Recently a new member of Bigger Pockets posed a good question.  Why keep any properties long-term if you can make 30-40% ROI reselling a property.

I had an answer in my head, but being the number crunching type of guy I am I wanted to see what the actual numbers would look like.

Here is a spreadsheet I made to answer the question.  I made some assumptions:

• I assumed we are using all-cash
• I assumed the properties will be self managed rentals and expenses are 40%.  I think this is high, but Bigger Pocket members love the 50% rule (less 10% for management)
• I assumed 2% of the purchase price for acquisition cost
• I assumed 8% of sales price for selling costs
• I assumed after 3 years the landlord will sell the property
• I assumed that ARV would remain the same after 3 years
• State and federal tax rate on short-term capital gains is assumed at 40%
• Long-term capital gains tax is assumed at 15$

I ran three properties I decided to keep as rentals.  Property A was an average deal, Property B and C are both pretty good deals (as far as discount achieved).

If you can get to 10 free and clear rentals you would be pulling in roughly $55,000/year after taxes for managing those 10 properties and you could stop looking.  You would have to flip 3-4 properties a year (EVERY YEAR) to achieve about the same after tax profits.

I still buy-sell 15-25 houses a year because I need to generate additional investment capital.  But I think investors are making a big mistake if they completely overlook purchasing rentals when prices are at these levels. If I included the 2006 value of Property A, B, C and did another run with that being the disposition price the landlord would make even more.

I was going through some year to date profit and loss numbers on my portfolio of long-term properties.  I do this every couple of months, it really helps me to know the numbers so I can see if there is anything I need to tighten up and what I should buy more of.

After looking at the numbers on some of my duplexes I was really surprised to see how similar the combined P&L was to most of my single family properties.

The numbers look pretty close, don’t they?    The problem is: I paid less for the house; I only have to manage one tenant with the house; and in the last cycle they appreciated at pretty much the same pace.

I know I only provided one example, but I have probably analyzed 30-40 duplex in areas I buy and I can almost always achieve a better cap rate with a single family house.

I have no problem buying and managing duplexes, but sometimes investors internally count them as two houses.  The numbers are almost never as good as two houses.

What I dislike about duplexes

• Duplexes have shared walls (tenants fight)
• Turnover is Higher
• Duplexes seem to be harder to buy at discounts (distress situations allow for discounts)
• You typically pay for water/trash at for multi-family properties
• Smaller Number of Available Properties

What I like about duplexes

• You have two incomes
• Maintenance is less (one roof, one lawn, etc)
• Less competition, many buyers would not even consider a duplex

Disclaimer: I do not own a lot of duplexes or any fourplexes and I do not specialize in managing them.

When I first started as a landlord it is pretty hard to determine what to rent properties for, as you have no idea what the market is like.

There are some really easy ways to get the job done.

Call Local For Rent Signs

This method is too easy.  Drive the neighborhood and call 3 or 4 of the for rent signs.  You can honest with who you are or you can pretend to be a renter if you want.

Finest Expert (formally Ziply)

Finest Expert is pretty good because you can enter the bedrooms/bathroom configuration of your house and it factors that into the search.  I took a screenshot of a search on a property I know about.

RentoMeter

This site appears to have been recently re-done… it doesn’t list the properties bedroom/bathroom in detail like Finest Expert does.

How to determine the final price?

So now that you have a price range, how do you determine what to list the property for?  All the landlords I know do it a little different.  Some landlords like to keep their prices about 10% under market so they keep tenants longer, other landlords like to maximize cash-flow and price at or above market.

We typically fix our properties up quite nicely (mostly because we buy them in such poor condition to start), so we try to price them right at market for the area (hoping that our property being in good condition will get good caliber renters).  We also use the retail pricing tricks and try to price properties, for example, we might price the above referenced property at $995 or $1095 just to give people the impression that it is under $1,000 or under $1,100.

If you cannot rent the place in 30 days you should lower the price.  We always rent the rent amount, the number of bedrooms and bathrooms on the sign and try to do 3 signs per property.  Two on the yard and one in the window.

Determining the after repaired value (ARV) of a property is probably the most important skill an investor can have!   We analyze over 100 properties a week and being able to quickly determine what they are worth saves us hours of time.  If a property is way overpriced we don’t waste our time pursuing the property and if it is under priced we drop everything and attack it.

