negative cash flow in the bay area

14 Replies

I am trying to find rental property in the bay area, especially south San Jose area. 

I am planning to buy 2bd/2ba property priced at around 450-550K, 

so I am mainly looking at Blossom Valley area of south San Jose. 

https://www.redfin.com/neighborhood/65588/CA/San-J...

https://www.zillow.com/blossom-valley-san-jose-ca/

I analyzed one property I am interested in, which I think will have an estimate of -$1182.99 cash flow.

Purchase Price550000
Down Payment120000
Mortgage430000
Mortgage Rate5%
Mortgage2309
Tax550
HOA408
Vacancy (5%)125
Cap Ex115.99
Insurance50
Property Management
Repair (5%)125
Total Cost3682.99
Rent2500
Cash Flow-1182.99

As many of you know, the Bay area is very expensive and it's difficult to have positive cash flow. 

But I think appreciation plays big role here compared to other area. 

I think houses in the Bay area will continue to appreciate greatly as companies recruiting many people

and more people flooding in every year. 

If I can somehow managed to sustain negative cash flow, then is it worthwhile trying to survive with negative cash flow?

I know that negative cash flow is generally not recommended in principle, but trying to understand 

whether it is worthwhile to take a risk in the Bay area. 

Also, with similar price range, should I target better area (say near Cupertino) with 1 bedroom unit?

I also think 1 bedroom unit is generally not recommended, but trying to understand whether there can be exceptions with great location. 

For example, this 1 bed cost is listed at $479K. 

https://www.redfin.com/CA/San-Jose/4681-Albany-Cir-95129/unit-143/home/1695726

Any advice is greatly appreciated. Thank you very much in advance. 

@Steve C. - purchasing based solely on future appreciation is a higher-risk method of investing. Cash flow is something that you can immediately benefit from, whereas appreciation is a forecast of what might happen. As such, it is a speculative investment that has no guarantees. 

The only time that I would invest based on appreciation (assuming negative cash flow for your example) is if I have enough cash flow from other properties and can sustain the negative cash flow from. This isn't the same for everyone, but that's the only way that I would approach this sort of property.

I personally have nothing against single-bedroom units. The argument usually quoted against this sort of investment is that a single vacancy equals 100% vacancy and a total lack of income. This risk can be reduced by screening tenants, setting aside a vacancy "expense", etc.

Bottom line: negative cash flow for a speculative investment is more risky than a positive cash flowing property that might never appreciate. You can look at pros and cons (I gave cons) and decide how much of a risk you can afford. Appreciation does have high reward possibilities, but with more risk.

Single-room rentals can be good if you have good tenants and plan for possible vacancies.

I hope this helps! Good luck

That is an awful big risk to take. The BA is still appreciating, but projected to flatten out. (I am basing that on personal observations where the tech industry is not growing at the same pace as previous years.) At some point people will stop paying these prices.

I agree with other posters that this looks risky. Rents have peaked and property values are peaking as well. So appreciation might be limited going forward. You may see better returns out of state but I am no expert at that.

Seems like a huge risk to me. Unless the $1,200/month is just "walking around" money to you, in my opinion, and i am from the mid west so I might be too conservative, it seems crazy - but no guts no glory. 

I also think that your numbers might be light with regards to insurance. $50/mos on a $550k rental? 

Did you intent to manage the property yourself? 

If you do go forward - and if you win on this one, please let us know. I'd love to read that you rolled the dice a came up a winner. Good luck!        

Reality is that your market has always been a high risk investment area due to dependence in speculation. At some point market will flat line or decrease. Negative cash flow is a certainty due to pricing and simply needs to be factored into the gamble. You must be prepared to supplement tenant's rent till you are ready to cash out.

In your area investors develop very high risk tolerance and move forward hoping to get out before th emarkets change. Most will not due to belief that appreciation will continue indefinatly. Smart investors will take a profit at some point and be thankful they did.

Thanks a million for everyone who gave me valuable feedback. I also agree that this speculative investment. I personally don't feel comfortable with this and don't plan to continue especially considering your feedbacks. 

