Help Me Analyze! (Foreclosure Purchase)

24 Replies

Purchase Cost: Paid $66,250 (all cash), home inspection ($350), title (?). I'll just go with $67,000 to make it nice and even.

Details: 3 bed/1.5 bath, 1312 square foot

Objective: Simultaneously list for rent or purchase

Links:
https://imageshack.com/a/T5Iz/1 - Interior Pictures
http://goo.gl/HaRS36 - Zillow

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My cousin, the handyman, has looked it over and suggested the following:

Exterior: Patch the roof, fix/replace eaves, fix carport ceiling, paint, and removing that big tree on the right-hand side. (He estimated $2k off-the-bat and an additional $1,500 to remove the tree. I'm splitting the cost with the neighbor.)

Interior: Tile the hallway/kitchen/bathrooms, put in basic stove/fridge (nothing more), install new drywall in the kitchen/dining room, and apply fresh paint.

I want to do a bit more such as replacing the cabinet doors (I'd go with flat-panels), replacing light fixtures in the dining room, and putting in faux wood blinds. But he suggests we do what is absolutely necessary and see what the cost is before going on to the upgrades.

My thought process at this time is to list the house for rent ($1050-1100) and sell ~2 weeks before it is completed. I don't know how much I'd sell it for though. I'm thinking ~$115,000. A majority of houses in the neighborhood are aiming for $130-145K (http://goo.gl/ycjs42).

My mentality is, "I want to give potential buyers some flexibility. They may be content paying a lower price and not having granite, a new roof, new A/C, etc. If a buyer wants a new roof or cabinets, we can work out it in the contract and what not." A buyer may work out the numbers and figure out they'll spend a total of $120-125K to get the house they want it versus paying $130-145K.

Of course, if I find a qualified renter, then I go with the renter. (Personally, I'd go with a buyer.)

All thoughts and opinions are welcome!

Jeff, I am not familiar with LA market but I can give you some ground rules to consider. Before breaking out the check book to buy the property you must first have a pretty definite idea about how much it will be worth after repairs (we call this ARV for after repair value). If you are going to rent the property you have to have a pretty solid idea of what it will rent for. If the ARV is $130K in your scenario, you multiply it by 70% = $91,000. This is your purchase, rehab and settlement cost on the buy side. If you are going to put it on the market for sale for $130K, figure about 9%-10% closing costs.

You paid $66,250 for the property, 91,000 - 66,250 = $24,750 is your rehab budget.

Listed price $130,000, less 10% closing cost = $117,000 your side of the HUD1

$117,000 - $91,000 = $26,000 projected profit.

I would not involve the prospective buyer in on the rehab decisions it will open up a can of worms you don't want to deal with. Rehab it, put it on the market and let the buyer purchase it.

If you are going to rent it, know what the rental rates are. If they are $1,050 per month or $12,600 per year subtract taxes and insurance. $12,600 - $2,000 (estimate) = $10,600. Subtract any maintenance, management and vacancy rates (10%) = $9,500. If you spent $91,000 to buy plus rehab your annual cash on cash return is 10%. You can play with the rehab cost to lower it but this is the basic idea.  

"you multiply it by 70%"

Where does the 70% come from? Is it a general guideline to determine the max (less purchase cost) amount allocated for rehab costs?

Nuhan Demirkan

Hi Nuhan,

I am a new investor, after reading your break down on the above property I would like to ask your advice on the following deal.

We put in a bid for a 2 family home today.  Its a bank owned property.  Good rental location.  Asking price 175K, our offer is 155K.  it has brand new roof, nice layout, walls, partial kitchen, one or two windows and everything else after.  Plumbing, mechanical, etc. the works.  We are thinking around 40K.  Everything will be brand new, going foward very little to no maintanence costs.  Rentals are between 1500 and 1600. Do you think its a good investment decision.

We are planning to put 20% (31K plus closing fees) 37K

Mortgage will be 124K

The bank is willing to lend us money to renovate - 40K, i have an option to pay it off after all will be done and lower my payment.

The monthly prjected payment (including tax,principal and interest) is $1495.00

What are your thoughts.  Everyone please welcome to respond.  Its my first investment.  Thank you all.