But this skill is what sets the pros apart from the Joes.  If you have 10 properties for sale in one area, how quickly do you think you could determine the value of a property in the same area?  Usually within minutes, you don’t need to pull the comps, because you know the comps and what buyer’s want.

When trying to determine the value you need to keep a couple things in mind.

Don’t be overly optimistic!

This is the quickest way you can lose money… if you screw up on the ARV value you are behind the game before it even started.

Don’t be too conservative!

Just as important, you cannot be too conservative or you will never buy anything.  A lot of people want try to be super conservative and this can stop them from every buying anything.  The comps are the comps.

Watch the Small Things.

Your job is to be a detective.  People often forget about the small things.  Are you comparing a 10,000 sq ft lot to a 3,500 sq ft lot (you shouldn’t be).  Are you comparing a 1950′s built house to a 1990′s built house.  There are a lot of other subtle things too – comparing a single story to a 2-story.  You can break these rules, but you should know you’re breaking the rule and factor that into your math.

Ask an Expert.

I have valued hundreds of properties, but I still run into weird situations and it’s the perfect time to call in the help of my friends who do appraisals.

Become an expert at this and you are ahead of the pack!

I guess I haven’t blogged at all about House #33 yet.  We put it under contract last week after having  the listing agent trying to get our offer accepted for almost 4 weeks.  Neither of us were that excited about the house, no garage, flat root in a mediocre area.  As you may have heard, California has been in a huge rain storm over the last 10 days so my partner was at the house and the roof was leaking.  We mentioned this to the agent and she basically said, the bank will do nothing to fix it, so tarp it.  Okay, we can understand that, so we go to tarp it and the electric meter was missing.

This basically means that the cities Code Enforcement Department has requested that Edison removes the meter due to code violations.  The bad news is, this house has an illegal laundry room added to the back and is in overall bad shape.  We were not very excited about having the City do multiple inspections on the property and once they completely sign off on the condition you can get electricity to the site (meaning you have to run on generator or the neighbors power while you’re doing the rehab).

So, not being that excited about the house in the first place, we requested that the meter be returned or we get a discount.  The agent said she would get the meter back on the property as the bank is not willing to provide a discount since we are buying the house “as-is.”  As a side note, when you a buy a house as-is, it means in the condition it currently is, not any possible condition the property could be in.  If it burns down when I am under contract it is the Sellers responsibility to return it the condition it was in when I originally looked at it.

The agent emailed today and said she can not get the meter back and we are going to have to do it. So I said we would like to cancel and this deal is dead .

Oh well…

When you read the title of this thread, you are probably wondering where I am going with this article.  This is not about working with or being friends with your competition, although I think that can be valuable.  It is about knowing the deals other people are getting.

I have this terrible habit, it is discouraging most of the time.  Once every two weeks or so, I do my target search, but rather than looking for active properties, I am looking at closed sales.  I basically go through every deal and I do a title search on that purchase.  When the property is bought in an LLC, Corp or with no mortgage you know it is to an investor.

Once I have the name of that entity, I can do another search that let’s me see all the properties they own.  I also check the California Secretary of State web site and see who the owner of the entity is.  Not only does this process make me feel like a stalker (lol) but it gives me an idea of two things: the deals other investors are getting in the market and who is doing the buying and how they are taking title and getting financing.

When we wholesaled House #21 when my friend mentioned who the buyer was, I had no idea who he was.  But when he mentioned the two entities he uses to buy in, I instantly knew he was one of the biggest players in my market.  That made me feel pretty comfortable with the deal automatically.  We also had a good chat and we had both heard of each other, but never officially met (we still haven’t).

The reason I am bringing this up, is I did this search last night, and normally I get pretty frustrated that people out there are getting the smoking deals, the market really has changed.  There was maybe 3-4 deals I would of bought at the prices other investors got them compared to the 20+ I am used to seeing.   This means that the market is getting saturated with other investors and everyone is sacrificing profit margins to buy properties.  Fix and flippers (aka: me) are the first people who have to back out because we have to pay 10% less than a long-term investors out of the gate (can you say closing costs).

Don’t get too discouraged, we do have 1 house in escrow still, and 4 or 5 rehabs going on.  But clearly it is time to broaden our horizons until banks release some more inventory.  I am just lucky that we have the inside track with quite a few REO offices, they should be good for 1-2 properties a month at great deals.

