32 months ago, I answered Cu Nguyen that there were 83 single family houses in Sacramento and 10 halfplexes, that were list priced under $100,000. Today those numbers are 958 and 66 respectively... That is a tenfold increase in the
cheap house inventory.
I have been following my own advice. I bought 4 of those cheap rentals under $100,000. The cash flow numbers worked out as I estimated, except better. (I do my own property management)
the interest rate went down to 3.5% because I took the adjustable rate (the lifetime CAP is 6.5%), I am saving $200 per month on interest, but we know that will change when rates go back up someday.
My insurance at $540 per year per unit is either $15 higher than my estimate (no flood insurance), or $15 lower than my estimate (These are not in flood zones).
I found that the City of Sacramento bills the property owner, not the tenant, for the following utilities: Water, sewer, garbage and greenwaste pickup, storm drainage and street cleaning. This costs me $110 per month.
I may have to expand my five year hold plan to a ten or eight year hold because the appreciation in value has not yet come to these properties. On the other hand, they have not lost value either.
So the average for these four is $900 Rent, $470 Interest and expenses. Monthly cash flow each $430. Setting aside reserves in a savings account for future maintenance, delinquency, or vacancy, our cash flow averages $335 per house.
That $335 works out to about a 20% return on our equity of $20,000 per house. Not glamorous. But it helps ease our retirement fund worries.
As an investor your goals should be two fold - 1) cash flow; and 2) equity appreciation. Some areas of the region will offer greater opportunities for equity appreciation than others. Your Realtor should help in identifying those areas for you. Those areas will be priced well above $100,000. And, you should be planning a minimum of a 5 - 7 year investment window for your ROI. Real estate works best as a long term investment with a focus on equity appreciation (while not forgetting cash flow).
Just my two cents!
for some samples... I've put together some "cash flow" figures for some properties that I have seen... go to: http://www.sacto-cashflow.com/TheyCallMeMrEd and you'll see that I've got a couple posted there...
I have found that Duplexes are probably the sleeper investment in this area because there are fewer buyers looking to buy them then there are single family homes...
There are many REO houses for sale. Many are over priced, some are priced extra low to attract multiple offers (Creates an auction situation. - Buyers bid the price back up to market value)
A few are just priced to sell quickly for what they are worth.
Don pointed out the improbably low rate on the loan: The interest rate of 6.5% would adjust, it is not for a 30 year fixed rate loan. The triple A investor rate for a 30 year fixed will be closer to 7% for someone with excellent credit.
When you have a single rental, your vacancy or delinquency rate is either zero or a hundred percent. -
A five percent average vacancy delinquency rate is optimistic, a 20% vacancy /delinquency rate is pessimistic. Other investors in the market are optimistic, If you pencil out your proforma to worst case scenario every time, you will never buy an investment property, because no property will ever cash flow positive when using the worst case scenario.
We all agree that capital appreciation is an important consideration, Your question was about positive cash flow, so I addressed that in my answer. The fact is that the lowest priced properties are the least desired neighborhoods. Homes in the least desired neighborhoods can give you a positve cash flow with 20% down.
Triple the purchase price up to $300,000 for a median priced house, and you will find that market rent has not even doubled. So how is a $300,000 home going to flow positive cash? I challenge anyone to show the numbers (as I have with a house in a "zone") to pull a postive cash flow out of a $300K home in Sacramento. I challenge that it can't be done.
Don's sandwich theory is a creative and intriguing concept. REO's won't do lease options.
Finding an owner who is willing to lease a house to an investor at a rental rate below rental market value for an extended period of years would be a challenge, to say the least. . Owners who want to sell, want to sell. Owners who want to lease, want market value rents for their properties. Don suggests you find an owner who is willing to hold his property for up to five years, take no profit when the market rebounds in value, take the loss if it falls, be willing to continue to be on the hook for the mortgage payments, property taxes, and insurance payments, while being partially compensated for those costs by you, the investor.
Don didn't tell you how to find such an owner.
Admittedly, I'm not at all familiar with Sacramento, but you raised a good point about the quality of the neighborhood in which a house is priced below $100,000. (In areas of South Carolina, you can get a really nice house for that. In the Washington, D.C., area, you'd end up with a mobile home.) And, at least in the DC area, investor money costs more than 6.5%, the vacancy reserve is too low (you should, in your calculations, assume up to 2 months vacancy a year; this calculation assumes 1 month every two years), and there's no protection if property values decline. If they do, if housing prices decline, then it's likely that rental rates will decline accordingly.) Still....
