Appraisal is Less than Contract: To Buy or Not to Buy? HELP!
Investor · san francisco, CA · Member since 2015 · 33 posts · 3 votes
Hello BP! My wife and I are contemplating our first investment property, a triplex in FL. It's fully rented, projected conservatively calculated returns are 10% cash on cash, 1.3% price-to-rent, 7% cap rate. Appraisal came back 4% less than the contract which was our original offer (12% less than asking price). Not sure if it makes sense to buy...your thoughts on what else we should be considering in our decision are appreciated!
@Gaurav Bahal Ask the seller to reduce the purchase price to the appraised value.
@Gaurav Bahal, we might be able to give you a better answer if you show us how you arrived at your "projected conservatively calculated returns". If you DO get those returns, isn't that what you signed up for?
But if you DON'T get those returns, then you HAVE made a mistake somewhere.
Appraisals are pure guesswork at the best of times. Will that affect your ability to fund it? All the best...
@Gaurav Bahal Ask the seller to reduce the purchase price to the appraised value.
This could be a good chance to get the reduced price. Talk with seller, or have them request a new appraisal at NO cost to you and get second opinion. I use to be an appraiser, we did an experiment, several of us appraised the same house in the same week and came up with different values. Professional opinion is what an appraisal is, and we were all pretty close.
Thanks Guys. I was able to use the appraisal value as a way to negotiate the price down so a lower appraisal value actually worked in my favor. Lesson learnt - never pay more than appraisal especially for investment property.
Is a triplex appraisal anything like a SFR? I'm looking at a quad and want to know what to expect.
Thanks
Happy Holidays!
@Daria B. From what I understand that it's harder to find comps for a quad so the accuracy of the appraisal based on the comp approach is less accurate. The income approach might be more accurate.
And that use the appraisal value to your advantage.
Hope that answers your question.
Yes it answers my question. Thanks.
How far were your comps?
The quad that I am looking at also has other quads in the area and they are asking $550k for one and $237k for another. The one that I looked at, they want $235k.
I ran the numbers and no way do any of these cash flow. I'm not sure why they are priced so high and who they expect to buy them.
The one that I looked at presumably rents for $700 each. I looked at them and two have granite counter tops and one even rehabbed to a high degree since the owners were living in one unit. Based on what I saw in rent and other expenses I would offer $188k but then I started viewing IRR and learning about that so the jury is still out. Anyway, the owners are being fickle because they have 7 offers and are doing nothing about it.
I called around to some others that are for rent to find out what they wanted and it was $650-$700. Doesn't seem like they are renting for anything far more.
When your appraisal came back, was it what you expected in the rent analysis they did?
Appraisals on a multifamily can be done using the income approach and many appraisers will use that on a 3+ family property as a means of trying to "check their work" when comps are scarce. It's not used on SFHs even though the standard form includes a tiny section on it (and if used, there should be an additional page attached with more data than the form allows for). The standard form is generally for 1-4 family units.
A note on appraisals:
BIG UPS ON BUYING A RENTAL!!
@Daria B. The appraisal came in $7k lower than the initial price for the property. What kind of cash returns are you expecting and may I know which market are you looking at? I would guess that a property going for $235K (and you can negotiate the price down but maybe not as low as $180K) with a potential $2800 rent should cash flow unless there are other things that you might have considered that is bringing the returns down.
The rent analysis in my appraisal was easy because all 3 units are rented at the same rate so the appraiser just used that rate.
$7k is a nice reduced amount for an appraisal.
Since this is a quad I upped the return to at least $200 per unit after all OE including mortgage. While at the $235k with the $700 rent per, accounting for all OE and mortgage it comes to $161 per unit. I am factoring in other systems as they have not all been switched out. Roof has 8yrs on it so that's good. All other systems - @ X 4 - like w/d, WH, HVAC, etc including some work on inside/outside that needs to be addressed.
I am in Gainesville FL and look to this area for MF and SFR.
There was another quad that sold a few months ago for $185k. Same yr and area. The $550 has been out there a long time and even the realtor said it was overpriced.
