchen cabinet guy today to figure out what i can save and what i need to buy; i'm going to try to buy as little as possible on the cabinets.

Elizabeth Colegrove · Answer

Can you go for lip stick on "pig" nice? I redid a kitchen for $100 simply by repainting the existing cabinets. If I had the money I would put a nice/cheap backsplash on the wall and a nice counter and cheap but nice tiles. We recently did a bathroom super nice but used the "cheaper" materials. Ie there were some that were 65 cents versus $2. By going with materials that were the right price and making the color worked we got a great bathroom for $2,000 and less.

I would say that if you do the place nice, that you will probably get more tenants to take the chance because they get a similar house as nice or nicer simply for dealing with a little of the "unpleasantry".

Jon S. · Answer

Thanks for this advice. The way I have been doing it, I scope out a perspective house to buy, I have a contractor who I've been working with, give me an assessment of the condition, and give me a quote on what it will cost to renovate. Then I go home, and plug all the numbers into my spreadsheet and analyze whether it will cash flow positive, how much equity it will have, what is likely to be the ARV and what I will get back at refinance, etc. If the numbers add up, I then do a ton more research to see if there is something I forgot or didn't know about, and if it all works out, then I buy. What I have found is that renovation always costs more than expected.  My renovation ended up being 63% higher than original estimates on the first house, but since I bought low, I still ended up at 86% of ARV. On the 2nd house, a triplex, I'm running 38% over original estimates, but this is better than 63% over. Again, I bought right, so I am hopefully ending up at 70% ARV.

Which key metrics are you using on the backwards approach? I assume the backwards approach requires that you establish the cap rate you are seeking, or a gross rent multiple?   Thanks for your comments.

Experiences? How much to renovate in a changing neighborhood?

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