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Insider Look: Deal Analysis of Rental Property #6

As of September 2022, Selenid and I closed the deal on our 6th rental property! We closed on this one about 1 month after our 5th investment property which you can learn more about here. Let’s take an inside look at our deal analysis of this rental property.

We are really excited about the potential of this property. Uniquely, this property came with tenants already in place and will take some time to get cash flowing the way we want.

That makes it really unique for us. So, even though it is not totally stabilized as I write this (late October 2022), I think it’s important to share all the details including:

  • Where the cash flow stands now,
  • Where we expect it to stand, and
  • How we plan to stabilize things

Related Post:
5 Important Questions to Ask Your Investor Real Estate Agent

It is a large duplex with a 3+ bedroom upper unit and 3 bedroom lower unit. I say that the upper is 3+ because it connects to a huge finished attic. While this can’t technically serve as a bedroom, it is a huge added space. For this and the other potential we saw, we put an offer in and got it!

With that said, as I usually do, I want to walk through each stage of the deal with you all.

First, a primer…

As always, before going into the rental property deal analysis itself, I’d recommend you read this post on my analysis strategies first if you haven’t already. 

But, I’ll give a quick recap as a refresher.

  • We invest in multifamily cash flowing rental investment properties using a Buy, Fix, Rent, and Hold model
  • To screen investment properties, I use the 1% rule (Monthly rent/Purchase price >/= 1%)
    • If it meets criteria, I move forward to more analysis
    • If it doesn’t meet criteria, I move on to another property
  • To analyze investment properties, I use cash-on-cash return (Annual Net Income/Money Out of Your Pocket >/= 10%)
    • If it meets criteria, I lock up the property by placing an offer based on your criteria
    • If it doesn’t meet criteria, I move on to another property
  • To valuate investment properties, I use NOI (Annual Income not including financing)
    • Estimated Sale Price = NOI/X% (based on local market data, usually 8%)

Remember, you can download our free Cash Cow app on iPhone or Android here to help you analyze deals on the go!

We are going to pick things up in the analysis stage. My wife and I had already screened this property when our agents sent it to us and it more than met the 1% rule. So we moved forward for further in depth analysis.

And now for the rental property deal analysis!

Stage 1 – Initial Investment Property Deal Analysis

Here’s what our initial analysis looked like:

rental deal analysis

This analysis was based on the following assumptions that we made after walking through the property with our investor real estate agent:

  • The asking price was ~$175,000; we knew this was listed way below market value. We estimated we would need to pay around $200,000 to get the property.
  • We estimated about $10,000 in necessary renovation/rehab. This had not recently been rehabbed but was not in bad condition. Most fixes were cosmetic like painting but we kept the number high. We have learned through our mistakes to overestimate. We also allotted some money if we needed to do a “cash for keys” strategy or at worst an eviction. See below…
  • The units were both occupied. The rents were $650 for the lower unit and $700 for the upper unit. This is well, well below market. We met both tenants personally and had good “gut” feelings about being able to work with them. Not even close to a guarantee but still something based on our experience.
  • We got our mortgage terms and closing costs for our lender.
  • The insurance terms were from our insurance broker and the taxes were from the county open access database.
  • Utilities were estimated based on our experience as we would only be responsible for water. Each tenants would pay their own gas and electric.
  • Property management and turnover fees were based on known fees based on our prior properties using self management with Hemlane as our management platform.
  • Keep in mind that we knew from our previous experience with our other 5 properties, that self managing with a platform like Hemlane is super easy (contact me for a referral). (Here is a primer of successfully self managing a property.) So, our property management fee dropped to 0.1% ($4). We also knew leasing costs for each unit would be less, around $500. 
  • Vacancy rates and maintenance costs are general estimates.

Based on this, the cash-on-cash return was only an estimated 0.2%!

Based on our goal of 10% or greater cash-on-cash return, this did not even come close to meeting our criteria. The past couple of properties we bought were more turnkey and exceeded our goal on initial evaluation.

As I explained in those insider deal analyses, that was an exception rather than the rule. More commonly, we buy properties based on potential cash flow.

Stage 2 – Rental Property Deal Analysis including Hidden Value

This is what our analysis looked like after we took into consideration hidden value that we identified in the property:

deal analysis
  • Actually, not a ton changed. Mostly because we have become pretty good at estimating expanses etc as we gain experience.

So what did change?