However, I still want to play devil's advocate and see whether there is any justification for this kind of investment with potential appreciation. 

Google is supposed to be bringing 70,000 employees to the area within the next 5 years and Facebook is hiring in 10,000 new employees over the next year. Apple also announced recently that they will be hiring 20,000 over the next 5 years including the Bay area.  

So I think home price appreciation is inevitable. The issue is that whether someone can survive negative cash flow with long enough time. I would argue at least 5 year to be safe side. 

Inventory in the Bay area is extremely low. 

"All of this is due to an incredible lack of inventory. Since January 2000, Santa Clara County has averaged 94 days of inventory. Last month it was twelve."

http://popehandy.rereport.com/market_reports?searc...

I am still betting on the Bay area. Yes, this is speculative investment. But I don't think I can afford this though. :)

@Ken Vance

Yes, I plan to manage myself if numbers work for any property. Redfin suggested insurance of $100 per month. My agent told me $50 is more reasonable amount. I agreed since I heard another data point that insurance is under $1000 per year even with much larger home. 

@Steve C. Playing devil's advocate, I could see someone saying "well, I'm offsetting that negative cash-flow with mortgage pay down". However, when I look at an amortization table, it doesn't look like you'll get to break-even on that until 2032. So you basically lose annual "net" money for the next 14 years. Maybe rents go up, I'd hope they would go up, but nothing in life in guaranteed. While I don't think there's a "crash coming" in 2 months, 12 months, or in any defined period of time...well...I'd wager there's some pull-back over the next 14 years. So your value will drop, rents (that you have increased) will likely drop, and you'll be back to losing "net" money. That's a really, really, tough road to hoe. And, by the way, you have to assume that rent growth outpaces insurance, HOA payments, etc. Hopefully it does outpace those but you can't count on those categories being completely static. Building equity through appreciation is great but how do you plan to pull it out of the property? Let's assume that the property value keeps going up, that probably means the economy is still strong as well, which increases the change that when you refinance mortgage interest rates will be at 6%, 7%, etc. So when you pull out money (yippee!) the new balance will be at a higher interest rate.

That's not to say this idea is materially bad.  If you had banked on appreciation 3 years ago (when plenty of people said the Bay Area was overheated, unsustainable, etc.) you'd probably be pretty happy about now.  Maybe the best way to look at this is how you'll feel if things stay flat.  Are you okay losing $12K per year for the next 30 years?  If your life changes and you want to "stop the bleeding" are you okay paying $33K to sell the property?

And, hey, if you believe in the market go right ahead.  Some of us invest other places.  Plenty of people don't invest at all.  You'll only figure out if you were right in 10+ years. 

@Steve C.

Are you independently wealthy? You must be if you can pay out over $1100 a month so that someone else has the privilege of living in your house.

You are the kind of landlord that renters love. You go to work every day and earn money at your job so that your poor renters can live in a nice house in the Bay area for far less than the cost.

It would be difficult to get a non-owner occupied loan based on these numbers.  Most condos in Bay Area or Los Angeles require about 30-35%+ down to make the numbers work well enough for a traditional lender.

If you willing to live in the condo for one year, and are willing to eat the negative cash flow after (which would be lower than your estimate due to depreciation) than you probably can get a decent rate on a 30 year mortgage.  But still just a levered bet on continued appreciation in the Bay Area rather than income producing asset.

@Steve C. Simple assumption: You think appreciation will still be up on the next 5 years.
Math:
Personal income = 10,000/mo
Net cash flow = -1,800/mo = 21,600/yr = 108,000
Purchase price 2018 = 1.5M
Selling price 2023 = 2M
Net in 5 yrs = 500k - 108k = 392k in 5 years = 78.4/yr = 6.5k/mo.
Property income is 65% of your personal income.
Pssshh. If I had money to burn, I’d buy 100.

You wont have negative cash flow if you put more down. Id rather do that than write a check every month if I am waiting for appreciation. Rents should go up so eventually cash flow becomes positive in a few years.