WOULD YOU BUY THIS PROPERTY IN THESE TIMES?

Question

WHAT DO YOU THINK?

I have spent the last 6 months analyzing properties. I have recently come across a property that makes sense from a cash flow point of view. We are having inspections done in two days.
My question is, if it were you would you allow the current conditions of everything that is going on right now play a role in your decision making of purchasing a buy and hold investment (keeping in mind the cashflow works)? I will include some rounded numbers below for context as well.
Home Type: 3bd/1.5 bath Single family home w/studio (good location). I will live in studio and rent out the SFR.

• Purchase price: $275,000
• Interest rate (locked in): 3.125%
• PITI $1,800
• Rental income while living in one unit (based on rental survey of surrounding homes) ($1,600-1,700)
• Rental income after a year and moving out ($2,100-$2,200)

Thank you all.

Dan H. · Answer

I think you may need to increase your understanding of the expenses of rentals.  I base this on “that makes sense from a cash flow point of view”.

Let’s start with the assumption that the 50% rule will provide a quick rough estimate of expenses.  We will also use the high end of your rent range.

$2200 (rent) * 0.5 (50% rule) = $1100 expenses

You did not indicate your LTV so I will use 90% LTV in this calculation   Higher LTV will make the cash flow worse but the ROI likely better and vice versus for lower LTV

$2200 (rent)  - $1100 (expenses) - $1060 (debt payment at 90% LTV) = $49/month cash flow.  That does not “make sense from a cash flow point of view” in my opinion.    Now if you combine this with a rent appreciation that significantly surpasses inflation then it can “makes sense from a cash flow point of view“.

Would I purchase such a property?  I usually purchase RE based on having a value add but I would consider a purchase in my market that was cash positive at a 90% LTV.  The decision would have to include expected appreciation (rent and property), class of area, proximity, and current condition (is there deferred cap expenses?).

Good luck

Adam Tafel · Answer

@Mark Feaver

- are these numbers net or gross income?

-capex, maintenance?

-will you self manage?

-most importantly, is the property zoned as a duplex? I'm obviously not familiar with your city's zoning policies, but in my market you need to occupy the residence to legally rent an ADU or "mother-in-law".

Corby Goade · Answer

Congrats on getting your investment career going!

Speculation aside- is this property in a market that has a growing population and strong economic drivers behind it? If so, and it's cash flow positive, I wouldn't let any fear stop you. People will still need a place to live, and if this one pays for itself and has a good chance of appreciating, you'll be happy you bought it in the long run.

Mark Feaver · Answer

@Nicholas L.

The current tenant in the ADU is paying $660 a month.  The ADU most definitely could use some new tenant proof flooring, paint, and some other small yet impactful cosmetic touch ups.

Average rent for 3 bedroom similar to mine is ~$1,400-1,500

and the ADU I would say at least could get $700.00/month.  But perhaps I should be more conservative with that number.

Alex G. · Answer

There will be no shortage of foreclosures 2-3 years from now.

Dan H. · Answer

I agree 1% properties in most areas in CA, without a value add, is virtually impossible to find.  However, at 96.5% LTV you have less cash flow over the long term than reflected in my earlier calculations.  At the 50% rule it is almost certainly cash flow negative at purchase.

This purchase will rely on appreciation for any return.  Nothing wrong with that but then it should not be referred to as "makes sense from a cash flow point of view".  It may make sense from an appreciation view, but it definitely does not make sense from a cash flow perspective.

This is true even if you believe the 50% rule is too conservative and that there is a small amount of positive cash flow.  The issue is this form or RE investment is not passive.  To warrant the effort in my mind requires a return or at least a couple hundred a month per unit (so $400 positive cash flow for 2 units).  There is no way with proper expense allocation (especially maintenance/cap expense allocation) that this will produce anywhere near $400/month positive cash flow.

Analyze the appreciation outlook.  Realize that you are relying on the appreciation for your return.  It may be a good purchase.

I have purchased an RE that I projected out as cash neutral at purchase.  At refi after the value add, I had an increase in value of $160K.  After the refi it was still cash neutral (it is not unusual for the cash flow to stay near the same after the refi because the debt has increased at about same percentage as the rents).  Three years later the 2 units were up to $570 projected cash flow using 50% rule when they caught fire (because we have rent protection they are currently cash flowing the same $570 but the cash flow would have increased more if I could have raised the rent on tenants at their lease expiration - insurance pays rent based on the lease in place at the time of the event).

As indicated, it could be a good purchase but it will need to be based on appreciation and not the initial cash flow.

Good luck

Nicholas L. · Answer

Hi @Mark Feaver thanks for the additional info, seems like a stronger deal now.  Are there good rental comps on the ADU for when you move out?  I know you had the total gross rents being boosted by ~$500 a month.

Mark Feaver · Answer

Thank you everybody for the responses.  I should have provided additional information.

I am using an FHA 3.5% down.  House hacking. I have zero debt.  Inspections are tomorrow (Tuesday).

As far as rules of thumbs go, in our area Lodi California, 1% rule would nearly not apply.  After total cash out of pocket (about ~$18,000) I will $5,000 saved for reserves, but plan on adding to that until about $10,000 is reserved.  But of course after inspections and appraisal, numbers may very well change.

Nicholas L. · Answer

Hi @Mark Feaver I am with @Dan Heuschele on this one, I'm not seeing the return based on the purchase price (aside from any issues with the ADU.)  Are you using conventional financing?  That's a lot of cash to tie up for the return you'd get.  But feel free to post additional details about the financing if I am not correct.

Scott Henrikson · Answer

@Mark Feaver this can be one of the best times to buy (based on assumed interest rates) or a pretty bad time (based on employment unknowns) Most of the big investors are saying cash and have been saying that for awhile. If you have reserves and the property has high cashflow- invest some. Vacation rental- pause or don’t invest.

WOULD YOU BUY THIS PROPERTY IN THESE TIMES?

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