Jeff, 

yes the 70% rule is a useful guideline. If you follow it you should reasonably expect to make a profit. Like everything else it is adjustable. You can figure 65% or 75% depending on the individual deal. But knowing your ARV and the rehab cost is a must.

Jeff, most flippers want to make 20-30% profit on a flip. So I assume his numbers are 30%. My formula is similar to his..

75%*ARV - repairs - 1k closing costs(when you buy) - 8%*ARV(selling costs) - holding costs = MAO(Max allowable offer).

Let's say you have 20k in repairs
.75*115k ARV = $28,750 profit

115,000(ARV) - 28,750 profit - 20,000 repairs - 1,000 buying closing costs - 3343 holding costs(6 months'ish) - 9,200 selling closing costs = $52.707 MAO(Max allowable offer).

you can tweak that formula based off your required profit, and your amounts for repairs, and sale price, etc... That's just an example of how I would figure it.

As for what to do to the house... Look at the other houses in the neighborhood, do they have granite, etc? You want to make your house base level of their stats. Then price it 5% below average market value. No offers for 2 weeks, or 10 visits, then lower your price. Do that every 2 weeks or 10 visits.

If you want to get market rate, then you should do some upgrades to the house. Nicer kitchen, nicer master bath, etc.

Hope that helps,

Helen, what are you planning to spend in taxes, and insurance per year? Are you going to manage the property, or have someone else do it? If someone else, what do they charge for management. Is there additional fees like lawn cutting, utilities, HOA/COA, etc?

It's tough to give you a rundown without knowing a bunch of other stuff...

If you are going to get $1500 a side in rent, then it's probably a decent deal. Should cashflow about $800 ish a month with both sides rented and 30% assumptions for vacancies, annual repairs, property management, etc.

I'm just guessing since a lot of your costs are missing.

Helen, you need to clarify what you mean by "2 family home". Are you buying 2 units for $155K or one? The monthly rental 1500-1600 for one unit or two?

The monthly projected payment of $1495 PIT is that for $124K mortgage or $124K plus the rehab cost of $40K?

You don't mention what the after repair value of the property will be? If you buy for $155K plus spend $40K in rehab, using the formula I gave Jeff this property should be worth around $279,000.

Do the following exercise: 

Add up all the cash you will spend out of pocket on this deal. Then add up the annual gross rent  you will receive from the property (monthly rent x 12). Subtract 10% for vacancies and management fees, then subtract annual taxes, insurance, and projected maintenance cost. The balance is your net operating income. Subtract the annual mortgage payment and the interest, the balance will give you the net annual cash flow. Divide the cash flow into the total cash spent out of pocket. This will give you cash on cash return. If the yield is acceptable to you then it is a good deal. If you think you can do better then pass on it.

PS: If I'm not getting minimum 30% cash on cash I'm not interested. Your market could be different. 

wow, you are only paying 10% for both vacancies and management fees? WOW... I handle property management in Indiana, and I am CHEAP at 12%... Most guys charge First months rent, and 10% of each additional months rent, which ends up being about 18-20% for the first year. That's just for management. We figure an additional 5-10% of gross rents for vacancy rates.

I manage my properties and actually my cost is less than 10%. If the tenant screening is done properly the turnover rate is minimized. I live in a suburb of Washington DC and the rental market is very strong here. Full disclosure, I only have 13 rentals, in escrow for 2 more.

@Nuhan Demirkan  @Lee Smith  


Thanks for the feedback and information. I'd like to get your opinions on ARVs.

In my opinion, the houses ready to go in the same neighborhood aren't worth what they're worth ($130-145k). If I were in their shoes, I would list a renovated house at $125k max. MAYBE $130k.

How do you eliminate personal bias from the ARV, if any? I'd like to think I'm being 95% objective.

@Jeff Lee you eliminate personal bias by finding a good agent who will be totally honest w/you about the ARV. There are lots of blogs and forum posts on how to find that kind of agent, so do a little searching here and read some thoughts from people a lot smarter than me. You can find some info on Zillow and Trulia, but be careful to study the solds and not just active listings. Active listings are nice as far as knowing what your competition is, but otherwise, I tend to think of them as wish lists. ;-)

On the 70% rule, I like to keep it really simple to start. You can get really detailed - and we do as we really pick apart any property we're seriously interested in - but as a quick blush analysis, here's how we look at the 70% rule: the ARV times 70%, minus repairs = your maximum offer.

