All Forum Posts by: Robert Plumpe

Mike:

I live in a city adjacent to Harper Woods!  I also own property nearby.  Harper Woods is indeed a depressed community.  YOU HAVE TO BE VERY CAREFUL!  With that being said, there are deals where there is turmoil/trouble.

I've actually been looking in Harper Woods for commercial property.  I am a bit turned off it by it though, as Harper Woods may have the highest commercial property taxes in the country.  The commercial tax rate is about 5.5% of the true market value.  Thus, a $100k commercial piece of property will have taxes of around $5,500  a year.  You will also face a DOUBLE WHAMMY of properties being "over appraised"....

You also have to be EXTREMELY careful with any property that shares a border with Detroit (i.e. Kelly Road).  This is a very ROUGH area.  There have been robberies and even killings in businesses in this area.  There are even burned out businesses in HARPER WOODS.  Across the street in Detroit, it is "Mad Max" time...

One real estate broker I discussed this with says that this area is basically "un-investible" UNLESS you've got an owner operated/occupied building OR you have to be in this area for some particular reason.

I am a little more optimistic as this makes it VERY difficult to invest, but not impossible.

Good luck!

Hey all:

I was just watching an evaluation of a duplex on the YouTube!  The house is a duplex in Denver with a purchase price of $385K.  Each unit is a 1 bedroom/1 bath.  HOWEVER, the bottom unit is a "garden" apartment, and partially underground (brings reduced rent).

The presenter ran the numbers, and it appears that the property comes up with positive cash flow of about $700/month.   The purchase price was about $385k and the downpayment was about $15k.

The monthly expense for repairs/capital improvements was $50 a month, which the presenter thought was a bit low...but the units were recently redone and in EXCELLENT shape.  I think that is TREMENDOUSLY low as that might not even cover the roof/furnace/ac depreciation...but we'll go with those numbers just for discussion.

There was also no allowance for vacancies either...but the presenter says that Denver is a hot market, and rentals usually go quick.  I'll take him at his word, but I think a small allowance would be more appropriate.

WHAT REALLY STRUCK ME was that the purchase price (value of the asset) was $385k.  The owner is going to be clearing $8,400 a year under OPTIMISTIC conditions.

He is getting about 2.1% ROA ($8,400/$385,000) per year!  The use of leverage here is simply incredible.  I don't think he is getting anywhere near an adequate return and it is a terrible deal.

Why is that?  He is using close to $400k in assets to get  a return of $8k, 2% a year.  If something goes wrong, ANYTHING goes wrong...he is going to be underwater quick fast & in a hurry.

What happens if the economy goes south and real estate goes down 20%?   His investment would be then worth about $75k less, which is NINE YEARS OF PROFITS.

What happens if the roof needs to be replaced in 4-5 years?  That could wipe out YEARS of profits...

What happens if interest rates go up the next 3-5 years?  If the cost of a mortgage goes from 4% to 6% or even 7%, the value of that property is going to go down TREMENDOUSLY.

Using that amount of leverage (about 33:1) everything HAS to go according to plan for YEARS, or even DECADES.

So many people are making the mistake of not contemplating the amount of leverage that is in play.  That is one the things that lead to great crash of 08, and I see signs everywhere that is being repeated.

If you use enough leverage, almost ANY deal can look good.  I think that is a mistake.

Anybody else contemplate the amount of leverage they are using when figuring out a deal?

George:

I appreciate the input, but while a new owner (new arms length transaction) will cause the municipality to reassess the taxable value of property...it will not necessarily be established at the price you purchase it at...ESPECIALLY if the assessor's office deems it to be a "below market" transaction.

I've been fighting & going around on this with a few properties that I purchased a year ago and already own.  I bought them for 20% of what they were assessed for...and wound up waging an extensive fight with the tax board.  I managed to get a 40% discount.  I was seeking an 80% discount.  I was told by the appeal attorneys that I did pretty good....the tax situation is out of control in Michigan.

I am sure that a lease can be made to reflect the taxes...but the overall amount left over for the property owner would be lower.  The taxes in Michigan are so high, it is (going to) drastically compress the cap rates of properties.

In a nearby city (Harper Woods), the NORMALIZED TAX RATE IS 5%

If you want to get an un-levered return of 10% on your commercial property (which might arguably be low), you need to be getting a gross rent roll of close to 20%.  Thus, the most you can pay is about 5X the rent roll.

10% return

+

5.25% tax rate

+

2-3% maintenance charge/reserve

+

1% insurance

+

1% misc. charges

One of the reasons I got my properties so cheap was that the former owner did not have the time/expertise/energy to wage a protracted fight over the rates...

I guess where there are huge problems, there are also opportunities?

