What's up everyone?! I hope you're having a solid and profitable Monday I'll be honest, I'm feeling pretty unproductive at work this week as I'll be getting married this Saturday! It's crazy how fast this summer has flown by.
My Fiance and I have felt like we have had all this time and now all of a sudden the big day is upon us. Needless to say, I'm really excited for it!
However, you guys are probably not here to read about my love life so I want to share with you a potential deal I'm working on and my thought process.
Through a self-storage relationship I've developed over the last decade, I have the opportunity to purchase a rental property. I started my relationship with this individual all the way back when I was in early high school when I first discovered self-storage.
This guy was old high school buddies with my mom and when she learned I was interested in self storage she told me she thought she knew a guy who owned a facility a few town's over.
Sure enough, I looked him up and found out what facility he owned and wrote him a letter. It's funny to think about now. That's just something people don't do; write a letter in high school to some guy in his 50's about his self-storage facility he owns. Turns out, it was one of the best things I ever did.
His name is Jim and he called me after I mailed him the letter and he met with me one night several weeks later and gave me a tour of his self-storage facility and sat down with me for hours to tell me all about how he did it and his vast experiences. He then gave me a book about investing in self-storage that he used to help him get started.
You can only imagine the impact this had on me. I'm so thankful to Jim for being so generous with his time and ideas. Over the years, we have developed a pretty good relationship and we talk often today.
He is only about 30 miles away from me today. A lot of other self storage owners or real estate investors out there might consider that close enough to "be competitors" with each other.
I can't imagine now the negative impact my life would have had if I had the mentality that Jim is a competitor. This really coincides well with the "compound effect" mentality. Every decision you make in your life has a compounding effect on the rest of your life.
Our relationship has been invaluable and it all started because I wrote a freaking letter. I took a chance. I went against the status quo. I'm not saying this to beef myself up, I'm saying this to motivate you to eliminate the negative thoughts in your head.
Too eliminate all "the reasons why" you can't do something. Forming relationships is important and forming relationships with "competitors" is important. I'm realizing this now more than ever as I will have several opportunities to acquire "competitors" over the coming years.
And, if I never acquire him, there are still a million benefits to having a friendly relationship. This topic warrants its own article, though, that I'll be sure to write about later. Now, back to the deal.
Jim contacted me to let me know he is consolidating his apartment rental portfolio. My first question to him was why he wanted to consolidate. He told me at his age and with the size of his portfolio he is looking to consolidate down to simplify his life so it's easier for him to travel.
He stated that leaving for weeks at a time is more manageable with his self-storage property than it is with his rentals. He said, "it's not that I can't do it with my rentals, it's just easier with my storage units to leave and it's just the right time."
It's always important to understand someone's why when evaluating a potential deal. It also gives you a certain understanding of their motivation. In this case, Jim is valuing his time more and more. He has been a successful investor his whole life and now he's looking to enjoy it a little more.
He has a property in a nice part of town that has a single family home and a mobile home on the property. To be honest, I'm not wild about the idea of a mobile home, but I’m not going to let that deter me from potentially going through with this deal. Real estate is about numbers and that's what I'm going to focus on.
My Thought Process
What excites me about this deal is I have the ability to get into the deal with none of my own money. Because of my existing relationship with Jim he is willing to do seller financing. He is looking for a 5-year balloon with a minimum of $3,000 down. He's looking for 4-5% on the rate and an overall purchase price of $70,000. $70,000 for this type of property is typically a little high for what I would like to pay around here, but again I have the ability to get into this deal with none of my own money out of pocket.
I just said he's looking for $3,000 down, though, so how am I going to put none of my own money into it?
I'm going to tap into my Vanguard margin brokerage account. For exact situations like this I applied for a margin account with Vanguard. I'm not looking to purchase securities on margin because I feel it's risky and doesn't set the investor up for success.
However, you can take money from a margin account in the form of a loan. There is no scheduled pay back terms and the interest rates are clearly posted and the rate is charged daily.
I've only tapped into this one other time so far to test it out for the first time. I was heading to an auction where I would need to potentially put down a $5,000 down payment. I called Vanguard up that morning and asked for a $5,000 loan and it was wired to my account a few hours later.
I ended up not buying the property so I deposited the $5,000 back into my Vanguard account a few days later and only paid less than a dollar in interest.
I like this option because it allows me to take advantage of opportunities without having to sell assets or go through the cumbersome process with a bank. It's just another financing option that gives me more options to take advantage of so I can keep my other funds invested.
So, long story short, that is the option I plan on taking if I purchase this property. I'll take a $3,000 loan from my brokerage account to make the down payment.
Over the next 12 months that will cost me maybe a few hundred dollars in interest, but the cash flow from the deal will more than pay back the loan in 12 months.
The Numbers
I used the Bigger Pockets Rental Calculator to analyze the numbers on this deal.
Here are the assumptions and plug-ins I used in the Bigger Pockets calculator:
Annual Property Taxes: $1,450 (I looked up the actual tax amounts on the County Website)
Purchase Price: $70,000
Loan Interest Rate: 4%
Amortized Over: 30 years (Five Year Balloon)
Typical Cap Rate for Your Area: 10%
Gross Monthly Rent: $950 - actual current rents. Single Family Home Rents for $600 per month, the mobile home rents for $350 per month. He has stated he is renting a few other single family homes within his portfolio for $695 per month
Monthly Insurance: $36 (I got this number from an actual insurance quote I did)
Tenants pay/take care of utilities
Tenants pay/take care of lawn and snow removal
Vacancy: 1%
Repairs & Maintenance: 11%
Capital Expenditures: 11%.
