Monday, July 28, 2014

Another Rental Propportunity

One of my goals for this year was to purchase a rental property to further diversify my passive, well semi-passive, income sources.  After the first quarter of the year I figured it probably wouldn't be a realistic option because there's a lot of obstacles to overcome given my work schedule.  It had been a while since I looked at potential real estate investments but earlier this month I decided to browse around a bit on the internet and found a really great opportunity.

Based on the pictures I found online the property looks to be in pretty good shape.  There's laminate wood flooring throughout with newish appliances.  The previous owners had added on an extra room that added an extra 342 sf to the house which is essentially a second living room.  I used to live in this same neighborhood before my wife and I bought our own house and the area is in a great location with easy access to two main highways.  It's a small neighborhood off on it's own and isn't the greatest of neighborhoods but would probably be considered a B/C neighborhood.


Here's the details about the property.

3 Bedroom
2 Bath
Living Room
Study/Library
Extra Room
2,015 sf
Asking price - $109,000
Property Taxes - $1,800 annual
Insurance - $1,100 annual
No HOA fees
25% downpayment
4.75% interest rate

Whenever I look at rental properties I always like to run through a few scenarios to check out how the numbers look on both the low and high end of rent.  And I have to say the numbers looked really good for this property.

Low End of Rent


The numbers look pretty good on the low end of rent.  With just $1,200 per month in rent the property would provide almost $200 per month in positive cash flow.  That's a 8.45% cash on cash return and a 13.21% gross cap rate.  Not bad at all considering that's holding 8.33% of rent for vacancy reserves and 10.00% for maintenance.  Especially since this is on the low end of the rent scale.

High End of Rent

The numbers look even better on the high end of rent.  At $1,500 per month for rent the property would provide over $400 per month in cash flow while maintaining the reserves for vacancy and maintenance.  That would be an awesome 17.92% cash on cash return and a 16.51% cap rate.

Conclusion

I was very excited about this property and the possibility that it held as a rental.  It would have been a great starting point for my venture into rental property as an additional income source.  The numbers look good on the low end of rent and absolutely wonderful on the high end.  Plus this assumes that we paid full asking price for the property which anything less would just be icing on the cake.

When I was home this past weekend I called up my real estate agent and tried to set up a viewing of the property.  But unfortunately this one just wasn't meant to be.  My wife and I were very busy when I first got home and we weren't able to get in to see the property on Friday.  That was a big mistake since on Monday they had already accepted an offer on the property.  The stars just didn't line up for us on this investment but it's renewed my spirit in looking for quality properties that can help diversify our income sources.

At a average yield of 3% the cash flow from the high end of rent would be like doubling my current portfolio but would only use about $27k in capital rather than the current $156k that I have invested currently.   I want the majority of my investment capital to be in dividend growth stocks but adding in a few rental properties would be really nice.  I'll keep looking for other opportunities in both the stock market and rental estate, but I'm really hoping to add a rental property to the mix.  Using debt in a responsible way can really leverage up your returns.

11 comments:

  1. Thanks for sharing your analysis with us, JC. Sorry that this property wasn't available, but I'm sure you'll find something else. I'd love to find a rental property in Nashville, but the prices here are getting really out of control.

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    1. Addison,

      Luckily the Houston area hasn't had as much appreciation; although we didn't suffer much of the decline either. I hope to be able to find something and finding a property like this has renewed my spirit to keep searching.

      Thanks for stopping by!

      Delete
  2. I'm jealous of your property prices. I live in the next town up from Boulder, CO and it's still quite expensive. I'm hoping I haven't been a fool in my home purchase!

    We rented almost the exact same house here in town for almost a year (at the same price I might add) and it solid for TWICE as much. And that was back when the market was crap. Jealous.

    Wallet Engineer #1

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    Replies
    1. WE,

      Houston is definitely one of the cheapest of the major cities to live in. It's quite nice actually with a low CoL.

      Thanks for stopping by!

      Delete
    2. Hi PIP,

      We are in Houston as well and we have been looking to buy a house in cypress area for quite sometime now without any luck. Home prices are rising at faster pace than my saving rates hurting me :(.
      Good that you already bought a house a right time.

      Delete
  3. Those look like some great returns. I do not understand much behind direct Real Estate investment, and I am a little afraid to be too leveraged, but I understand that some people can do really well with this asset class.

    Because I know of my shortcomings, I still get some exposure through REITs.

    Good luck and hope you do find a nice opportunity for your money!

    Dividend Growth Investor

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    Replies
    1. DGI,

      One of the big reasons I've been so hesitant to move quicker into direct REI is that you can't get the diversification that I prefer. For $25k I can get a nice mix for my portfolio but realistically only one property. So the risk goes up but so does the potential return.

      The key to long term wealth creation is knowing what you're good at and what you're not. If you have no inclination or desire to be a landlord then REITs are a great second option.

      Thanks for stopping by!

      Delete
  4. Great analysis JC. I don't own my home and being a renter myself, it is interesting to see how the numbers play out. I don't know much about ownership/being a landlord and hence have some REITs in my portfolio for exposure to the real estate sector.

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    Replies
    1. DGJ,

      REITs are definitely a more hands off approach to getting real estate exposure. The purchase price is that all that more important for real estate because companies can grow much faster, at least more consistently. I like the possibilities of real estate but I'm not quite sure if it'll be right for me. If I do end up getting a property I'll sit on that one for a year before I make another move unless I find that I absolutely love it.

