Rent paying interest

[SimpleSimon]

I'm interested to know how many people have IPs that are 100% financed at current interest rates and are yielding sufficient rent, after costs, to service the interest payments? In other words, they're returning positive cashflow.

The reason I ask is that with my first two IP I paid more than I should (an expensive lesson that will not be repeated) and so we are subsidising the income slightly. But as I look around for other potential purchases I am using a spreadsheet to model and project cashflow, return on equity etc. I'm finding that very few properties I look at seem to have the potential for +CF, even assuming I could negotiate a heavily discount price and add value, given current market rentals.

Of course by putting more equity in the properties from the start I could reduce interest payments to achieve +CF but that ties up capital that could be used for other purchases, renovations etc. I would prefer to continue financing at 100% if I can.

I'm fairly certain the spreadsheet is sound in its calculations so what am I missing here?

Cheers

Simon

[drelly]

Hi Simon,

Four out of six of my IP's are covering the interest at todays rates.

However, when I bought them between one and three years ago, CF+ IP's were much easier to find and the rent covered all other costs as well. They were practically growing on trees.

At their current market value, only one of the four would *just* cover the interest alone.

Unless you're lucky enough to find a CF+ IP before anyone else gets to it, you're more than likely going to have to create the cashflow by adding value somehow. Creating extra rooms, extra dwellings, do-ups... that sort of thing.

[SimpleSimon]

Thanks Dave, it's reassuring to know that I'm not simply missing the point somehow.

As far as adding value (renovations etc) goes, I have been factoring these (their potential costs and potential returns) into each of my models.

So would you consider putting more equity into your existing properties in order to achieve +CF (assuming you could afford to) or are you happy to subsidise (and, perhaps, offset the loss against other income) until the interest rate/property price/market rental ratio becomes a little more favourable?

[Glenn]

I have been conservatively investing in commercial and residential for over 15 years now. Over this time there has been the occasional window of opportunity to finance 100% and come out on top. One did not need to be overly clever to buy when these times came round. Rather one had to be an optimist when everyone else was a pessimist.
I really see no great logic in working hard to house someone else’s dirty children in the long term.
It is a reasonable gamble to believe that when the rents and capital values are going up that what might start out negative will by virtue of the market moving turn positive.
However when the market is going the other way, watch out. You might be working for a bit longer.
Not withstanding the above, I believe that one should really look at your total portfolio when buying something new.
This is called averaging. It really does work.
In other words so long as the whole portfolio is positive all is well in the world.
However I must admit that my first two residentials produced a cash surplus from day one and these have powered me into better properties.

[Julian]

And don't forget the sound business practice of staying out of the kitchen when the heat is on. If you have a few dollars for a deposit you don't have to spend them. Sometimes it is better to wait until the market sentiment turns and the good deals start appearing again. That said, it would be a fool that didn't keep his eyes open for the rare chance that a good opportunity might rear its head.
Julian

[SimpleSimon]

And don't forget the sound business practice of staying out of the kitchen when the heat is on. If you have a few dollars for a deposit you don't have to spend them. Sometimes it is better to wait until the market sentiment turns and the good deals start appearing again. That said, it would be a fool that didn't keep his eyes open for the rare chance that a good opportunity might rear its head.
Julian

OK, thanks. That pretty much confirms my own conclusions. Only trouble is, how do you find those "rare chances" in this type of market without actively seeking them out? And how do you actively seek them out without constantly pestering agents? And how do you constantly pester agents without them deciding you're tire-kicker and a waste of time?

OK... to anticipate the answer to the last question it's to put in offers, right? But when the potential "real deals" would need to be around 25% or more below the asking price and there are still buyers around willing to pay far more than that........... ?

One of my first posts to these forums was "When is a market 'over-cooked'"? In a sense I guess this thread is really just a continuation of that same post.

We have a few, more bullish, folks around here who seem to be able to scrap meat off the few remaining bones of the IP carcass and I admire them for that ability. But I'm becoming more and more convinced that, as a neophyte, I have not entered this market at an opportune time and that it might be best to rein in my impetuous tendencies for a while and take time to consolidate and develop the couple of properties we've already bought and read and learn and plan for a while until things settle a bit more.

Thanks again for the feedback and thoughts.

Cheers

Simon

[drelly]

Hey Simon,

I'm about cashflow neutral at the moment but I want to make that positive again, so I'm looking into a couple of options to do that.

One is subdividing a section to build an additional house.

The other is turning a run down 2 bed house into a 4 bed house which I think I can do for around $50k. This would increase the rent by around $100-150 per week and add considerably to it's value.

[Julian]

Simon,

These days the good deals are generally created rather than found. See some of Ron Hoy Fong's posts, read Steve McKnight's second book and keep a watch for some of the more inspirational posters on this web-site.

Mind you there are still some areas where 10%+ deals can be found. I think there is a good chance of finding 10%+ deals in Murapara, for example. The question beckons: is the cap rate worth the drama?

When we have been having a few years of spiraling prices and reducing yields - because rents have not maintained pace with prices - it can be hard to remember that the property market is cyclic.

The good prices - relative to rent - will surely return.

For those with a portfolio of properties now is probably as good a time as any for getting rid of the poorer performers. And for this reason those entering the market now have to be doubly careful.

Julian.

[Muddle]

SimpleSimon

Several other options to consider when purchasing a property. These are good, so don't tell anyone OK ???