Management Fees: 10% (I plan to self-manage this property so I won't actually incur this 10% fee, however it is still important to factor into your numbers when looking at an investment property. You can't self-manage all of your properties forever and you should be paying yourself for the time you will have into managing the property. In addition, I can see this being a property that I only hang onto for 10 or 20 years. By then, my portfolio will be much bigger and I anticipate that I won't be buying many more rentals in this particular market, so it will probably make sense for me to sell this property sometime in the future.
Annual Income Growth: 3%. He's held rents here pretty steady for a while, but he indicated he is getting higher rents in some of his other homes so raising rent is definitely something I will try to test the market. If I get consistent long-term tenants, then I will probably keep rent pretty steady, but I will adjust this as time goes on.
Annual Expense Growth: 2%. I'm including this to be conservative and to keep up with inflation. In general, this particular market is very stable and flat, but services provided by contractors and the expense of products that make up the property will still continue to rise over time.
These assumptions generate a $950 Monthly income less $804.52 in monthly expenses for a total monthly cash flow of $145.48. Remember though, this deal involves $0 of my own money, so that represents a cash on cash return of infinity. Ideally, I would like to see at least $200 of monthly cash flow however in this case I have none of my own money into the deal and the owner is willing to owner finance at a low interest rate. If I were putting more equity into the deal then I could easily achieve the $200 of monthly cash flow, but I'm thinking I would like to finance this 100%.
The Market
To be honest, I'm not very excited about the local market this deal is located in. But again, real estate is about math and the numbers so that is what I'm focused on in this deal. Plus, I think individual investors place too much weight on the macro economics of a local economy and therefor let it scare them from making deals.
To use an example, I always see people in the forums on Bigger Pockets posting things like "how is the market in Pittsburgh, PA - do you think I should invest there?"
First off, that’s a really broad question. Pittsburgh is a big enough city that there are all sorts of different markets within its own city limits. You couldn't possibly describe Pittsburgh's market based on one deal or one neighborhood.
In my case, this market is significantly smaller than Pittsburgh, PA. The name of the city is Union City, PA. It has a population of less than 4,000 people and it's been this way for decades.
Nothing is changing about that. There is no major employer that is going to come in and add 6,000 jobs overnight and make my investment turn into millions of dollars. But that doesn't mean it can't be a good rental market for me.
When I sat down with Jim to discuss the potential deal I asked him about the market and his experience with the property. He's an honest and upfront guy and we have developed a great relationship to this point.
He has a very similar viewpoint as me where he doesn't expect much of anything to change with the local economy, but he did express that he thinks the property itself is in a great sub-neighborhood and that in over 20 years of renting the property he has never once had a vacancy greater than 1 month.
That's really the one thing I wanted to drill down to when it came to evaluating the market. Whether or not he has ever had much vacancy.
Again, he expressed that the property has never been vacant and the current resident of the single family house has been there for over 6 years and the current tenant of the mobile home has been in there over 2 years.
Based on that information and my drive through the local neighborhood my anxiety about the market has been eased and I think the small town is a non-factor.
The Risks
I will always try to express the risks I'm thinking about when writing about potential deals. That way it might help you when going through similar scenarios and you can see how I think about the potential issues.
One of the potential risks of this deal I have already mentioned. The market is a small town with a population of less than 4,000 people. So there is the potential risk that I will have a difficult time finding good tenants in this market.
Again, if you read "The Market" section above I go into this in more detail. Given my conversation with Jim, I think this risk is relatively low and I'm not too concerned about it. If this is the only thing that will deter you from making a deal then you need to have a tougher stomach.
Age of the property.
The single family home on this property was built in 1900. That's not unusual at all in this town or really the broader area, but it's still old and I need to recognize that going into this deal. Jim has taken great care of the property, but the odds of repairs and capital expenditures is greater with this property.
The mobile home was added to the property in 1976 and while that is much newer than the single family home, it's still pretty old for mobile home standards.
Again, Jim has taken good care of the property. That's another reason I'm considering this deal. You can tell by looking at all of his properties that he takes very meticulous care of all of his investments. I can get that feeling from him also during my conversations with him.
I did further research on the rest of his portfolio using public data available on the county website. I'm fortunate that my county, Erie, has a great public data website. As long as I have a name or address of one property, I can look up all the other properties that someone or some organization owns within the county.
That's how I was able to identify Jim's other properties to see what sort of condition his other investments are in. Make sure if you have access to a similar local database that you use it. It can be a very invaluable tool.
Because of the age of this property I would be wise to allocate a higher proportion to my repairs budget than I would normally expect. I see investors such as BiggerPockets Brandon Turner use anywhere from 5% to 10% for repairs and another 10% for capital expenditures. For purposes of analyzing this deal I will use 10% for both.
I think these are nice conservative numbers. Jim truly takes amazing care of his rentals. I had a chance to do a walk through of the property and the properties literally require zero repairs to be re-rented. These units are ready to go.
At this point in the deal discussion I am waiting to hear from Jim. He is working on tax planning with his accountant and may potentially need to push the deal closing out past year end for tax purposes. I'll be sure to provide you guys with an update once I hear more!
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