Walk away from first deal or negotiate some more? - Posted by Jon

Posted by paul on February 18, 2003 at 12:01:34:

Jon- welcome to the party !!! It would be wrong of me to try and make an exact call on your specific situation. All I can say is that you have found yourself right in the heart of the investment scene. Meaning that you are looking for good value, but you are finding properties with “issues”. You have good instincts, but also know that most good values come with issues. So if you want perfect properties be prepared to pay retail and to get “break even” or less income, and waiting to profit through time and appreciation only. Bottom line is, get up to speed on the repair scene. Not needing to be a tradesman, just being able to know what needs to be done and what are realistic prices.

I will say that from the little I’ve heard about your plumbing and electric problem, you are getting the typical rip-off story and pricing from the tradesmen. They throw the “code” bit around to wipsaw naive homeowner types into empting their pockets for them. A good inspector who isn’t solely operating to avoid law suits, but actually helps, should give you the skinny on what’s really needed and a fair pricing guestimate. There’s huge differences in costs for this work, and it takes knowledge and knowing who to use. Being that close to big bucks Beantown is a huge bill waiting to happen in and of itself, so even more care is needed for your deal in Wooossta!!

Good Luck
Paul in NC

Walk away from first deal or negotiate some more? - Posted by Jon

Posted by Jon on February 13, 2003 at 13:14:37:

This deal involves a 1904 3-family that’s in a good residential location of worcester where there are more single family homes than multi-family (Burncoat St area). The interior was all updated and the rents look really good.

PRICE: Originally asked for 349k. After around 30 days seller dropped it to 327k. I got it for 325k with 5k paid to me at closing from the seller.

SQ FT: 4000

MONTHLY RENTAL INCOME: $3220 (could maybe raise it another 100 or 200. The seller has two section 8 tenants living there currently)

YEARLY EXPENSES: (some of the data I obtained from seller)
2800 -Water

Total = $6267

LOAN AMT: 325k (Using a Non-Profit Organization to give me a gift for some of the downpayment and closing costs. I’ll most likely have to pay around 2500 at closing. Also, this is an FHA loan)

TOTAL MORTGAGE PAYMENT: 2400 (includes insurance, P&I, taxes). It could be a little lower since rates have gone down a little since last week when this figure was realized by my broker.

One Year ROI = NOI - DEBT / DOWNPAYMENT (Assuming 0% appreciation)
ROI = 38640 - (28800 + 6267) / 2500
ROI = 142%

Return on Cash = NOI - DEBT / NOI
Return on Cash = 9.24%

Cap Rate = NOI / Price = 38640/325000 = 11.89%

Okay, here’s the deal. My partner and I want to start buying properties. At first we want to buy good, solid rental properties that we can hold for a while and make money on. Eventually we want to start flipping. Right now, however, we don’t want anything that needs a lot of work since we don’t have the experince of fixing things up ourselves YET and don’t want to take a chance on spending a lot of money on basic repairs in our first year.

So cutting to the chase, during the home inspection of the property, we realized that a lot of the work done on the two major systems in the home were not done to code since the seller did most of the work. The inspector couldn’t believe how bad some of the work was and told me to bring in a plumber and electrician as a result. The plumber gave an estimate of 10k and mentioned things like “multiple fire hazards”, “wrong size pipe”, and “missing stop drains”. The electrician mentioned things like “fire hazard” and “one breaker in the electrical box is completely overloaded and bad”. Actually, while the inspector and I were in the basement, the lights in the basement were dimming on and off!

Well, we had our first meeting with the seller the other day to talk about what our inspector said. The seller and his agent couldn’t believe what the estimates were to bring the place up to code (12k for electrical and 10k for plumbing). I paid the electrician and plumber for a thorough estimate on what it would take to bring the major systems up to code, however, I didn’t recieve the reports in time for the first meeting. We will be meeting again this weekend for this reason.

I’m pretty confident the seller and his agent want to work with us. Never once did they say anything about not being willing to pay for something. To be honest, the seller was really embarrassed and turned red when we told him some of the things that were wrong with the electrical/plumbing systems. Of course we tried to be as polite as possible so he wouldn’t get offended. I think the seller really didn’t know that what he was doing was really that serious. Both he and his agent thought the plumbing estimate must have been wrong or must include upgrades as opposed to fixes since they make the case about how everything works. They do have a point. They didn’t really say anything about the electrical report since everyone usually agrees that you don’t want to jeopardize safety. Electrical work better always be to code I feel.

The Purchase and Sale is next week. Since the first meeting I’ve faxed the reports over to them. I’m hoping they will see what the inspectors said about the place and realize how big the problems are so they can cover the costs to bring the systems up to code.

Other areas that need to be addressed in the place are:

  1. roof needs to be fixed and it looks like they will pick up the cost for that, which is 6k. we brought this up in the first meeting.

  2. the siding on the house is wood and the paint is peeling. (i’m considering paying for this if they take care of the major systems and lower the asking price a little)

  3. Heating system needs updating. The central heat on the first floor has been dismantled so electric heat was installed (i’m afraid to find out who installed it). 2nd and 3rd floor have the old gas stove/furnaces. One thing I didn’t like walking through the place was seeing so many space heaters! (again I’m willing to cover this if the seller is willing to pick up the roof and major systems.)

The numbers for this place are much better than the numbers I’ve done for other places in the area that have come up recently. Right now my feeling is that we walk away if they don’t bring the plumbing and electrical up to code. Of course if they want to lower the price to 250k instead of fixing things, we’ll take it. Part of the problem here is that I don’t know how scared I should be when the plumbing guy says things aren’t to code. If anyone was in my situation and came across a property that looked great inside but found out the owner did poor electrical and plumbing work what would you do? would you make sure the seller fixed the two systems before negotiating further?

Sorry for the long e-mail but any advice or tips on how I should formulate a negotiating strategy from here on out would be greatly appreciated.