50 % Rule

[Kamere_invester]

Let me run these numbers past you:  Cash Purchase - $15,000 (closing, repairs, etc), Monthly Rent- $500 (staying about $50 below market), Annual taxes and insurance - $3200.  How would you guys analyze this?

For the numbers above.
-Purchase price= 15k(if i'm reading properly above)
-Assuming rent= .5K
-Taxes= 266/mo
-That equates to a 3.3% of the purchase price(which is above the 2% threshold)

Based on the 50% rule:
Expenses, overhead= $250
insurance, taxes etc ~ 266+20 (you are already in the negative here)

**Based on these numbers the taxes are killing the deal and leaving you without a SECURE cash flow assurance**

Even if you don't have any immediate expenses once you assume ownership of the property you can't reliably count that towards your *cashflow*. Cash flow must come from the delta of the 50% after paying taxes etc.

I hope this makes sense. The deal passes the 2% rule but not the 50% rule. My rule is not to try and make a deal where there isn't one, move onto the next till the numbers work. that's where alot of people make mistakes.

Regards,
Desmond
Kamererealtygroup, LLC

[jbhollis1180]

monchew

have you looked at multi-family properties in your area?  May help cashflow with the tax situation.

[monnchew]

I haven't looked into it since I am somewhat new to the rental business.  So with that note, I want to make sure I have a clear exit selling strategy.

[Dave T]

Let me run these numbers past you:  Cash Purchase - $15,000 (closing, repairs, etc), Monthly Rent- $500 (staying about $50 below market), Annual taxes and insurance - $3200.  How would you guys analyze this?

Using your numbers, you have about $200 per month cash flow, only because you are paying cash and have no debt service.  I would hope the property is in pretty good shape and won't require much annual maintenance.

$2400 annual cash flow is a 16% yield on a $15K investment.  In just under seven years you recoup all of your initial investment.  If the numbers are solid and you can keep the place fully occupied, I might seriously consider this deal.  If the property is in a war zone, however, it does not matter how much cash flow you might get, I would not buy at any price.

You say that you are selling a property to your tenant.  Are you doing a 1031 exchange, or will the profit on the sale not be large enough to have a significant tax consequence.

[monnchew]

I'm not doing a 1031 since the profit is so minimal.  However, I plan to use the 1031 in the near future.

[Kamere_invester]

Let me run these numbers past you:  Cash Purchase - $15,000 (closing, repairs, etc), Monthly Rent- $500 (staying about $50 below market), Annual taxes and insurance - $3200.  How would you guys analyze this?

Using your numbers, you have about $200 per month cash flow, only because you are paying cash and have no debt service.  I would hope the property is in pretty good shape and won't require much annual maintenance.

$2400 annual cash flow is a 16% yield on a $15K investment.  In just under seven years you recoup all of your initial investment.  If the numbers are solid and you can keep the place fully occupied, I might seriously consider this deal.  If the property is in a war zone, however, it does not matter how much cash flow you might get, I would not buy at any price.

You say that you are selling a property to your tenant.  Are you doing a 1031 exchange, or will the profit on the sale not be large enough to have a significant tax consequence.

Let me see how you get a sustainable 200/mo positive cash flow from the numbers submitted.

[Dave T]

Let me see how you get a sustainable 200/mo positive cash flow from the numbers submitted.

$15K cash purchase means no debt service.  Taxes and Insurance are $3200 per year, and assume another $400 per year for incidental maintenance or repairs.  So overhead expenses run $300 per month.

If the property is self managed, and stays fully occupied, a monthly rental of $500 minus monthly overhead of $300 gives $200 monthly cash flow.

[Dave T]

I'm not doing a 1031 since the profit is so minimal.  However, I plan to use the 1031 in the near future.

if you are in the 15% tax bracket, then capital gains earned in the 15% bracket is tax free this year.  Unrecaptured depreciation will still be taxed, however.

[Kamere_invester]

Let me see how you get a sustainable 200/mo positive cash flow from the numbers submitted.

$15K cash purchase means no debt service.  Taxes and Insurance are $3200 per year, and assume another $400 per year for incidental maintenance or repairs.  So overhead expenses run $300 per month.

If the property is self managed, and stays fully occupied, a monthly rental of $500 minus monthly overhead of $300 gives $200 monthly cash flow.

I don't know about you, but  i'm not overly optimistic to ASSUME full occupancy on rentals, and i like to think worst case on the expenses. Also, the O.P never stated he will self manage or do repairs himself. I also think the expenses you assume are not sustainable. what i'm saying is if the numbers are overly optimistic you're not giving youself enough cushion, should something go wrong. the taxes+insurance account for more than 50% of the gross rent PER MONTH. leaving you 240 of which you claim a 200 positive cash flow. that's allocating 40 for monthly expenses...i just don't see it. i hope you all are seeing something i'm not.
regards,
Desmond.
Kamere Realty Group,LLC

[Dave T]

Kamere_invester,

This is a think outside the traditional box situation.  Of course, my encouragement is heavily hedged by circumstances that were never fully defined by monnchew.   Yes, it is the safest course of action to make assumptions that support the worst case scenario.

If monnchew self-manages, if the property is in decent shape to begin with, if the property is a desirable rental, and if the rent is below market for the neighborhood, this deal could work.  It is a bonus if monnchew has basic handyman skills and can do minor repairs himself.

We don't know all the facts and circumstances.  I am simply pointing out that this property is still an opportunity in the right circumstances.

I have a property that I purchased for $38K several years ago.  My tenant just renewed his annual lease for the 12th time -- this year will be his 13th as my tenant.  In the past twelve years, the repair costs have averaged less than half of one month's rent each year.  By the way, this is a Section 8 tenant just in case you have some worst case assumptions about Section 8.

I have another where the tenant has been with me for ten years, and just signed another two year lease.  I paid $50K for that property in 1998.  Taxes and insurance consume 40% of the monthly rent.  I own the property free and clear, and by now, the annual cash flow has fully reimbursed me for the cost of the property.   

Every now and then, we do get properties where the tenant stays forever, takes good care of the property, and the unscheduled repairs are really pocket change when amortized over the length of the tenant's lease.