[Calc Review] Help me analyze this deal

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Owner is in his 80's and "selling to leave his kids with a hassle free inheritance."

Needs very little initial repair(paint in 2 hallways, some drop ceiling tiles, and a few more light fixtures).  Outside of the building is all brick except some trim that could use a coat of paint.  All units are in good shape for now.  Roof will need replaced within 10 years (about $20,000 according to my contractor).

Area is in a somewhat depressed area of the rust belt, but has very low crime, no gang presence, and good pride of ownership in much of the town(think "Groundhog Day" type community). Property is fully rented except for one vacant storefront.  2 of the 13 tenants are Section 8. 

Be hard on me here.  What am I missing?  Too good to be true?

@Daniel Mohnkern , your expenses look pretty good. Management is low. Will probably be closer to 10%. Your vacancy is obviously higher than 5%, you have one down commercial unit right now.

And that's my major concern, the commercial storefronts. Considering the market you're in, do you really foresee retail expanding and creating demand? There's a reason one is currently empty.

Your financing, as stated, is not going to happen. You'll have to put 20-25% down on any commercial. PMI obviously isn't even on the table. If you can't come up with the ~$100k you'll need to close this deal, you can always suggest owner financing. The other route is to bring in a partner.

Out of curiosity, what are the local cap rates?

@Jaysen Medhurst

Thanks for the input. I have seller financing. That's how I got to 100% financing.

I will adjust the vacancy rate. Good point there. Thanks.

The cap rate in the area is a bit High. Most people from the town work an hour away but the people here live here on purpose because they like being in a smaller town so it's a bit of a bedroom community. Cap rates are around 10% in the area.

Thank you also for the input on management expenses. I suspect you are saying 10% of NOI, correct? I have a manager of a couple of duplexes I have who is giving me a quote of 4%.

@Daniel Mohnkern , no, management is 10% of GSR. A 4% quote would scare me. 

  1. I don't know how they can afford to PM for that little.
  2. There could be all kinds of crazy fees / markups.

One thing you can approach the owner with is a higher price for much lower or 0% interest. Depending on his situation, this can have tax advantages for him since principle and interest are taxed differently. For example, offer $600k at 0% interest for 20 years.

Let's say he's in the 34% tax bracket. In year 1 he'd collect: 

  • $400k @ 6.5%, 30-year: $30,303 gross, $9906 in taxes, for a total of $20,397 net
  • $600k @ 0%, 20-year: $30,000 gross, $7500 in taxes, for a total of $22,500 net

He's taking home more, you're making roughly the same monthly payment. He's getting all of his money 10 years sooner, you're building equity much faster, end up saving $300k+, and will get that much more depreciation.

The key is that you really do have to plan on this being a long-term hold. Sell too early and this can bite you.

@Jaysen Medhurst

Thank you for your response and advice.

The seller is in his 80's and is selling to leave a simpler inheritance to his children. He would not be willing to finance over 7 years because of his age, hence the balloon. Having him willing to finance in that manner gives me the ability to do the nothing down deal. I will then brrr it, refinancing at the 7th year, using its equity as my down payment.

@Jaysen Medhurst

The seller is running a charity. Rents are 20% below where the should be, two of the storefronts are paying only 25% of what they should be because he is "in tune with their cause".

Also, the full basement is totally unused. I am going to turn it into rented storage space. There is a need in the community with the nearest one being a five minute drive away.

There are also two rooms in the residential area being used for personal storage. I am going to turn one into a coin laundry and one into a 3br rental.