Please Take a Look at This New Construction Deal

12 Replies

Good morning.

I am respectfully requesting feedback from the Bigger Pockets community on this deal.  My area is Austin, TX (this particular deal is in a community about 30 minutes from Austin) and my deal involves potentially building a new duplex to hold for rental income.

Expected rent is $1500 per unit for a total of $3000.

I own a multifamily lot, for which I paid $22,500.

I have paid approximately $5,000 for plans and engineering designs.

I have been working with a realtor who I have promised to pay a 3% commission on construction costs.

After talking to what seems like just about every builder in the area, it seems like the best I can do for construction costs is about $325,000.  This is where the deal has become iffy for me and led me here.  My original (obviously overly optimistic) expectation was that I could find an "investor friendly builder" (I put in quotes because this experience has made me seriously question whether this mythical beast actually exists) to do this for $250,000-$275,000.  Now that the real number is $325,000, I'm questioning whether I should even consider going forward anymore.  The sunk costs of the lot and the plans makes me want to get it done, but I know that is throwing good money after bad.  Since this is a growing area, I think I can potentially get by money back by selling the lot in a couple years.

I know the deal doesn't even meet a 1% rule, but that is virtually impossible to find in Austin.  Well, I'll leave it at that and just let you analyze it based on the numbers.  Let me know if I left out any information you need.

Does the deal cashflow (have you done this analysis)? Has the immediate area been appreciating and do you believe it will continue based on fundamentals (and does your realtor agree)? Will the project be a net positive in achieving your goals? If the answer to the last question is no, cut your losses and sell the lot, plans, and designs to someone else who may be interested.

I would say that you could consider building a high-end duplex and selling each side independently, but I am not confident that would work 30 minutes outside of Austin.

Keep in mind you will have cost over runs and the final price will always be higher than initially quoted.

Your best option I believe would be to make your money on the lot now that you have the plans and engineering designs in place. These add value to the investment. Time the sale right and that is where the investment will pay off.

Not enough money in actually building or renting to make it worth the time or effort.

There is NO such unicorn as an investor friendly builder.. LOL... .why would a builder charge less for an investor?  that makes zero logical sense..

one way to cut cost is to become your own general and sub everything out..   this is what we do.. then we pay a supervisor a flat fee.. especially in your state were contractors are not required to be licensed.

also biggest concern if I was doing what your doing is trying to figure out what the property tax's would be once done.. as you know TExas is SKY high on prop tax's so not meeting 1% and texas prop tax's that could easily be negative cash flow if you have max leverage.. just don't put max leverage on it .. everything cash flow based on altering your down payment or your equity.. whether the ROI is worth doing .. probably be determined on if you think you will have appreciation.. which with income property generally follows with rental rates and returns. and what an investor will back into the numbers for.

Do you mind me asking the geographical area that is 30 minutes outside of Austin?  

I'm sort of at a loss as to where to go from here in my investing career.  I don't really have an interest in investing out of state (maybe this is something I need to get over), but the Texas market in general, and Austin in particular, just does not seem like a good place to invest in real estate.  I always read on Bigger Pockets about how people are making 20% returns and getting 2% rule deals... there is nothing here even close to that.  At least nothing I have the resources, time, or skill to find.  I have this money I want to invest, and I can't find a deal to invest in.  It's pretty frustrating.

I see these properties for sale around here sometimes and I'm just like, who buys these?  I'm talking about multifamily properties, so O/O isn't usually the answer.  Are these just clueless people that think a 2% return is good?  Take this property for example: 7307 Bar K Ranch Road, Lago Vista, TX.  New construction duplex for sale.  My first thought is that if it was a good deal, the builder would be keeping it and renting it out.  From my reading of development books, I've learned that developers require a higher rate of return on rentals than sales.  In other words, the back up plan for a bad rental is to sell it.  So essentially the builder has already decided the numbers don't work to rent it out, and that's at his cost which is probably 25% or more lower than the buyer will be paying.  Then I run metrics like the 2% rule and the 50% rule, and it's a terrible deal.  So who is going to buy this?

@Jim Macedon why don't you consider investing with a syndicator.  They have experience, they handle most of the risk, they handle 98% of the hassle and they arrange the financing.  If they are able to get agency debt then you know Freddie or Fannie thinks the deal has a very high chance of success (Freddie has not had a single deal anywhere in the US go south in 3 years).  It is not uncommon for syndicated MF deals to net the investor an 8% cash pref and a total return of mid teens or higher and if the syndicator uses accelerated depreciation you will get a K1 with depreciation expense to offset most if not all of the income for first 7-8 years.  After that 1031 into another property and start all over.  Beats 2 am. backed up toilet calls....:)

@Jim Macedon there is no such thing as an “investor friendly” builder as @Jay Hinrichs explained. Builders want to make as much as possible just like investors no matter who is cutting the check. The only way to get your numbers down is to pull the permit yourself and hire the subs but you need to get a super involved and I recommend you cut him in the deal and give him a bonus if he builds it quicker.