@Daria B. Prices have really jumped in Gainesville. I was thinking of starting to look for investment opportunities there since I seem to be priced out of S. Fla market. I was in school in Gainesville in '08-'12 and regret not buying something instead of renting. Prices were lower all across the US at that time but I figured Gainesville was usually lower priced than the bigger cities. I didn't expect Gainesville markets to have prices for quads similar to West Palm Beach. I'm wondering if I shouldn't sit things out until the next real estate down turn.
@Daria B. I would think condos or houses with rooms rented to grad students will cashflow more.
I once rented a room and shared a bath on Archer Rd for the same price as a whole two bedrom apt further from campus. With both myself and my roomate paying that rate the owners were propsering. It was a condo.
A lot of the buildings that look like apartment buildings are really condos being rented by the room to students, with a centralized property managment office that owners can opt to use.
Most of my law schoolmates rented rooms in houses across the street from campus. I think in a college town the house or condo room rental is the way to go unless you're targeting school staff and professors. Folks unrelated to the university are living much further away in suburbia, own their own place, or can only afford the D class homes you've mentioned.
It's not uncommon that getting a cheap rental property goes hand in hand with accepting Section 8 in Gainesville. This has been my experience and learning from some investors and the REIA group up there. I dont know if much has changed since I left.
I'm the organizer for Invest Gainesville and have a lot of insight of what's coming out of the box for new projects inside Gainesville and Alachua County. What is the cap rate you're looking for? Eight years on the roof; figure $9k for a roof, $5K for HVAC and all the other maintenance issues which arise with student rentals. There are 4/2's and 4/4's on the bus route in the $70's which rent for $450 per room, (owner pays utilities) and then there is condo fees, taxes, insurance... The number of listings are very low and the prices are inching back up.... How much more info would you like?
@Daria B. If my math is correct and assuming you are using financing with 20% down you are looking at ~ 20% cash on cash return to make $200 per unit after all expenses. Even @ $161 per unit you are still at ~15%. What is your criteria for cash flow? The reason I ask is because I am fairly new to REI and usually settle for 12-15% cash return. I saw some properties with higher returns but they are in very questionable areas.
@Jenny Duclair I agree that renting rooms to students is the way to go in University towns. Do some research on vacancy though because in my experience most students try to sign 9 month leases and vacate during summer. Also, renting to grad students is better.
I look for $200 after all OE and mortgage. I factor in R&M and capX in all analysis usually at 10% but maybe less if I have to put money up front to replace things like HVAC or roof.
True that the $161 still is good cash flow but I don't want to go into a deal and settle for less than I want to get. Only unless I am forced to by the market, then I have to rethink if I want to accept it or just look elsewhere or wait.
This is my side-by-side (left has the numbers to achieve $200 per unit).
In both cases the ROI and IRR are both negative and would take a few years to be positive. What is displayed here is the 1st year. This is based on the market value that is half the value of the purchase. The assessor has the quad valued at $121,500.
I'm still working on getting these figures (ROI,IRR) verified. I have a book that I started reading: "What Every Real Estate Investor Needs To Know About Cash Flow... And 36 Other key Financial Measures" by Frank Gallinelli. If you have not read this you may want to add it to your reading list.
