Purchasing Multi-Family Housing - Posted by Jeremy

import · February 6, 2008, 8:19pm

Posted by Jeremy on February 07, 2008 at 18:11:06:

Wow! I can already see that a lot of properties that I thought may be good deals are clearly not good deals anymore.

So if I want to be conservative…which I think is a good idea for my first multifamily unit I should plan for the following “expenses”.

10% - Property Manager
10% - Vacancy
10% - Expenses/Repairs

So if there is a Multi-Family Property that has gross rents of $2,000/mo at full occupancy then I could estimate my NOI at 2,000 * .7 = $1,400/mo

$1,400/mo * 12 = $16,800/yr. If I want a 10% cap rate then the most I could pay for this property would be $168,000.

What am I forgetting in this calculation? What else do I need to consider?

Thanks!
Jeremy

import · February 6, 2008, 8:19pm

Purchasing Multi-Family Housing - Posted by Jeremy

Posted by Jeremy on February 06, 2008 at 21:19:33:

Can someone give me a formula on how to calculate how much you should offer on a multi-family housing property?

For example lets say a property is currently bringing in $2,000/mo gross rents. There are $200/mo expenses for the owner.

How much should be offered on this property?

What if it still brings in $2,000/mo but is only 75% rented? Should the offer be higher or lower than if the property brings in $2,000/mo but is 85% or 95% rented?

I have heard that to find out how much a muti-family property is worth you should multiply the yearly net rent by 10. However, even if this formula is accurate that is what it is worth not what a prudent investor should be willing to pay. Also, in the calculation of net rent do you include vacancies? If a property is 100% rented I think it would be foolish to assume it will always be 100% rented. How do you calculate for these vacancies? What is a standard vacancy rate you should use?

Thanks!

import · February 8, 2008, 12:58pm

The formula I use is HALF - Posted by William Bronchick

Posted by William Bronchick on February 08, 2008 at 13:58:05:

As a litmus test, I take gross rents and divide by half. Half covers everything but debt service. So, for example, if there’s $2000/month in income, you’ll lose HALF in vacancy, utilities, maintenance, repairs, managements, taxes, insurance, eviction costs, etc. Don’t forget MANAGEMENT, even if you do it yourself.

That leaves $1,000/month to cover a mortgage and break even. So, I’d value this at about $175k, and with 20% down you’d about break even. Depending on the size of the building, the age, the neighorhood, etc, your “half” might be as low as 35%-40%.

But, it’s a good starting point - if the seller is asking $350,000 on this, don’t even bother.

import · February 8, 2008, 7:52am

64/40 - Posted by pboone

Posted by pboone on February 08, 2008 at 08:52:27:

Jeremy,
I use this formula to see if I’m interested
Gross rents based on market knowledge
minus 40% expense ratio
Patrick

import · February 7, 2008, 4:19am

NO formulas !! - Posted by Jimmy

Posted by Jimmy on February 07, 2008 at 05:19:59:

If you paid 10 times gross annual rents in my area, you would be grossly overpaying for the property. and if you could find one for 10x in San Francisco, you would have the deal of the millenium. learn your market!
vacancy is unavoidable. in my 8 years in this biz, my “collection” factor is 85%. in other words, my actual rent collections run about 85% of the maximum possible. that 15% represents vacancy, slow-pays and no-pays. I find this to be a more realistic measure than vacancy alone. and one more thing: my collection factor is better for SFR’s than for duplexes, and duplexes are better than 4-plexes. and so on.
as for pricing. you gotta know your market. and you gotta know how to get inside of these places and turn them upside down. how much life is remaining in the HVAC system? the roof? the flooring? the WH? the windows? the exterior? have a look under the place in all the water areas (bath, kitchen, wash room, etc). major rebuild in your immediate future? check the drainage pattern on the exterior when it rains. grading work necessary? get underneath and look at the floor joists, perimeter joists, subfloor. water damage? termites? nice and level?
check the tenant roster. how many of them moved in recently? how many have been there for 3-4-5+ years? if you have a 4-plex with 4 relatively new tenants, ASK WHY. you could be stepping into a property that turns over constantly. and will drive you nuts.
look closely around the neighborhood. and drive around AT NIGHT. you might be stunned to learn that your quiet little neighborhood turns into a crack-infested mardi gras party when the sun goes down. I made this mistake once, and learned a nasty lesson.
there are a million lessons to be learned here. but for my money,the best numbers come from—>buying nasty rentals in need of immediate major work—>rehabbing them thoroughly—>refi my money out–>hold indefinetely. this formula allows me to command max rent on a minimum amount of capital. the renovated 4-plex you could buy from me for $125,000 (with $1575 in rents) cost me around $85,000. my numbers ROCK on this property. yours would be pretty good, but not nearly as good as mine.

import · February 8, 2008, 8:19pm

Jimmy … - Posted by Redline

Posted by Redline on February 08, 2008 at 21:19:46:

I agree with your post 100%, about the vacancy rates and the possible pitfalls. Been there, done all that.