Let me offer another possibility. Investigate the possibility of a sandwich lease-option. You'd lease the property from the owner for a set amount, with an option to buy at a set price. You then turn around and lease the property to a tenant buyer, giving the tenant buyer the option to purchase it. The amount you're charging your tenant buyer for the lease is slightly higher than the amount you're paying to the owner, and the purchase price you'd charge the tenant buyer is slightly higher than the price you have optioned it for from the owner.
Advantages: You don't have to put 20% down. You can sometimes do lease-options with no upfront option money (the value of the lease is the valuable consideration). Or, if you do put down an option fee, as an option fee it's credited toward the purchase price of the property. Typically, although everything's negotiable, some of the monthly rent you're paying is credited toward the purchase price. And you'll find that any upfront option fee plus the monthly rent credit builds up your equity a lot faster than an amortized loan will. If the market strengthens in 5 years or so (right now, your lease option in California probably should be for 5-7 years), you've locked in today's prices. And if the market falls further, at the termination of the lease, as with any lease, you just walk away. You haven't bought a depreciating asset.
What you have to do is negotiate a slightly below-market rent for the property from the owner, and then offer it for somewhat more to the tenant-buyer. The advantages to the tenant-buyer are many. He/she, too, locks in today's price when he/she buys. You'll typically credit some of the tenant-buyer's lease payments to the purchase price or closing cost, so there's some equity buildup for the tenant-buyer. And it's a way to offer the possibility of home ownership to someone who otherwise might not be able to afford it today.
Offer your tenant-buyer a shorter lease-option period than the one you have with the owner, so if the tenant-buyer doesn't purchase, you have time to find another tenant-buyer. Or, if property values have gone up, you can buy it and realize some instant equity. Or, with your option, you can sell your option to an investor or home buyer.
One other nice thing about lease-options is that you're not stuck looking for dirt-cheap properties that'll cash flow. Any property will cash flow if your expenses are less than your income. You could lease-option a nice home in a nice neighborhood, and so long as the lease is somewhat below market, you can make it cash flow.
Hope that helps.
The math for a moderately leveraged $100,000 purchase is this: $20,000 down plus $5,000 in closing and loan costs, plus $15,000 in rental home preparation costs* = Total out of pocket initial investment. = $40,000.
rental preparation costs* such as paint, lino, carpet, landscape, appliances and other repairs and decorating, initial advertising for tenant and tenant screening.
Loan $80,000 at 6.5% note rate interest (investor rate is typically higher than owner occupant rate)
Monthly interest expense = $433.00
Property taxes = $85
Hazard insurance $30
Flood Insurance $30 (not always required)
Maintenance reserve $50
Property management fee $60 (if not managed by owner)
Vacancy reserve $45
Principal paid on loan $40
Monthly outflow (including reserves) $ 773
Market Rent $900
Positive monthly cash flow $127 per month. (plus unused reserves if any)
Return on $40,000 investment: 5% (plus property appreciation, plus tax savings)
These are not best case scenario figures. Your cash return could be much higher:
1. if you have no tenant delinquency or vacancy,
2. if your tenant preparation costs are low
3. if you are able to earn above market rents (such as by allowing a large pet for additional rental increment)
4. If your property doesn't not require much maintenance after the initial renter preparation.
5. If flood insurance is not chosen
6. if the owner manages the rental personally instead of hiring a management company.
7. If an interest only loan can be obtained at a favorable rate, there is no change to overall return; however this could result in a slight improvement to immediate cash flow.
At todays depressed real estate prices, positive cash flow is once again possible. More importantly, homes that are held for several years after the purchase will return handsomely in capital appreciation.
We are at the beginning of the curve for positive cash flow opportunities in Sacramento real estate. In December we've put a few investors into new or nearly new homes with positive cash flow potential on a proforma basis. The sweet properties are hard to find but with due dilligence and consistent research there are gems in our listing inventory. We've done some work building relationships with builders so that if an opportunity develops they call us first. REO's can offer some good pricing for you too, but we have not seen large discounts for REO properties yet. I expect this to change in the coming months. We market REO properties for some of the largest lenders in the area and as their portfolios grow we expect them to be more accomodating to potential buyers. REO properties are listing on the MLS like any other property, but you can get advance notice of the properties that come on the market by hooking up with a firm with contracts in place for REO sales. Natomas and Elk Grove are two markets that have worked well for our investors. Best advice I can give you is to build a relationship with a Realtor who is going to be in the field proactively looking for opportunities for you, who understands investment real estate, and with a firm that is building the relationships to get you in the door first. Then be patient and wait for the best opportunities as they develop in 2008. The rental survey Erin pointed you to is a great tool for evaluating potential rents. Also check SacBee.com and Craigslist to get an idea of rental values as you do your due dilligence. Best of luck to you Cu, and let us know if you have any additional questions!