| (Quad) Property | (Quad) Property |
| Beds/Baths: 8 / 6 | Beds/Baths: 8 / 6 |
| Type: Multi-Family | Type: Multi-Family |
| Year Built: 1980 | Year Built: 1980 |
| Square Footage: 2,813 | Square Footage: 2,813 |
| Lot Size: 0 sq ft | Lot Size: 0 sq ft |
| Parking: On-Street | Parking: On-Street |
| MLS #: undefined | MLS #: undefined |
| ** Purchase ** | ** Purchase ** |
| Purchase Price: $180,000 ($64/sq ft) | Purchase Price: $235,000 ($83.5/sq ft) |
| Purchase Costs: $3,600 | Purchase Costs: $4,700 |
| Rehab Costs: $0 | Rehab Costs: $0 |
| ** Financing ** | ** Financing ** |
| Down Payment: $45,000 (25%) | Down Payment: $58,750 (25%) |
| Mortgage Amount: $135,000 | Mortgage Amount: $176,250 |
| Total Cash Needed: $48,600 | Total Cash Needed: $63,450 |
| ** Cash Flow (Monthly) ** | ** Cash Flow (Monthly) ** |
| Rent: $3,200 | Rent: $3,200 |
| Vacancy: -$320 (10%) | Vacancy: -$320 (10%) |
| Expenses: -$1,343 | Expenses: -$1,343 |
| Net Operating Income: = $1,537 | Net Operating Income: = $1,537 |
| Mortgage Payment: -$684 | Mortgage Payment: -$893 |
| Cash Flow: = $853 ($213 per unit) | Cash Flow: = $644 ($161 per unit) |
| ** Returns ** | ** Returns ** |
| Cap Rate: 10.2% | Cap Rate: 7.8% |
| Cash on Cash: 21.1% | Cash on Cash: 12.2% |
| Return on Investment: -102.5% | Return on Investment: -169.8% |
| Internal Rate of Return: -94.7% | Internal Rate of Return: -100% |
| Rent to Price: 1.8% | Rent to Price: 1.4% |
| Gross Rent Multiplier: 4.7 | Gross Rent Multiplier: 6.1 |
@Daria B. I would think condos or houses with rooms rented to grad students will cashflow more.
I once rented a room and shared a bath on Archer Rd for the same price as a whole two bedrom apt further from campus. With both myself and my roomate paying that rate the owners were propsering. It was a condo.
A lot of the buildings that look like apartment buildings are really condos being rented by the room to students, with a centralized property managment office that owners can opt to use.
Most of my law schoolmates rented rooms in houses across the street from campus. I think in a college town the house or condo room rental is the way to go unless you're targeting school staff and professors. Folks unrelated to the university are living much further away in suburbia, own their own place, or can only afford the D class homes you've mentioned.
It's not uncommon that getting a cheap rental property goes hand in hand with accepting Section 8 in Gainesville. This has been my experience and learning from some investors and the REIA group up there. I dont know if much has changed since I left.
From what I hear, yes, student rental is good but one has to find the right price going in and in Gainesville in the area that has the most student rental, the homes are overpriced. I looked at a couple and the problem was the seller just wanted too much. In both of those cases the property went to other buyers (finally) for a much reduced amount. The 1st needed work like the second but it was bought by a family that paid cash who live in it that are students. The 2nd was totally trashed but was a good investment and lived in by owner who moved away. Of course it went to an LLC company that is a flipper. They've not done anything yet to it from what I see.
Condos are not an investment I want to buy as I just can't see paying HOA. It's an extra cost I'd rather not have and in some cases it's too strict. I do have my 1st property that is a townhouse that has HOA but I lived there and then moved away and kept it as my 1st OO-2-rental. It's paid for and cash flows very well. Given the HOA is covered by portions of the cash coming in and I still cash flow, it's the exception. I won't buy any though as any investments. I like SFR and am trying my hand at finding MF.
Section 8 as I have read from others seem to have it's own set of issues/rewards. That's not investment that I want to get into as it seems to have too much for me to deal with.
I like the thought of student rental and earlier this year added that to what I would look for near campus. My existing rentals are non-student in B class areas.
@Gaurav Bahal
When I was in school I grabbed a nine month lease for $100 less than my roommate the first year by waiting until a week before school started to lease an apartment. I was just coming out of boot camp and could not rent earlier. Roommate could not figure out how I "pulled it off". I think it was an executive decisions to enable them to have higher occupancy. Every year thereafter (and I moved every year) I had to sign a 12 month lease. This was '08-'12. The rental market is hotter than its been in years so I'd say landlords can still expect to get 12 month leases out of students. @Daria B. If you offer 9 month leases do it at a premium because that's what your competitors will be doing. I was required and it's wise to require most students to have a co-signor/guarantor. I think landlords stand a good chance of actually collecting most out of the 12 months of rent even if the student vacates in May. To hedge your bets I would include some obscure line in the guarantor form about reporting to credit agencies and parents will pony up the cash even if students skip out.