      Thanks for stopping by!

      Delete
  5. Have you considered putting in a backup offer?

    FWIW, I owned a duplex for awhile. I lived in half for about nine months while renting the other side. Ultimately I rented both sides for about two or three years. The experience taught me that I'm unlikely to directly own a "small amount" of rental property again. Here's why:

    1) Initially I self managed the property but found it too time consuming. I then tried three management companies and 1) they don't spend money like it is their own, and 2) they were no better at filling vacancies or picking "quality" renters than I was able to do on my own. Examples: Renters call for all kinds of reasons. e.g., the screen falls off the window and they call management to come put it back on rather than walking outside, picking it up, and putting it back on the window themselves. They put "something" down the toilet and cause a blockage; they call for help. They twist the knob too hard on the stove control and break it off. Ring ring. In most cases management companies send a $10/hour "handyman" over who fixes the problem and then charge $70 per trip. I had renters than seemed to have "repairs" at least monthly.

    2) When you are the landlord, Other People's Problems become Your Problems. e.g., one of my tenants told me that police were regularly showing up at the other side of the duplex. Yikes/sigh. Those frequently-visited renters moved out a month later unannounced and in the middle of the night with three months left on the lease. They obviously lost their deposit but ultimately the family had done enough damage (walls; carpet replacement; etc) that I would have kept their deposit anyway. Thus I lost 3 months rent on a 12 month lease, had the hassle of clean-up, the costs of replacing, and the issues of finding another tenant. Another renter begged for some improvements (adding A/C to an apartment that had been rented without A/C); I suggested that if he help me install A/C over a weekend, I would enhance his apartment and not increase his rent. I thought it was a win-win; we got 'er done with about six hours of work. Yet when he moved out four months later, his jaw was yapping about all the work he did for "free" and how any damage he did to the apartment should be paid for by me since he did me a big favor and helped me with the weekend A/C improvement project. And so on. I don't need Other People's Problems; I have enough of my own.

    The bottom line: I might own an apartment complex with eight or 28 units or a mixture of a dozen small homes in the same town. The larger quantity is critical to spread the fixed costs out over many units. e.g., the management companies run ads in the paper every week to draw renters; they might have a half dozen units open that can help cover the costs of ads. If you have one house to rent, you eat all the costs on one unit.

    Maybe said another way: If you love the rental market, have you thought about a REIT in the business? Personally I'd rather get 5%-to-9% and let someone else manage the properties. It would be awesome to build a local partnership where like-minded shareholders might co-invest to get you up to scale while keeping your returns at 15%+. Or maybe buy a low-tech car wash?

    Parting shot: I learned the hard way there is a reason someone wants to rent a 'low end' (for the market) house and leave you 'profit.' They likely have bad credit or have a personal challenge. In my experience screening renters when I was managing my own property, most could not pass a basic credit check nor did their ratios work well for percent-of-income they expected to spend on rent. I just don't need the headache.

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  6. Hey guys, love the post.
    It all can be related back to wise dividend growth investing. You must research, evaluate past performance, but in the end take a (hopefully) small leap of (educated) faith.
    The unwanted tenant is smart enough to sniff out a landlord that can be taken advantage of.
    I own a 4-plex and occupy the premier unit myself. There is a 1 bedroom loft, 1 bedroom basement and a 2 bedroom that I rent out. I have 1 parking spot for each unit. (4 total)
    A landlord tenant relationship is a unique one, but it is still cash in exchange for goods/service environment.
    So how do you find this ideal tenant? I often read that screening your tenants is paramount...and this is true. But it is not the fact that you screen your tenants, it is HOW you screen your tenants.
    Personally, I take it a step further. I don't screen my tenants, I research them. After screening tenants improperly and getting burned I use a simple approach. I have a sheet of paper that contains questions that a person who has nothing to be worried about will fill out and answer truthfully. All the info is below. The sheet also states (in clever fine print at the end) that I reserve the right to contact all parties listed to verify the information given

    1. Working professionals only!! No students, under grads, post-docs, not even a student with a girl/boy friend that is working and will be living there. NEVER!!! To confirm this ever important employed status, list place of work, length of employment, business name and business contact number. If they have only been there a short time, list the previous job info. Now I will follow up with this to confirm that they are actually working there and are on good terms with the boss. (be careful, some tenants will list their buddy at work and not their boss....so make sure to ask lots of questions and eventually the truth comes out)

    2. Ask for a list of emergency contact names, numbers, addresses and relations. This is not primarily for an emergency (although it could be). I use this to call if they are defaulting on payments or are trashing the place, having parties etc. I let family the know the situation they are in and this makes for a very awkward scenario for the tenant and can hopefully get your money at least get the tenant gone.

    3.Ask for previous landlord(s) addresses, names, numbers etc. If they don't fill this out and tell you "oh my other landlord was a jerk" blah blah blah, chances are they screwed him/her. If they do give it to you, again be careful its not a buddy posing as a landlord. Ask lots of questions and the truth comes out... "when did they pay the rent, 1st or 15th?" "What did they give for a deposit?" etc. A fake landlord will fold.

    This may seem like a lot of work, but a little extra work goes a long way. It pays to leave it vacant if you find a wonderful tenant a month or 2 later. Much better to loose out on a few rental payments than deal with any sort of nightmare you can dream of.
    Duane





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