For New Investors

Please do this search, drive-by the properties and analyze the deals.  If nothing else, this will provide you massive encouragement that other investors are out there succeeding in real estate.  Your personality type should know that if someone else can be successful at something, you definitely can be too!

Finding that perfect deal that meets all the rules is already so difficult, but there are some problems properties have that no investor can fix.

I thought I would make a list of some of the things that get me to pass on a property, no matter what the price is:

• Busy Streets
  This is a judgment call, but if you have to risk your life to pull out the drive way, it should be a pass.  The worst is a corner lot, of two busy streets.  No investor can fix the busy street to a house.
  
  
• War Zone Neighborhood
  When you are first getting started in a part of the City it is important to drive by the house at night.  Most of the neighbors are home and you can see what the street really looks and feels like.  No investor can move the house from a good neighborhood to a bad one.  Your house will be vacant for a lot of the time you are working on it.  If it’s in the wrong spot, it is going to get vandalized.
• Mobile Home at the Price of a House
  A wholesaler tried to sell me a mobile home on a lot, for the price of a house yesterday.  The sad part is she laughed when I asked her if it was a mobile home, so she didn’t even know.  A rectangle layout, with a raised foundation and a 2/12 pitch.  Banks don’t like these properties, owners do not like these as much.  People make a lot of money in mobile’s, but s0metimes REO agents list them as houses, and use comparable sales of standard houses.
• Bad Additions that Cannot be Removed Easily
  We are used to removing un-permitable, unsafe additions.  But sometimes the homeowner has gone so far, that it is not cost effective to do anything with the property.  I was in a property about a month ago, they converted the house to a duplex and split the house right down the middle and put a kitchen on both sides of that wall.  We’ve seen that before, but they also converted the garage to living area and made some additions off the back of the house.  I would not take this property for free, because it costs so much to get back to a livable condition there is no profit left.
• Former Meth-lab/Drug House Properties
  In California, you have to disclose if you house has been involved in a meth-lab anytime in the past 5 years.  I am sure there are people who specialize in these type of properties, but I would be very hesitant to get involved.  They’re difficult to sell and there are a lot of disclosure requirements I am uncomfortable with it.

Everything else, I love to buy!

One of the age old debates of real estate is should an investor buy properties in the “war zone” areas.  These properties usually go for very low prices because a majority of investor won’t touch this area.  The numbers almost always look good on paper, but what happens if your property gets vandalized, what happens if your neighbors are gang members?

From what I have read the definition of a “war zone” varies greatly.  Does it depends on the neighbors?  Does it depend completely on the city the property is in?  Do you base it completely on what other people say?

I will not invest in what I consider war zones, but I will drive by questionable properties and make my own decision.  My main factor is, do I feel safe getting out the car and looking insde the property.  If I am comfortable getting out and taking a look at it, it usually passes my test.

Neighborhoods Can Be Deceiving

Some of the properties we have bought seem like they are in great areas and the longer we own them we learn that the area is not very bad.  House #3 was in what we thought was a great area.  The house was built in the 80′s, not too many properties for sale in the area and what seemed to be good neighbors, all great signs.  Once we finished the remodel, the staging furinture got stolen and someone broke in the garage and was sleeping there.  If you go to a property in the evening you sometimes a get more accurate representation of how safe it is.

This works both ways though.  Sometimes what seems like a bad area on paper is actually pretty good.

When the Market Recovers War Zones Go Up in Value Faster

Buyer’s call the shots right now.  They want to buy the best inventory at an affordable price.  This forces banks to unload “war zone” property at a steep discount.  As the market starts to recover, buyers will get more aggressive and trying to acquire property the condition and neighborhood will become less of a factor.

If the property is somewhat safe, war zone investors can do very holding the properties.  As long as carrying costs are not huge (renters damaging properties, vandalism etc).

Remember to give every property and city a fair chance.

When you submit an offer on any piece of Real Estate you will have to provide an Earnest Money Deposit on the property.  This demonstrates that you are willing to take action on purchasing the property and you actually have the funds.Your deposit is a commitment to purchase the property and after your agreed inspection periods are over you have to purchase the property or the seller will keep your funds as damages they’ve incurred for stopping marketing the property and holding costs.