@Gaurav Bahal
When I was in school I grabbed a nine month lease for $100 less than my roommate the first year by waiting until a week before school started to lease an apartment. I was just coming out of boot camp and could not rent earlier. Roommate could not figure out how I "pulled it off". I think it was an executive decisions to enable them to have higher occupancy. Every year thereafter (and I moved every year) I had to sign a 12 month lease. This was '08-'12. The rental market is hotter than its been in years so I'd say landlords can still expect to get 12 month leases out of students. @Daria B. If you offer 9 month leases do it at a premium because that's what your competitors will be doing. I was required and it's wise to require most students to have a co-signor/guarantor. I think landlords stand a good chance of actually collecting most out of the 12 months of rent even if the student vacates in May. To hedge your bets I would include some obscure line in the guarantor form about reporting to credit agencies and parents will pony up the cash even if students skip out.
;-) you describe what a former PM told me when I asked "how do you rent to students that are not here all year round".... the PM though only has students sign 12 month leases and some how that works out. It was a concern since I knew I wanted to get into student rental.
You bought up a good question that I have yet to get answered, I don't know any students to ask. :)
Why did you move each year if you were coming back to the same school? Why not secure that rental by renewing. Was the property not available or was it because you were only here less than 12 months and the gap did not allow you to get back into the same property.
@Daria B.
Based on your likes/dislikes it looks like SFH that rent by the room might be for you. But you'd probably start a letter campaign to the owners of the specific ones you want. Familiarity will often get you that reduced price. I pick out addresses and then comb public record to try and surmise what their story might be (retiring soon, underwater, free and clear, large portfolio and locations of those other properties). If they are living in another location I comb official records for that county as well. This gives me a good idea on how to tailor my letters to that individual. I do this only if I am really wanting that property, because obviously, it's time consuming. Since Gville's inventory is tight and at a premium, it might be worth investing the time. I've even made some long-term connections that way. You grow on people.
Students are okay with a 10 minute walk or bike ride so you may be able to look further out from the campus but still stay near enough to easily rent, especially to grad students. Look on the law school side of campus. I would also look near the junior college and I would even look in Ocala. Prices are much cheaper, there's a college (or junior college) there, and it's a 30 min drive. Keep me posted. I would love to hear what route you take. I may even take my own tip about Ocala...miss the quiet(er) streets and clean(er) air.
Really, Ocala? I never would have thought. I have a cousin that is retired living in The Villages and usually drive by Ocala on my way to visit her and her husband.
I may have to look at that area as well, thanks.
The UF area has had some homes for sale but in the $200+ range. I did find one that was sold and did some research and found it was an 'heir' that sold it. So I added that to my list when researching. I have now found in the public records 'heir' listed on property and also look at the probate filed documents as leads.
I have a tendency to overthink sometimes but it's all in the learning. Initially, I just didn't want to deal with student rental after hearing so many horror stories. I'm over that now and look at it as an opportunity.
Hey Daria and Jenny,
I'm a real estate agent here in the Ocala. It's really a great area for many different kind of rental investors. There's also a Fed Ex distributorship being built here so lots of folks are moving to town and some of them will need to rent. I'd be happy to help you find what you're looking for. Contact me so we can talk about exactly what will work best for you. Thanks!
Hey Daria and Jenny,
I'm a real estate agent here in the Ocala. It's really a great area for many different kind of rental investors. There's also a Fed Ex distributorship being built here so lots of folks are moving to town and some of them will need to rent. I'd be happy to help you find what you're looking for. Contact me so we can talk about exactly what will work best for you. Thanks!
Thanks Guys. I was able to use the appraisal value as a way to negotiate the price down so a lower appraisal value actually worked in my favor. Lesson learnt - never pay more than appraisal especially for investment property.
hmm; Beg to differ. An appraisal has a major impact on getting financing - period. It doesn't say your cash-on-cash will be lousy nor your cap-rate. The appraisal is only a point in time value and as time moves on, so do appraisals.
If you make upgrades that add value, then over time the value will increase. I'm a buy&hold owner and I've always purchased a cash flowing property. When I elect to exit the investment, the economic appraisal (the value based upon the GSI it produces) will be the bate which ensures a quick sale, comps and past appraisals will not even be considered by a real investor.
My $0.02