Based on what you are saying I believe the path of least resistance would be to sell the land with a “permit ready” set of plans. If it’s a good area I’m sure lots are hard to find and it might be the best choice for you. Just my 2 cents worth. 

Originally posted by @Jim Macedon :

I'm sort of at a loss as to where to go from here in my investing career.  I don't really have an interest in investing out of state (maybe this is something I need to get over), but the Texas market in general, and Austin in particular, just does not seem like a good place to invest in real estate.  I always read on Bigger Pockets about how people are making 20% returns and getting 2% rule deals... there is nothing here even close to that.  At least nothing I have the resources, time, or skill to find.  I have this money I want to invest, and I can't find a deal to invest in.  It's pretty frustrating.

I see these properties for sale around here sometimes and I'm just like, who buys these?  I'm talking about multifamily properties, so O/O isn't usually the answer.  Are these just clueless people that think a 2% return is good?  Take this property for example: 7307 Bar K Ranch Road, Lago Vista, TX.  New construction duplex for sale.  My first thought is that if it was a good deal, the builder would be keeping it and renting it out.  From my reading of development books, I've learned that developers require a higher rate of return on rentals than sales.  In other words, the back up plan for a bad rental is to sell it.  So essentially the builder has already decided the numbers don't work to rent it out, and that's at his cost which is probably 25% or more lower than the buyer will be paying.  Then I run metrics like the 2% rule and the 50% rule, and it's a terrible deal.  So who is going to buy this?

 not sure what books your reading but you got it @$$ backwards.. builders first and foremost want to sell and make a builders profit.. they only keep them if the properties don't sell.. there are very few builders that build that kind of product with the intention of holding.. its a completely different funding mechanism.  when they build they have to pay off short term construction debt..

AS for who is buying these with low rates of return those are folks that are looking for appreciation and low cap ex first ten years or so.. although I am with you .. if it won't appreciate and it only makes 2% or 5%  why buy it at all.. much better things to do with less risk and management headaches..   

Originally posted by @Brian Robbins :

@Jim Macedon why don't you consider investing with a syndicator.  They have experience, they handle most of the risk, they handle 98% of the hassle and they arrange the financing.  If they are able to get agency debt then you know Freddie or Fannie thinks the deal has a very high chance of success (Freddie has not had a single deal anywhere in the US go south in 3 years).  It is not uncommon for syndicated MF deals to net the investor an 8% cash pref and a total return of mid teens or higher and if the syndicator uses accelerated depreciation you will get a K1 with depreciation expense to offset most if not all of the income for first 7-8 years.  After that 1031 into another property and start all over.  Beats 2 am. backed up toilet calls....:)

 Although this is a good advertisement for what you do LOL.... remember not all investors  are accredited.. and most syndicated deals need that.. and the good syndicators these days are doing more than a ( Hey your accredited right wink and nod )  so the VAST majority of investor don't qualify for these.

But for alternatives to rentals is nice performing first trust deeds at 9 to 10% return.. and like you state you don't have to deal with the 3 T's  you are not pooled one note one investor.. and your not forever having to kick the can forward worrying about recapture..   there are benefits to all of these.. but I agree.. 2% return limited to no appreciation unless rents sky rocket.. why do that.

Many years ago I built a spec house outside of Austin. This was right at 911 so it didn’t end up a successful project. However I used a company called TX help u build to help. In tx you have to use a builder or gc other than yourself by law if you use a construction loan or at least that was the case at the time. Tx Help u build helped me get around that by acting as my builder of record, they also helped me find some great sub contractors and provided advice when necessary. They charged a flat fee but it was far less than a gc or builder would charge. It looks like they are no longer in business but I notice there is a similar business now called u build it anyway, perhaps you could contract out the project yourself and get your building costs down substantially because many builders will charge around 20% for their fee/profit. Then you could possibly sell for a profit or refinance and rent with better monthly cash flow. Good luck!

@Jay Hinrichs I have to say that I agree. Syndication investing is not for everyone.  Like you I have flipped, developed, bought, sold, and even have tree farming in common so I think we agree there are lots of ways to make money in RE.  I happen to be partial to Syndication deals because yes one of my companies does syndicate and two because I have found for the busy professionals that we cater to it fits their lifestyle.  I am still in healthcare mostly full time and I dont have time for the 3T's but I still want to enjoy the benefits of commercial MF RE. Not everyone has time for the rehab and flip.  I dont agree on a couple of the points you made about qualifying for deals however.

 We only operate Reg D 506 B.  This allow 35 non-accredited investors per deal. That means that our deals can include accredited and non accredited investors with no problems. Yes they need to be "sophisticated" investors....Meaning they have the business experience to evaluate the merits of a deal...but if someone cannot evaluate the deal I would never have them invest anyway.  And the SEC has set up the operational rules regarding  Reg D 506 B and they require the investor to "self" attest to their own qualifications....wink, nod :)  It is not the syndicator mis-representing the investors qualification in this case.  Great conversation!

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