As some of you may know (if you follow me on Twitter or Instagram), I made an offer on a second rental property and it was accepted! Those waffles were laced with the sweet, sweet taste of victory.
— ErikMastermindWithin (@MastermindWithi) January 27, 2018
As for the timing, I realized if I wanted to buy another rental property easily, I’d better do so while I have still W‑2 income coming in.
- Stats: Duplex
- Unit #1: 2 bedroom, 1 bath
- Unit #2: 2 bedroom, 1 bath
- Size: 2,062 square feet
- Style: Conversion
- Condition: Better than average?
- Built: 1910
- Purchase Price: $69,000
- Repairs: est. $12,500
- “Total” Acquisition Cost: $81,500
What does that gross?
- Rental Income:
Unit #1: $675
Unit #2: $500
- Does it Meet the One Percent Rule? In spades!
- Total borrowed— $51,750
- Mortgage: $51,750
- Down payment: $17,250 (25%)
- Mortgage: $392 per month
- Taxes: $122 per month ($1460/year)
- Insurance: $83 per month ($1000/year)
- Vacancy: $90 per month ($1081/year) at 92 percent occupancy, $1175/mo rent
- Management: $117 per month ($1,320/year) at 10 percent fee, $1175/mo rent
- Repairs/Maintenance: $100 per month ($1200/year) because it’s an old house that needs some TLC
- Total Expenses: $904 per month
Cash Flow: $271 per month, or $3,252 per year
Cap Rate: $3,252 / $81,500 = 4 percent (edit: did I do this wrong? Should it be 9.7% as Stop Ironing Shirts says?)
My requirements for a property were:
- met the 1% rule
- good shape
- no pool or other time/resource intensive landscaping
- low maintenance exterior
I checked the crime stats in the area. Given that it’s the far end of my neighborhood, I already had a rough idea of what’d they would look like. This property is on the better end, so the stats look better for this location!
The house is in almost immaculate condition upon first glance. The walls are still plaster with nary a crack in sight. The floors are beautiful original quarter sawn oak. Whoever split the house into a duplex did a really great job at not ruining the original layout of the house, so if a miracle happens and property prices shoot up, I could convert it back to a single family house. Until then, it’s more useful as a rental.
The outside of the house is in good shape. The siding is being billed as “maintenance free” aluminum siding, so I’m really looking forward to not having to worry about painting a wooden exterior. The roof is old. It’s in good shape, but best we can tell it was last replaced in 1994. No big deal when the roof is almost as old as me, right?
This experience of buying a property has been fairly routine, with a few minor differences. I’m not buying this property to live in, so I don’t have to care about finding a property with an open unit. Since I’m not living there, I can’t use a VA loan which means I have to go the conventional route. Since I’m not living there, that means any loan I get will be pretty ridiculous. Add in the fact I’m being responsible and not taking out much money (see also: under $100k) means this whole finding someone to give me a mortgage thing has been more difficult than I thought it would be.
I got offered the following loans:
- 30 year, 25% down, 5.271% APR
- 5 or 3 year balloon mortgage, 20 year amortization, 3.99%
- 15 year mortgage, 25% down, 4.375% rate
I wanted a 15 year loan to knock out the mortgage as quickly as possible, but I had to call 8 different lending institutions before I found someone who could give me one. A few said I couldn’t get one because we’d be running afoul of predatory lending laws. A 4% ROI isn’t the best, but it’s a 15 yr mortgage so I would be paying double ish what I would be with a 30 year loan.
The list price was $79,900. I offered $79,000 with them covering closing costs and an inspection. This meant I ended up with a $2,500 credit and a chance to inspect the house for flaws. Let me tell you what, that $350 I spent on the inspector is the best money I’ve spent in years.
Because of inspection I had done, I’m walking away from the property.
Well, as immaculate as the property looked during an open house, a closer inspection revealed a LOT of things going wrong. The current owner, as far as I can tell, is an older gentleman who no longer has the time or energy to keep up with an investment property. There is a lot of deferred maintenance that’s piled up.
In no particular order the house needed the following work done:
- New roof within 2 years: It was last done in 1994. It passed inspection, but barely.
- New furnace: That bad boy has been around 30–40 years at least. It’s in good condition, but efficiency wasn’t a concern when it rolled off the line. A new furnace would cut down on utilities (that I would have to pay).
- Main water line dripping into the basement.
- Some electrical repairs (bad sockets and things not turning on)
- Probably some foundation work: the inspector couldn’t tell if the dirt slide was new or not, but the fact it happened had him concerned and would need a look from a foundation guy.
- New gutters
- Bathroom repair/reno: the upstairs bathroom is leaking.… directly into the bathroom downstairs. Both bathrooms are ugly and who knows what you’d find once you get into everything. I could see that turning into a total gut job.
- Stair banister loose and spindles needing replaced
- Some light regrading outside the house to further direct water away from the foundation
- New doorbell
Now, some of those things aren’t a big deal. Some of them are a very big deal. Added all together, though, and I could easily spend the entire cost of the house on renovations. This is not what I need right now with quitting my job and striking out on my own.
The financing was also more than I expected. Just the down payment was going to be about $23k! That is a massive chunk of change. I have it, or will have it by the end of March, but that is almost ALL my cash on hand. I would feel incredibly stressed and uncomfortable starting my solopreneur life with little cash in the bank. Then add in all those repairs? And all the things that need to be done with my first property?
No, thank you.
Watch out for sunk cost fallacy
“Well, I’ve already put down $500 in earnest money and $350 in inspection fee. It’s too late to back out now.”
NO. STOP. DANGER WILL ROBINSON.
That $500 earnest money can be gotten back. I’m waiting to hear back from the seller with regards to my revised offer. If he doesn’t want to fix one thing, I can and will be walking away- with that $500 in my pocket.
Even if the seller did accept my revised offer and fix all of my demands (highly unlikely), I’d still walk away. $500 is a drop in the bucket in the grand scheme of life. You know what’s a much bigger deal? Writing a check for $22k and then being on the hook for tons of repairs.
I’m not about that life.
Shout out space:
Thank you SO MUCH to the following people for all the encouragement, inspiration, and practical advice. I literally could not have done it without these amazing folks behind me. I highly recommend reading all of their stuff on real estate, as this is everything I used to find and buy my property. (and BiggerPockets. Can’t forget them!)
Paula Pant @ Afford Anything: My OG Real Estate inspiration
Chad Carson @ Coach Carson: Super useful posts on RE from a guy who owns tons of rentals and a super nice guy to boot.
GuyonFire @ GuyOnFire: A supportive and constructive voice to listen to when navigating the murky waters of rental purchases.
J @ Millennial Boss: for being my awesome co-host and a steadying influence in my life
Erik @ Mastermind Within: for walking through the gnarly house and being a sounding board for ideas!
Thanks for reading! Have you walked away from a big deal? How’d it work out for you? Any desire to get into real estate?