Hey all:

Here in Michigan, taxes and property are high, VERY HIGH.

I own a little bit of property and am looking for more.  HOWEVER, one of the biggest problems I'm running into is the property tax situation.  I thought taxes were bad in my suburb, but in a neighboring city, the rates are much higher yet!  The rates are so high, I think it makes investing in commercial property almost impossible.

The city in question is Harper Woods, Michigan.  For commercial properties in the Harper Woods school district (not Grosse Pointe), the tax rate is about 5.4% of the MARKET VALUE of the property.  Thus, if your property has a "true" market value of $100k, your taxes are about $5,400 per year.  This tax rate is higher than what the cap rates that some properties are trading for on the coasts!

To compound the problem further, a lot of properties are over assessed, making the tax rate even higher.  I was looking at a small, nicely maintained commercial building that had just over HALF it's rent roll going to pay the taxes...

Who really owns the property?  Arguably not the title holder, as most of the benefits (rent) of the property go to the city.

I'm completely shocked at how high this is.  The tax is really like a mortgage that can NEVER be paid off.

Does anybody know of HIGHER tax rate?

Hey all:

Just an update....

I wanted to be 100% sure about the tax rates in this suburb of Detroit and actually spoke with a clerk at the assesor's office to get some more information and guidance.

She said every property is unique and different...but that the general guidance is a tax rate of just over 5% of the market value of the property.  Thus, if a commercial property has a true market value of $100,000, the taxes will be just over $5,000 per year.

HOWEVER, she stated that some of the values have difficulties in being assessed.  The market was way down and has come back somewhat, but is still not "what the actual value is".  Almost all of the properties are carried on the tax books at rates HIGHER than what the current market value is.  Thus the ACTUAL tax rate is higher than 5%.

So to break it down, the property taxes are like a mortgage that can never be paid off.

I will almost certainly NOT be buying any property in this area, nor will I even be looking at any.  A 5%+ commercial property tax rate is a real hinderance to any development or construction.  I also would speculate that current commercial property owners are "stuck" with their properties.  Who would be buying in such an environment?

Hey all, woke up & this has been turning over in my mind the whole day.

I appreciate the feedback, and decided to do some research on the internet.  I have found out the following:

The owner did not say what the commercial property tax rate is in the city...but looking at the website run by the city it looks to be just about 11% of the "assessed value" which is 1/2 of market value.  So somewhere around 5.5% of the market value?

There is no question that the taxes on the property in question are $19,135 a year.  This is coming from the municipal website directly.

One of the myriad of problems is that the properties are "over assessed".  That is, their assessed value bears no relation to what their TRUE market value is.  The assessed value is supposed to be "true cash value" when the property is not sold under duress or at auction.

In this particular case, the "market value" (assessor's office) of the property is 35% more than the asking price.  The owner has been trying to sell for about a year or so...no takers.  If the property were to be reassessed at what the owner is trying (asking) to sell it for, the taxes would STILL be about $12.5k a year.  That is certainly better than the $19k a year currently, but still outrageously high.

The owner is getting up in years, and he admitted to me that he should have taken care of the tax situation years ago.

The property is zoned/classified correctly.

In Michigan, tenants leasing small offices typically do not pay property taxes, it is built into the price of rent.

I would be willing to bet that the current owner would take less than the asking price.  How much less is the $64,000 question.  Let us say $300k maybe?

So you get $38k a year in gross rent, minus 12k in taxes, leaves you with $26k.  You've got to pay a bit for non-allocated utilities, water & trash (water is INSANELY high in MI), insurance, repairs,  Maybe that might be $800 a month, which is probably WAY too low.  So that is another $10k a year in expenses and now you are left with $16k.  So you would be making 5% on your investment IF you get a reduction in price of over 10% AND you get a 33% reduction in the property tax AND no tenants leave!

Assume that the optimistic situation were to occur, THEN you add some more tenants and get the building to maybe a 90% occupancy...That would bring in about another $9k a year in rent.  So now you are NETTING (25k), 8.33% per year on your $300k purchase price.

Even if the property were to be purchased for $200k, you are still only making 12.5% on the most optimistic assumptions.  At $150k, you would be making 16.67%, which is pretty good...but you have a TREMENDOUS amount of risk from the property tax.  The property tax is acting as a form of gearing/leverage.

I just don't see how the numbers would work on this property, even under the most optimistic situation.  The main culprit is the high property taxes.

Hey all:

Got some information on a building I'm trying to evaluate and was shocked by some of the numbers...specifically the property tax.  The owner is getting up in years and is looking to sell out & retire to the North country.  He admitted that he should have contested the tax situation years ago but never did.  Now it has grown  into something totally CRAZY.

