Does this seem like a good deal?

Question

I'm looking to buy my first investment property in Southern California. I found one that I really like, partly because it seems to be relatively low-maintenance for my first property, but my calculations put my ROI only at around 20%. Is that too low or do you think I should go for it?

http://www.redfin.com/CA/Los-Angeles/3170-Farnsworth-Ave-90032/home/6952924

This is a 5 bedroom newly remodeled duplex in a quiet neighborhood with laundry hookups in both units. Gas and electric utilities are split; water is not. After my realtor did some rent comparisons, he said I coud probably get the following rents:

$1000-$1200 for the 2 bdrm
$1400-$1600 for the 3 bdrm

I'd probably need to install laundry appliances in both units. There's no air conditioning either. I might consider installing that too. Do you think this is a good deal? Do you think I could charge more for rent with those add-ons?

Thanks everybody!
John

Ceasar Rosas · Answer

Also just using mortgage pro it shows your P&I at 1824.07. And if you're not putting a full 20% down you have to pay PMI which should be anywhere from 300-400. I also didn't see closing costs. Who's paying for those? Are they included in the loan?

Mehran K. · Answer

John P.

Don't even bother looking at the sheet the realtor gave you.

Use this: SFH Deal Analysis Spreadsheet

Ok now, you should be doing your own market research to determine the market rent for those exact unit mixes in that neighborhood. You can do this by researching your competition rental prices via Craigslist, Zillow rents, trulia rents, rentometer, etc.

With numbers you should always be conservative. Let's be hypothetical and assume you'll get even the max of the rent your realtor promised. I'm going to assume the $1200/$1600 rent for my analysis. A purchase price of $380k.

Are you going to live in the property and rent one side out? If not, you are looking at a MINIMUM of 25% down (conventional guidelines for 2 unit investment properties).  You're looking at a $95k down payment. At 5.5% 30 year fixed, your mortgage payment alone (P&I) will be $1,618/mo.

Using the 50% rule: 
$1200 + $1600 x 50% = $1400 - $1,618 = -$218

Negative $218/mo cash flow.

For more information on the 50% rule visit this link:
 The 50% Rule: How to Quickly Analyze a Multifamily Investment Property

As a cash flow investment, no deal for me.
This is why I live just a few miles from you, but invest 1000's of miles away :)

John P. · Answer

Lots of great advice. Thanks everyone. Looks like there's a lot missing that I need to account for.

FYI, these are figures from my lender. Seems like conventional is the way to go for my first purchase.

FHA
Principal: $400,000
Interest rate: 4.25%
Percent down: 2-3%
Mortgage insurance: $427/month for the life of the loan

Conventional
Principal: $400,000
Interest rate: 4.50%
Percent down: 5%
Mortgage insurance: $186/month

Ceasar Rosas · Answer

Hi John, I agree with Joseph it looks like you would be in the red. I just recently bought my first investment, in the middle of rehab. I've been using a spreadsheet from a book I bought called Hold. I'm pretty sure you can download it from kellerink.com for free without buying the book. (Great read for holding properties) Anyways while alot of these spreadsheets give you the basics you definitely have to adjust them add in a few lines that might be missing. I fixed it up and it seems to work great. The projected ROI on the investment we purchased was about 12%. At first using that sheet it said 19%. I was looking for a minimum 10% ROI. I knew it wasn't 19 because I had done it written out. We're all in on this property at about 72,000 and it should rent between 1150 and 1250. I advertised it already at 1250 and have received a ton of calls. Hope this helps. Good Luck!

Bryan H. · Answer

Looking quickly at your numbers
Where is your principal payment expense on your loan?
Insurance is probably too low
Sew/water is probably too low
Maintenance is too low
No management fees? Even if you are doing this yourself, you should budget 8%. Isnt your time work something
There is a lot missing from the budget that goes beyond just 'property' stuff. Taxes, book keeping, advertising etc. That's why the 50% rule is good.

Your interest rate is probably too low. Especially if you are going FHA (5% down), can you even do this on a rental?

I'd agree with Joseph Weisenbloom, this doesn't work for me.

Brian Mathews · Answer

I would probably plan a little higher on vacancy.  I would expect minimum of 1 month a year being vacant on each property, unless tenant signs longer lease, then it's money in your pocket.  How about maintenance costs?  Such as needing new dishwasher, toilet, leaking roof.  I know it's new, but tenants are tenants.  I'd budget at least $150/month for the first year and as the place ages after remodel, increasing that number.    By putting in hvac, you're looking at $5000 with all ducting minimum, you're in California so likely higher, then it's something else to break.  Then tenant tearing place up after moveout or just getting it ready for next tenants will cost.  You'll have to paint, clean or replace carpet, etc...  I think you're trying to paint a rosy picture.  Always plan for the worst, that way you won't be caught short, if it doesn't go for the worst, then you're that much more ahead. Don't forget about that stinker tenant which you will get that will cost you $3000 to put the place back in order.  I was at a rental earlier this morning, tenant moved out of.  They left it in fair condition overall, but it will cost $500 to get it back in order, all relatively minor stuff.  Re-painting a few walls, repairing garage door and opener, it needs a little maintenance, frig not working correctly, replacing a few toilet seats, cleaning up lawn.   It all adds up.

John P. · Answer

Hey Joseph,

Thanks for your reply. I'm using a spreadsheet to help me with the numbers. Not sure how accurate it is. I was planning on going with conventional financing with 5% down. The numbers are slightly different as you can see. I'm assuming I would get the place for 380k.

Joseph Weisenbloom · Answer

Hey John,

I'm curious where you got the 20% ROI calculation from?

Here are my calculations based on the most conservative scenario possible. $1000/mo + $1400/mo = $2,400/mo or $28,800/yr. $28,800/yr - 50% expenses = $14,400 NOI. If you are planning to purchase this cash and pay asking price your getting 3.6% ROI ($14,400/399,900).

Not sure how you plan on purchasing this property but for the sake of this exercise Ill assume you are going the standard route with 20% down.  If you are going this route your numbers look like this $14,400 NOI - $20,604 (P+I annually for 20% down) = -$6204/yr.  If you divide this number by 20% down which is $79,980 = -7.7% ROI.

Based on my analysis I would not pull the trigger on this property. You are going to have negative cash flow from the start according to my numbers. To make this work you would have to purchase the property for $120,000. So offer $100,000 and see where it goes. Also none of my calculations include repair to get the property up to standard so keep that in mind.

Just my 2 cents but I am a newb so if you can shoot holes in my logic let me know. :)

BTW damn real estate in Southern California is expensive how does anyone make any money out there? It seems like the rent should be way higher for this but I have no idea about the Southern Califonia market.

Does this seem like a good deal?

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