I like your strategy … buy, rehab, refi, hold. What kind of neighborhoods do you do this in? The types of places you can collect rent at night - or Mardi Gras? lol …

Thanks,
RL

import · February 7, 2008, 5:50pm

Re: Possible MFH Deal??? - Posted by Jeremy

Posted by Jeremy on February 07, 2008 at 18:50:25:

Ok, I think I have found a property that has a lot of potential. It is an old farm house that has been converted into a 4-plex.

It needs quite a bit of work. Before I could do anything I would need to look into how much these repairs would cost.

A New Roof
New Siding
New Windows
New Gutters

However, even though it is in pretty rough shape it is currently rented for $1,800/mo. It is currently listed for $98,500.

If I take $1,800/mo and then subtract 35% for vacancies/property manager/repairs/expenses/etc I come up with $1,170/mo. $1,170/mo * 12 = $14,040/yr NOI.

At a 10% cap rate that gives the property a value of $140,400. If I want to purchase it for 20% below market value that takes me to $112,320. Then if I subtract $25,000 for repairs that puts the price that I could pay at $87,320.

Now, if I round the numbers off to $85,000 and I pay $25,000 for repairs that puts my costs at $110,000. With all of the updates I would think I could at least raise the rents to $2,000/mo.

If the insurance was $1,100/yr and my taxes were $1,100/yr and I had a loan at 7.5% on $110,000 then my mortgage payment would be $952/mo and my gross rents would be $2,000/mo.

That seems like a pretty good deal to me. What do you think?

Thanks!
Jeremy

import · February 7, 2008, 12:01pm

Re: NO formulas !! - Posted by Jeremy

Posted by Jeremy on February 07, 2008 at 13:01:06:

Jimmy,

This is exactly the kind of information I am looking for! Thanks for helping me out. Your strategy is exactly what I have been wanting to do. The numbers just make more sense to me than other investment methods. I would love to get more advice on how to best get started with this method.

I guess I could turn my original question around and ask this. How did you come up with the price of $125,000 on your four-plex with $1575 in rents?

Here is how I look at it:

$1,575/mo in rents * 12 months = $18,900
18,900 * 85% collection rate = $16,065
-10% of the original 18,900 for property manager = $14,175
-Estimated taxes of $1,500/yr (for me) = $12,675
Then there are repairs but I don’t know how much to estimate on this.

If I wanted a 10% cap rate that would give me a purchase price of $126,750. It would actually be lower because this doesn’t count repairs but it comes pretty close to the figure you came up with on the sales price.

Am I on the right track or still way off?

Thanks!
Jeremy

import · February 7, 2008, 10:32am

Re: NO formulas !! - Posted by camgere

Posted by camgere on February 07, 2008 at 11:32:18:

Jeremy gave you excellent advice. Read it a couple times.

Yes, you should multiply the rent by the occupancy factor to get the actual rent. Never use fantasy rent or coulda/woulda/shoulda rent.

CAP = NOI/PRICE
PRICE = NOI/CAP

So you can base your offer on the CAP rate. There is probably a prevailing CAP rate in your area for comparable units. Figure it out and use that as a ceiling. Your CAP rate should be above your cost of borrowing for a good deal. Some areas never see this. Try to get a great price.

I think you are way underestimating repairs. There is small stuff that happens all the time: toilet floats, faucets and appliance repairs. Then there is big stuff like roofs, AC, furnaces and carpets/flooring. You should have some monthly allowances for these multi-year expenses.

I have a cheesy calculator at:

http://home.earthlink.net/~camgere/rentalanalysis1.html

Click on CALCULATE a couple times to see example. Click on CALCULATE whenever you stop entering new data for your specific example. Use View:Zoom to make it bigger. This is closer to the detailed method of figuring expenses and rents rather than “rules of thumb.”