That 30% that you lop off at the start includes holding/closing costs and profit. Our goal is 20% profit, 10% holding/closing, but oftentimes it will end up 15%/15%. In other words, if you sell your property for $115,000, on paper your profit would be $23,000 and your holding/closing costs would be $11,500. But again, this is a quick-and-dirty rule of thumb. You would generally break it down in greater detail as you analyze, figuring out what it costs you to borrow money (if you're using a lender), utilities, taxes, insurance, detailed closing costs on the buying and selling side,  etc etc.

I only look at active properties to see what my competition is like.

To find my ARV, I look at properties that have sold in the last 3-12 months. I will look within a quarter mile radius, and or the same neighborhood. I look to find homes that are similar in size sq ft'age wise, houses that are same number of bedrooms and baths, etc.. I will look at my subject property numerous ways to see what I think the real ARV is. I will also pay attention to DOM(Days on market). I don't want a house to sit on the market for more than 90 days.

When I am looking at those sold homes, I will look at pictures etc to see what upgrades, what was special about them, etc... Don't over update your flip. You should definitely have 1 or 2 things that give you POP, but don't go crazy with everything. For the most part, you want to stay with the rest of the neighborhood. DON'T GET EMOTIONAL ABOUT HOUSES!!! You are doing them to make money, not win an award. We all get caught up in that making them pretty thing though, or thinking the house is worth more than it is.. Just try to reign yourself in as much as possible.

You can tell a lot about your subject property by seeing what sold around it, and why it sold.. Rarely there are anomalies, but most of the time you can figure out why some homes sold for higher/lower prices, or sold quicker/slower. Find those things, and make them work for you.

In my market, things to keep in mind: If a house is on a busy street, reduce ARV by 10%. If a house is "unique" reduce the price by 10%.  If you have multiple things you may reduce that number(2 bads, may only be a 15% reduction, not the full 20%, etc).

You can also see a lot about a neighborhood just by looking at the sold comps.. If 12 homes have sold in the past year, then 1 per month are selling.. So you need to be the best home that month. If 12 homes sell a year, and there is 5 on the market, there is a 5 month supply of homes currently on the market in that neighborhood.. Again, you need to be #1. So figure out what is going to put you over the top(condtion, price, etc)..

It's a bit of a science to figuring out the flip market... You will learn a lot over time.

@Lee Smith  

I filtered sell results to the following on Zillow:
Sold in last 12 months, +/- 100 sq ft. to my purchase, same 3bd/1.5bath

Results: 5
Sold Price: $130,000, 130, 130, 122, 66.

The one that sold for $66k seems to be in the same condition as mine. Heck, it's a clone if I say so myself.

What kind of window blind would you use for a rental?

Do you do anything with kitchen cabinet doors that are outdated?

And if the bathtub is outdated?

Jeff, first decide if you're going to rent or sell this property. The rehab plan and cost is going to change for each scenario. Rentals do not require as heavy rehab as the flips. Then establish your rehab budget based on the cash flow or profit projections you set. Once you established your total rehab budget start looking into what needs to be rehabbed to get the desired return. Blinds are way at the bottom of my list if at all on it.  Prospective buyers/tenants are looking for:

- Open floor plans

- Updated kitchens

- Updated bathrooms

- Outdoor living/entertainment area

- Nice neighborhoods, schools, etc.

Figure out how much of this you can get done with the budget you have based on the comps in the neighborhood. Don't over rehab. If you're going to rent it make sure the major items like HVAC, appliances, roof, flooring (laminates work great), paint are taken care of which will defer maintenance for a while. 

As a side note, find out who bought the $66K property. Most likely an investor, he/she would be a good contact for the future. 

Don't trust Zillow. their values are consistently off most of the time. Contact a local realtor and offer to pay them for a market analysis.

For rentals we put in $3-6 blinds from lowes or menards.

For cabinet doors we will either paint them, or you can buy new ones from the box stores.

