Do they know something I don't?

11 Replies

I looked at this property a couple months ago.  

https://www.redfin.com/CA/Oakland/1124-16th-St-946...

There's nothing special about it.  Not a good neighborhood, not a good school district, needs a lot of work structural, electrical and cosmetic.  There's nothing charming about the apartments.  In addition, it is under rent control and just cause for eviction.  It comes with 2 tenants.  The buyer won't be able to raise the rent on them more than the city dictates (which is historically around 2%/yr) and can't easily get rid of them.  

I did a BP analysis on this property and underestimated expenses.  I still couldn't get it to even break even.  Yet, the property had enough offers on it that it sold over asking.  

What am I missing?  Is this market so hot that people are making ridiculous decisions? Or is there some method of making money here that I don't know about?  

What you are missing is that not everyone's objectives are same as yours. You are looking to create income, while some people are looking to preserve value, and others don't mind negative gearing for tax purposes...:)

And then there's the reality that not everyone knows how to do the numbers. We are in midst of as much of an amateur as at any time in history - everyone is in RE...

And finally, there may indeed be some value ad component to this which you've missed...

I agree with Ben. 

The MFH space right now is in a bubble so people are paying ridiculous prices.

In 2-3 years, the bubble could pop and it's time to buy but until then, stay away from these bad deals.

I'm not sure what about this property is confusing. Sold for $505,000. Gross annual rent of $37,500. At 50% expense, that's a cap rate of about 3.7%, which is competitive with a lot of other California commercial properties, or certain commercial properties everywhere (look up NNN cap rates for Starbucks and McDonald's, for example).

The California market is known to usually be about appreciation anyway, not cash flow.

@Debra R.

Hi Debra.  I've looked at multi-families in SF and Oakland and I'm not surprised this went over asking.  It's close to Jack London Square area with restaurants and bars, and BART which are a great appeal to the young hipsters employed in tech.  As most have already said here, investors purchase buy and hold property here in the Bay Area for the appreciation.  However, there are some considerations to think about for cash flow in these types of properties in the Bay Area.  Although the tenants are under rent control, there has been quite a bit of activity over the recent years on buying long term tenants out of their lease to get them to move out.  I know in SF, the buyouts have been as high as $40K believe it or not!  But considering a 1 bedroom 1 bath in Hayes Valley being rented for $650 to a rent-controlled tenant and market rents at $3K, the $40K investment will be made up in a couple years or through forced appreciation via the increased income the property produces with the new rents.

Sorry for such a very late reply.  I do very much appreciate everyone's answers. 

@Ben Leybovich - yes, as a newbie I do forget that there are reasons other than rental income to buy rental properties.  

@Wendell De Guzman - Glad to hear that it's probably at least in part due to a bubble and not a big opportunity I'm missing out on.  

@Steve Olafson - I probably over estimated insurance costs but even with less insurance it still wouldn't be making good money.  

@Leo B. - 40K to move out!  Wow!   That just boggles my mind.   But then when I first moved to CA I thought $250,000 was a very high price for a SF house.  Now $250 feels like a steal, so sometimes it just takes a bit of time to mentally adjust to market rates.  

@Debra Ragan welcome to the BP community. 

Originally posted by @Leon D. :

I'm not sure what about this property is confusing. Sold for $505,000. Gross annual rent of $37,500. At 50% expense, that's a cap rate of about 3.7%, which is competitive with a lot of other California commercial properties, or certain commercial properties everywhere (look up NNN cap rates for Starbucks and McDonald's, for example).

The California market is known to usually be about appreciation anyway, not cash flow.

I own a 4 plex (2br1b) in Loma Linda CA 92354 with gross annual rent of $40,800. (All rents are only $850, but I have had zero vacancy for years and years. )The building is on a street with 28 identical buildings to mine. 

If I could sell the building for $505k, I would dance naked in the street. The building right next door to mine is listed at $515k and is not selling. (per zillow, the building last sold in 2005 for $590k). 

Loma Linda University and Medical Center is only 3 short blocks away, a 5 minute walk or 3 minute bike ride.      http://lomalindahealth.org/medical-center/index.pa...

I've owned my building for 15 years and have never had a vacancy longer than a couple of weeks. 

Assuming that the building next door is getting similar or better rents, why in the heck isn't it selling at $515k if the cap rate is "okay" for California??? 

Is Poor appreciation potential the problem?  (I don't know what the value is now, but I paid $200k for my building in 2000)

I'm perplexed. 

DL

@Debra R. knows, it pays to know the rules! I'm not a huge fan of rules, but I happen to know these pretty well.. The building would still be subject to "just cause" evictions, but could be priced to market rents. If unpaid, then just cause would be established..
2) Even if you're not owner-occupying it, you can use banked rents (3x this year's CPI), or up to 10% annual increases by passing through capital expenditure costs, subject to 30% cap in 5 years.
3) Buyouts

@Leo B., there are buyouts that have gone well into the 6 figures in SF. I offered to give a tenant downpayment and closing costs for an FHA loan, who's in an apartment about 20 blocks from this property. If you can make an extra $700/mo on a unit, that's an extra $8K/yr. How many years do you want your payback to be? Then you can figure out how much you might want to figure as a maximum buyout. Try to pay less! But even 10's of thousands of dollars for a buyout can be a phenomenal investment, both with cash flow, and the increase to the value of the property by having market rents..

And as others said, yes, this sector is hot. And so is West Oakland. It has been gentrifying for a while and prices rose from around $100/sq ft during the crisis. $200-$250 sq ft is not unusual, depending on condition.

Having said all that, some properties in West Oakland sell for significantly less if you can find a good deal..

Hope that helps to shed some light! :)

Hi J., 

Thanks for the info on owner occupieds in Oakland.  Even if I was comfortable living in West Oakland, it would be hard for me to move.  We really love Alameda.  

About banked rents, are you saying that a seller can transfer banked rents to a buyer? 

Last thing - are you the J. that arranges Bay Area meetings of BP members?  I just missed the one last month, but would like to attend one.  

Debra

Originally posted by @Debra R. :

Hi J., 

Thanks for the info on owner occupieds in Oakland.  Even if I was comfortable living in West Oakland, it would be hard for me to move.  We really love Alameda.  

About banked rents, are you saying that a seller can transfer banked rents to a buyer? 

Last thing - are you the J. that arranges Bay Area meetings of BP members?  I just missed the one last month, but would like to attend one.  

Debra

West Oakland will not be perceived by most to be better than Alameda, so I understand. I wasn't suggesting you move there. Just answering the question "Is there something I don't know.."

Based on the code regarding rent control, I do not believe there is anything preventing the new owner from using prior banked rents.

Furthermore, the definition in the code of "owner" is ANY owner or agent. Doesn't say previous, current, or future. The prior rent increases have to do with how many times CPI wasn't charged to the tenant. Not who owns the building.. (Except in certain cases for pass-throughs for inherited property..) I am not a lawyer. Speak with one if you would like more clarity.

And yes, I am the J. that arranged Bay Area meetups. Check out my signature! Next Thursday in SF! 

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