The building is a 5k sq. ft. brick, single story office building in the Detroit suburbs.  It is in good condition.  It is leased at about 2/3 occupancy with rents approximately at market rate.  Rents are definitely not the cheapest, but nowhere near the highest....could they go higher?  Maybe, but not much more.

The current rent roll is about $38k a year (2/3 occupancy).   Asking price is $345k.

Now here is where it gets crazy...property taxes are just over $19k a year!  

Who is really the owner here?  The title holder or the local government?  The city is taking almost 1/2 of the revenue generated by the property!!!!!!

I am sure the owner has the building outright, no mortgage/liens....so it is cash flow positive for him.  He also uses a very small amount of space in the building, so he gets that as a benefit too.

HOWEVER, anybody buying this building would probably be cash flow neutral/in the red?  This is assuming a 6% mortgage.

To get any type of return...you would either have to get to 100% occupancy OR get the taxes SUBSTANTIALLY reduced or some combination of the two.

I have seen many properties in the Detroit market where property taxes are simply not even close to what economic realities are.  I suspect the municipalities are desperate for cash and are putting the squeeze to property owners.  HOWEVER, this has got to be wreaking havoc with the real estate market.  Who would buy at that level of taxation?  The taxes are so high, properties have to be substantially discounted.

Anybody else encounter this in other parts of the country?

Try thinking of the deal this way...

If the numbers don't work for me, will they work for somebody else?  

What would I have to do to get the numbers to work for somebody else?

According to your numbers, the property is only bringing 7.1% of it's purchase price per year in GROSS rentals.

Could you raise the rent?  Good chance maybe?  How much higher could the new rents be?  20%?  Then revenue goes to 8.5% of the purchase price?  

Everything on this property is banking on price appreciation of the property...but that is largely assuming that a potential new owner is going to accept a LOWER cap rate than the current one!  OR that rents are going to up substantially in the future.

I know it is frustrating trying to get into your first deal...but be patient...it is FAR better to sit on the sidelines, waiting, WATCHING, LEARNING than to make a huge mistake, especially on your first deal using a tremendous amount of leverage.  Don't do a deal just to make a deal.

If you think you have to move on a deal now because the market is going to "price you out"....that is what happened just before the big crash in 08.  I would argue that is an indication we are getting near a market top.

I would pass on this deal.  Bide your time and make a better deal.

Jeff:

Believe it or not...that is rather expensive on a per square basis....I bought a couple of office buildings in reasonably good shape for $11/sq. ft.  They were unoccupied, but I am in the process of moving a business into one of the buildings, and will take maybe 3/4 or 80% of the space in the one building...so for me, that was a good deal.

Since the time I bought my buildings, I've seen ever cheaper/better? deals in the neighborhood.

None of these buildings are in Detroit....they are all functional buildings...no extensive renovations needed.

And yes, you are right that you could not build these buildings for the current market price...not even close.  Generally speaking, there is too much space/land/buildings in MI.  MI is generally a contracting state with a lot of problems...and while that is bad, it also creates opportunity.

I think there could be  a tremendous business moving "back office" functions from NYC, CA, and other high priced coastal areas to MI.  We have phones, electricity, the internet, mail, transport, and everything we need to conduct business.  If you do things right, land/buildings can be almost free.

I have noticed though that since the beginning of the year, there are fewer vacant commercial spaces in my neighborhood.  Buildings that had long been vacant now have tenants/businesses in them.

With one tenant, it is a precarious situation....they leave, then there is no question you are losing money, and losing big time.

Joel:

I am not 100% sure...but I the property is owned free & clear.  The purchase price is free & clear from any mortgage or liens.  The property tax is paid up.  There might be water/sewer/trash bills unpaid...but these would be de minimis.

It is too late to contest for this year's property tax, but not a problem as that is paid up.  If I purchased, I would contest for the upcoming year, and I would probably handle it myself.  At least initially....

I believe the tenant(s) pay for electric/gas & internet & phone themselves, as each unit is individually metered.  I think the landlord pays for water/sewer/trash.  I further believe each unit has it's own HVAC.

Of course, the landlord has to pay for his insurance, taxes, and CAM (minimal as there is no grass/landscaping) and of course repairs/capital expenditures. 

If the roof/HVAC/plumbing is good/reasonably good. I am not sure it would be bleeding cash at 1/4 occupancy.  Taxes are $1,000 month, that would leave $1,400 to other expenses/mortgage.  Not a great situation...but probably not to far in the red or the green either way.  The real question is can other tenants be brought in, and at what rent levels?  I think at one you are slightly losing/breaking even....two you are making money, three you are doing well, and at four you are really hitting it out of the park.  That is what has caught my attention to the deal.

Of course, if the property requires 100K+ in repairs/expenditures, then this is not a good deal...