For tubs we sometimes will re-enamel them, or replace them for $100 in parts. Depends on if we are replacing the surround or not, and the condition.

@Lee Smith  Regarding cabinet doors. Would you ever consider replacing door and leave the original cabinet?

Cabinet doors are like $15-35 each right? We analyze replacing doors sometimes, but most of the time it doesn't make sense...

On our lower end rentals we would just buy unfinished cabinets, and do a light sand and then spray them with polyurethane from rattle cans. Those cabinets can be bought for $80-150'ish. New countertops are $50-100. A fresh clean look gets me rented quicker than a piece meal kitchen.

Do what's right for your needs. Run the numbers and see what works best.. There is no standard answer.

@Lee Smith  

"75%*ARV - repairs - 1k closing costs(when you buy) - 8%*ARV(selling costs) - holding costs = MAO(Max allowable offer)" is a great formula! Thanks for sharing it.

@Lee Smith  @Nuhan Demirkan  

I might as well squeeze in a few more questions.

#1. In your expert opinions, how much would it cost to gut the kitchen cabinets?

#2. If I decided not to, what are my options? New cabinet doors? Refinish/Retouch? Cost (of each?)

It really depends on which strategy you want to do(sale or rent)... It also depends on what the other kitchens on comparable houses look like.

If you are going for flip, then probably remove wallpaper, repaint, possibly replace what appears to be laminate flooring. I could replace the cabinets, countertops, and possibly put in backsplash tile for $1000-1500.

If a rental, I would probably do the same things as the flip... I might just repaint the cabinets, and replace the hardware(Hinges and handles) though if it's a rental. I would definitely replace the countertops. You should be able to reuse the sink, but probably replace the faucet.. Can't really tell.

Jeff, I think you should figure that out for your area. Lee is going to tell you what it would cost in Indiana and I will tell you what it would in Washington DC market. I think this one belongs to you. 

Again, the rehab cost is going to differ if you decide to rent or sell. If you're going to sell, it is a heavier rehab than rent. With rent you can paint and change the hardware of the cabinets to make them look nicer.

It looks like this kitchen has really old cabinets. The hinges might indicate that to most people, but I am looking at the space allocated to the stove - it is 36 inches and today most stoves are 30. Except for really high end stoves. So the cabinet boxes are probably better quality than the standard ones at the big box stores. 

@Jeff Lee  

Not knowing what's happening on your market, here's my 2c

1. To install new cabinets and countertops, it'll roughly cost around $50-80 per ln. ft (at least in my area). More if you buy pre-finished. If you have a contractor than can install it and finish it themselves, I think the better since you can work the stain color with the overall color scheme of the house. 

2. Having seen the pictures of the cabinets, if I were to rent them out, I would not change the cabinets. I would however change the countertops ($200 or so). Get a darker tint if you're keeping the white cabinets for contrast. White countertops just screams visible stains on it to me. Also, if you plan on changing the cabinet covers, plan on having issues with new hinges. Let me tell you now that 1/16 of an inch makes a big difference on finish carpentry.  

3. If I were rehab to sell, I'd re-do the entire kitchen just so I can change the layout. The cabinets look like they're in good condition, but it'll be more work to move them around to change the layout. It'll be easier to remove, re-design the layout, then replace. 

I think what's not clear is the order of importance of what you want to do. Is this a rehab to sell with a fall back option to rent? Or is this going to be a rental with the fall back option to sell?

You're playing with fire if you make your decisions based on YOUR OPINION of what the ARV is. Talk to a realtor and ask for help to do the market analysis. When you know your ARV, get a contractor in there to give you a quote for your rehab costs. Knowing your ARV, you'll have a limit on how much to spend on rehab so you don't over rehab. If you under rehab, and it rents/sells, more profit for you. If it doesn't rent/sell, you still have it and can still do whatever needs be done though more holding costs.

Hope this helps

Thanks for all of the information and advice.

The purpose will be to rent for at least two years. After that, I'll decide on what I want to do. I like the idea of changing the countertop and replacing the doors, handles, and hinges.

ARV aside, I would like to put in new cabinets at some point in time so I'll have the flexibility of selling or to attract a high quality tenant.

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