Now the investor’s goal is to put as small of a deposit as possible and the seller would like the largest deposit as possible.

The Standard

From what I’ve seen the standard was $2,000 – $3,000 on properties under $100,000 and $5,000 on properties for sale over $100,000.  A 10% earnest money deposit will show a bank that you are serious about the process, but usually will not overcome a higher offer.  Realize this is a negotiation ploy and it really can show how serious you are without costing any extra money.  I know of a couple different investor who brought in an earnest money deposit at their full price, if that doesn’t show the bank you are a serious buyer, I don’t know what will.

The Process

Depending on your agent, you typically will not need to provide the actual check when you write the offer.  We just write out a check and scan a copy.  In California, the seller typically picks the escrow company.  So you would just write a check out with a bunch of spaces “                              Escrow”.  When your contract is accepted the idea is, you can write in the escrow companies name in the blank space, “West Coast       Escrow.”

The Accepted Offer

More often then not, the seller wants a cashier’s check versus a personal check.  So the original check will be thrown away and you will have to go to the bank and make a cashier’s check.  If you are bringing it directly to escrow always make a copy first and email or fax it to your agent so they can pass it on to the seller.  Sometimes they will take a personal check.

Why is my Agent telling me to write a check in his Company Name?

Some real estate agents sent up what is called a “trust account” for their clients.  They handle money for clients and will pass it directly to escrow.  In my experience this is becoming less and less common as there is a lot of liability that comes with handling this money.  It is totally legitimate to do this as a buyer and it is heavily regulated.  Most agents prefer not to deal with it, as it is one of the most common reason for them to lose their real estate license.

Some things not to do

• Do not ever write an earnest money deposit in for less than $1,000 dollars (especially to a bank)
  This shows that you are in-experienced and do not have a lot of cash.  You should offer a low price if you would not be willing to put a $1,000 deposit up on the property to get it.
• If you get an accepted contract, have the money!
  Real Estate agents can tell very quickly when someone is trying to buy time.  If you do not bring a cashier’s check to escrow promptly (usually within 2 business days of an accepted contract), you will be thrown out of escrow and ruin your reputation.
• Get a Professional Check Book
  There are a lot of fun check book designs out there.  Disney characters, the galaxy, etc.  But if you want to come off as a professional investor try to go with a professional check design.

Wholesaling Properties

If you wholesale properties.  ALWAYS make sure that your buyer’s earnest money deposit is bigger than the one that you put with your purchase escrow.  If the buyer does not perform you want to be able to keep their deposit at damages and not lose out.

If you have been following the blog, you probably know that right now our biggest problem is not finding a willing buyer, but getting a bank that is willing to fund the loan.  The rules have changed and appraisers now are our biggest challenge.

Most of our properties sell to FHA Buyers, so we already have to deal with the FHA 91 Day Rule.  Some banks allow the loan officer to pick the appraiser, so we try to work with smaller lenders and ones we know give us some control in the process.

When all other attempts fail and we get a review appraisal ordered or we are working with a big bank and cannot recommend an appraiser for the original appraisal we are stuck and need to find a way to make lemonade with lemons.

Step 1, typically the appraiser will call the seller’s agent and ask how they can gain access to the property.  At the start I’d happily give them the lock-box combo and let them view the property at their convenience.  We have changed our game plan and now we always go meet the appraiser at the property.

Step 2, we are never very pushy with the appraiser but we tour them through our property and spend a lot of time discussing what we did to upgrade the property.  Essentially, our goal is to build a relationship with them while making a case for the increased value.

Step 3, we discuss that we have received multiple offers on the property and talk about how some appraisers can use these in lieu of comparables.  Most appraisers have turned this method down as I think most of them are uncomfortable with this.

Step 4, we offer our business card and discuss how “hot” the current market is with them.  How we have seen multiple offers, values increasing etc.

We have used this strategy three times so far and we have got the desired results everytime.  Some appraisers just will not work with you regardless (especially VA and special program appraisers), so we don’t expect it to work all the time.  But us being there and trying to be friendly is not going to hurt our value and in most cases I think it will help matters.

My partner met someone at House #4 for a FHA Bank of America loan on Thursday.  The appraiser was adament on how impressed she was with our work.  At the end of the meeting she told him “not to worry about the value, as we will easily get there.”  That is sure a comforting thing to hear in this market!!