  • Well, we knew that rents were way under market value. We know from properties we own nearby like our second rental property that is just a few streets away that rents in this neighborhood for nice bedrooms ranges from $1200-1400!
  • So, we adjusted our expected rents to a conservative $1200/unit.

At this stage, our expected CoC increased to 15.9%!

But, this was a conservative estimate. So we amended our estimates to reflect the realities we saw in our other properties. We felt we could easily get $1250/unit and charge an additional $50/unit for off street parking.

With this adjustment, our CoC analysis looked like:

rental analysis

And our estimated CoC return is 19%

We placed our offer and learned that there were many others

First, we made our offer more competitive by offering $10,000 in escrow or earnest cash. This is basically the money we put down once the contract is signed. Putting a larger amount signifies that you are very serious about the deals and have good cash reserves, etc.

In the end we got the property and were thrilled. All other deals were above asking as well so we felt like we priced this property out well.

Rental property deal analysis after closing

Well, as I mentioned at the outset, we don’t have this property stabilized as I write here. By this I mean that the old tenants are still in place. We have not been able to tap the hidden value yet.

But this was expected.

Our plan going in was to let the tenants know that we did not plan to renew their month-to-month leases. Note that it is imperative to make sure you accurately know the kinds of leases a current tenant has. If they had just renewed yearly leases, it would have been a different decision for us.

Anyway, by New York State law, we gave them 90 days to find a new apartment. We did this very cautiously and respectfully and both tenants were very gracious and understanding.

We made sure to emphasize that we did not want to unduly displace them and would work with them. As of now, they are both actively looking for apartments and keeping us informed. That is all we can ask.

As such, you would expect our CoC analysis to look just like it did above in Step 1 with $1350 of monthly income via rent and a return of 0.2%.

But that is not what really is happening

Because after you close on a property, you usually don’t owe a mortgage payment right away. The initial payments for the first 1-2 months are baked into the closing costs.

So, we didn’t owe a mortgage payment until November, 2 months after we closed.

With that in mind, our cash on cash return in October after both tenants paid their usual rent was 22.8%! In fact, even if new tenants don’t move in for 3 months after closing, our expected cash on cash return would actually be 8.15%.

Lastly, we know that even in a worst case scenario with a protracted time to find new tenants at market rents, we are still cash flow positive with the current tenants and rent. It’s only $11 positive. But we are not coming out of pocket for the property.

This built in cushion plus the potential we saw in the property and our belief in our experience and skill, we feel very comfortable and excited about this property!

One last aspect to appreciate (pun intended)…

Some of you may have noticed another number included on my deal analysis spreadsheet:

rental deal analysis

This number represents the value of the property based on an income based model after forced appreciation using capitalization rate and NOI. If this seems confusing, read this post!

I usually include this number in my calculations personally but haven’t always put them in these posts.

But I want to make sure to include it here because it demonstrates the dramatic impact that forced appreciation can have on your property as well as just illustrate again how real estate investing, done wisely, is a wealth accelerator!

So, take a moment to look through each successive deal analysis for this rental property. Pay attention to how the property value increased as we optimized the property. This is the power of forced appreciation…

Take Away(s)

I always like ending with some takeaways…

I hope that this exercise has demonstrated again how property deal analysis is critical for success as a real estate investor. But, it is also a process and evolves through the acquisition of a property.

Again, the reason for this is that the real estate market is not efficient. In this case, like with property #2 especially, our initial CoC did not meet our 10% standard. That’s because the current owners were managing it inefficiently. We believed that we could eliminate these inefficiencies and our estimated deal analysis demonstrates that the numbers back us up!

Your CoC should reach your goal after taking into consideration tapping hidden value. This can feel scary because you have to take a leap of faith. But, the important thing is that you are conservative in your estimates. 

Also, as long as the investment property is cash flowing in your most basic estimate before taking into account tapping hidden value, then you are ok even in the worst case scenario. This is what ultimately helped our mindset with this deal in particular.

And I will certainly keep you posted on how things go as we stabilize this particular property!

Ready to learn more about investing in real estate?

You can also download our free Cash Cow app on iPhone or Android here to help you analyze rental property deals on the go!

What do you think? Have you invested in real estate? How have your investment done? Do you use the same analytics as I do? Let us know in the comments below!

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    Jordan Frey MD, a plastic surgeon in Buffalo, NY, is one of the fastest-growing physician finance bloggers in the world. See how he went from financially clueless to increasing his net worth by $1M in 1 year and how you can do the same! Feel free to send Jordan a message at [email protected].

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