How Would you Approach This Deal?

Question

Hey Guys,

I was hoping you could give me some guidance on how to approach a potential deal.

The seller is asking 430,000 for a SFH and the gross rent is 3500/mo-- utilities and non-cap expenses (up to about $200) are paid by the tenants which, in this case, are college students.

He owes about 60k still on this as he has owned this for a number of years.  He is willing to carry some of the financing.

If you'd go after a proeprty like this at all, how would you structure a deal in terms of offer price and the right a combination of owner and bank financing to make this work?

thanks for any insight,
jon

Will Barnard · Answer

If you are attempting to buy this property for a long term cash flow position, you ceratinly can not pay that much unless you want to lose money. If you have some spec play or flip in mind, you would need to provide more details for us to comment on it.

As a rental, you are well below 1% rent to purchase price ratio which is very poor for a rental.

Jon Holdman · Answer

Creative structuring won't help, because you're so far off a good price.  Notice I'm not saying you have to be at 2%, only 1.33%.  But, the 50% rule WILL apply.

A sub 2 plus an owner carry would still be a loan for the entire purchase price.

If the seller's savvy, and not too motivated, you won't get a lease payment any less than the mortgage payment.  I get about $2100 for $350K at 6%.

You need to find desperate sellers who are willing to sell you a property well under its actual value.

You need a creative technique that puts your payment south of $1700 a month AND doesn't leave you with a big balloon.  I don't see how to do that.  This is a bad deal, and some creative lipstick won't make it work.

If this is the best you can do in this area, you shouldn't invest in rentals there.  Look further afield or move.

Jon Holdman · Answer

Oops miscalculated the payment.  I was thinking $350K was the price, its $430K.  That makes the payment (P&I) closer to 2600.  There's just no way this will work as a rental.  Maybe as a speculative investment.  But purely as a rental?  Not a chance.

At the risk of over generalizing and having someone come up with a counter example I'll say that $400K houses never make profitable rentals.

Jon Holdman · Answer

If your intention is to hold it as a rental, you're a loooong ways from being able to make it profitable.

Read the sticky threads in the Rental Property forum about expenses.  A rule of thumb is that expenses will average about 50% of gross rents.  That includes capital items and vacancy.  So, here's what it looks like:

Rent: $3500
Expense: $1750
NOI: $1750
Desired cash flow: $0 (break even)
Max payment: $1750
Max loan: $263,000

I'd use that as the max price.  That means if you put in a down payment, the additional return is from you loaning the property the down payment money.

And that's just break even.  Seems like a long ways from $350K down to $260K.  Expensive houses like this just don't make good rentals.

Jon Carcone · Answer

Thanks for the replies everyone.  Properties that satisfy the 2% rule are not easy to come by in the metro DC area, but I understand the implications of not having enough rent to cover the various expenses associated with a rental.

I was more asking if there is some creative option like a sub2 or lease option that might make this deal make sense.  And, if so, how you'd structure it.

There may not be, but I was curious to get some opinions.

Dory Peters · Answer

I suspect that property might be overpriced (assuming it's one of the typical 3/2 homes one will find in Arlington).  Even if you were to purchase a property in Arlington at its current market value, then that property most likely won't immediately yield positive cash-flow.  Will's observation, that this property doesn't satisfy the 1% rule, is also true for most properties in Arlington.

This property might work better as a sub2 or lease-option.

How Would you Approach This Deal?

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