Good Luck!

import · February 9, 2008, 4:19am

Neighborhoods - Posted by Jimmy

Posted by Jimmy on February 09, 2008 at 05:19:22:

collect rent at night? heavens NO. My neighbornoods are lower-income and working class. I like to be in the “heart” of the rental market, where I have a big number of eligible tenants.

more upscale reatal areas don’t get me the same operating numbers. To get any given amount of rent, I need in invest considerably more capital. and finding major rehabs in nice areas is harder.

import · February 8, 2008, 4:03am

Re: Possible MFH Deal??? - Posted by Jimmy

Posted by Jimmy on February 08, 2008 at 05:03:53:

anytime you start off with monthly rents coming at 2% of your investment, you’re in good shape.

with that said, selling a house morphed into a 4-plex may be a chore. its harder than selling a 4-plex that was built to be a 4-plex. I’ve seen churchhouse conversions before, and they sit on the market for a long time.

maybe try to get this one for a few shekels less than $85,000.

one more thing: are all the utilities submetered? nothing will wreck great numbers like owner-paid utes.

import · February 8, 2008, 4:10am

Can’t Change My Market - Posted by Jimmy

Posted by Jimmy on February 08, 2008 at 05:10:44:

The $125,000 price is actually a little high. I have a pair of 4-plexes that meet the description I gave. They’ve been appriased twice in past 2 years, and both times they come out at $122,500 each. Unfortunately for me, that’s the market where these are located (about 60 miles southwest of Texarkana, TX ). but the flip side is this: I am a frequent buyer and an infrequent seller. I benefit from the low reale values here.

If I wanted to fetch more, it would have to be a seller-financed transacton where the buyer did not seek an appraisal. My lender will not allow me to wrap, so that possibility is out. [and the last thing i want to do is pi$$ off my lender–he’s been instrumental in the growth of my biz, and I need him to be happy and confortable at all times].

import · February 7, 2008, 12:55pm

Re: NO formulas !! - Posted by Eric in FL

Posted by Eric in FL on February 07, 2008 at 13:55:25:

What are you looking for a CAP or even more importantly cash flow figure per month? So many newbies never calculate the small expenses and that is why there are now enough foreclosures and shorts that my e-mail box is full every morning.

Best Regards,
Eric

import · February 7, 2008, 11:43am

Re: NO formulas !! - Posted by Jeremy

Posted by Jeremy on February 07, 2008 at 12:43:54:

Thanks for the calculator, that helps. My question is how do you know how much to put in for repairs?

Also when looking at comparable sales, how can you determine the Cap rate? The sale price is public information but how do you know what the rents were? How do you know the vacancy rates? How do you know the repairs? How do you know what expenses were the property owners responsibility and what expenses were the renters responsibility?

Thanks!
Jeremy

import · February 9, 2008, 7:06am

Re: Neighborhoods - Posted by Redline

Posted by Redline on February 09, 2008 at 08:06:58:

I hear ya, but what do you do about tenants not paying and tearing up your place (also more prevalent in the areas you’re referring to).

RL

import · February 8, 2008, 5:47am

Re: Possible MFH Deal??? - Posted by Jeremy

Posted by Jeremy on February 08, 2008 at 06:47:09:

Thanks for the advice. I will look into it.

import · February 7, 2008, 5:03pm

Re: NO formulas !! - Posted by Jeremy

Posted by Jeremy on February 07, 2008 at 18:03:42:

I am looking for at least a 10% cap rate. More importantly I want as much cash flow as possible.

I am new to rental properties so I am coming here to learn from the people who know more than I do.

Thanks!
Jeremy

import · February 7, 2008, 3:03pm

Re: NO formulas !! - Posted by camgere

Posted by camgere on February 07, 2008 at 16:03:16:

It was of course Jimmy who gave you good advice.

These are hard questions. So you have to come up with strategies.

I’d use 3% - 5% of rents for small recurring repairs. I’d use 3% - 5% for large repairs. These numbers could be 10%, but I don’t want to sink the ship without more information.

I usually use 90% occupancy, but I would find out the actual occupancy when buying an apartment.

Ask owners for the last two years rentals tax returns. The owners should give you the rents and occupancy. You can double check the gross with the tax return.

Read the classifieds for rentals, write down rental prices if they are on the “For Rent” signs as you drive around town. It is easier to become an expert on one area rather than a bunch of areas. This becomes you “farm” area.

With experience you have your own records and can calculate these numbers precisely. This is the advantage of experience.

Try to get some estimates of what a roof, AC etc… cost. Then divided by the number of years it should last. This will give you some idea of what you are getting into. Your building inspector should be able to help you with this if you actually make an offer.

Apartments are a collection of mechanical systems just like a car. As you walk around your house think of all the systems hidden there (water, electricity, heat etc.)

You can never predict the future, but you should at least have a plan for success if everything goes right or even close.

There tends to be a prevailing expense allocation for an area. Apartments, which are not separately metered, tend to have owner supplied utilities. I always pay for watering so my thousands of dollars of landscaping and lawns don’t get destroyed if I get in a p****ing contest with a tenant. I never pay for gas, electric, cable or phone (SFRs).

Do the best you can on your first rental and run the calculations so you’ll have good data for the following ones.