Private sale :
This bypasses the real estate agents. Even though they have much more to offer, and 99% of the time the properties they sell are at market value. They still want their commision. You have to look outside the square.
Try financial institutions ie: money managers, go in and chat to the manager. Some of their clients may wish to offload IP's for a variety of reasons and may need money in a hurry.
Bought two properties through a contact I met via my solicitor 18 months ago. They have since doubled in price.
Thought of something else but have never followed it through. All agents I know go on a weekly bus trip ( or car trip ) to view potential new listings. You usually see them turn up to a property and do a quick walk through on mass. Follow them, note the properties they stop at, find out who the owner is by using a private investigator who has access to a rating batabase. Approach the owners asap as they may sign up with an agent very quickly. Carefully get all of the information you require chatting to the owner, using some of RoyHoyFungs tricks, and if you see potential then make an appropriate offer. Pretty sneaky I know and something I would not have the balls to do myself.

Bought a two bedroom property with a sunroom. Converted the sunroom into a third bedroom by just tidying it up. New paint and carpet, added a power point. Have struck major problems with condensation as part of the floor is wooden and very close to the ground. Plus the room is facing the south and gets no sun at all. Something for others to strongly consider if they are making a similar purchase. Some major concreting will be done next week to fix the floor. I do charge a below average rent for a 3 bedroom to compensate for the inconvenience.

Drelly

Can you please elaborate on your added value idea using the same example on your last post. Something I have considered but have not looked into.

Could you borrow the 50k needed using equity in the house being built onto ?

How long would it take to pay this off using only additional rent gained?

If potential rent gain is only $40 per week would it still be viable ? ( as in my case )

Thanks

Barry

[dazer]

HI Simon,
I agree with all the comments so far. I have just sold two of my IP's in Christchurch which I had borrowed a 100% against three years ago and they were CF+ when I brought them but with the interest rate changes a couple of years later it made more financial sense to sell them especially as the CHCH property market is still very bouyant at the moment. The parties that have brought the properties are going to get less than 6% gross yield (they were both sold with tenants on contracts so I know exactly how much rent they are getting). That sort of yield seems crazy to me in the current environment, but people still seem to be buying for buying sake. As for me I will now sit and consolidate for awhile. I think the secret is not to break your own rules (10% gross yeild etc...). Property is a numbers game and it takes time.

See ya,
D.

[drelly]

Hi Barry/Muddle,

The property in question is a 2 bed house built in the 60's on a steep section. The weatherboards are in need of repair. The steepness of the section means that there are 2 double "rooms" (concrete floors) under the house with enough headroom to make them comfortable. The plan is to add a staircase outside the existing floorplan to provide an internal access to this area below.

The house is 100% financed so I'd be using a LOC from a different bank to the one financing this one. Rent gain would be $100-150 per week on top of the exisintg $200/wk which represents a 10-15% ROI. I'd also expect at least a 100k increase in market value after the work is done.

This house is in central Paihia, so cashflow as a long term rental is never going to be spectacular there. However, the potential for significant capital gains is good. It was bought with another house on the same block of (crossleased) land, so the idea has been to increase rents and add value to make them at least pay their own way.

I can't resist an interesting project!

[SimpleSimon]

Private sale :
This bypasses the real estate agents. Even though they have much more to offer, and 99% of the time the properties they sell are at market value. They still want their commision. You have to look outside the square.

I've actually been considering this re. a property I'm due to look at tomorrow. I found it through an agent but he seemed pretty reluctant about it because it's a general listing. But the fact that no agency has an exclusive on it presumably means it's open to a private offer?

It'd be easy enough to obtain the name and phone of the owner (simply approach the existing tenants) but I find myself wondering about the ethical and any other implications of following such a path.

Any thoughts?

[Julian]

Simon,

If an agent can establish that he/she had taken you through a property - that is, actually physically accompanied you onto the property and, if there was a dwelling, showed you through the dwelling he/she can go the vendor for the commision. It won't hurt you (as buyer) but it could hurt the vendor. If you buy the property in your company name the agency might not find out, but if the agent was to find you to be a director of the company it would undoubtedly have a go at getting its commission.

This presents itself with a wakeup call for all private sellers who also have their property generally listed.

If you are a vendor in such circumstances it can be wise to add a clause on your S&P agreement stating that the (private) buyer will reimburse the seller for all associated costs incurred if a sales agency seeks payment from the vendor if it can prove the buyer was shown the house by their agency or its representatives. Your solicitor will help you with the exact wording.

Ethically, what you do is for you to decide.

Julian

[Muddle]

Could someone please correct me if I am wrong on this.

My understanding is if the property is listed with an agent, and you first noticed it in an agents window. Then approached the owner for a private sale. The owner may still have to pay the agents commision. The agent can argue that he/she introduced or referred you to the owner and has earned their commision. Unless there is a clause in the sale agreement which stipulates the owner may sell privately. You could be opening a can of worms.

The idea is to get in before the real estate agent does. What I suggested before was quite unethical. Try using other contacts in the industry, solicitors, valuers, builders, ect. As mentioned in my last post, a quick word to my solicitor helped me gain about 150k in paper profit in 18 months

Some of my ideas are only just that, ideas. I leave it up to you to decipher.

My thoughts ??? ummmmmmm. Whats for supper

Drelly

Thanks for your reply. I will do my maths on this and chat to a valuer regarding my situation. Though I can not see a 100k increase in the Wanganui market. It has certainly got me thinking.

If it is so easy to spend someone elses 50k and gain a 50k profit in the process. Why isn't their an avalanche of renovations ?

Barry

[Glenn]

Yes Julian that is pretty well 100% the situation.
Just mentioning the property to a prospective buyer or showing them the brochure is not sufficient to get the commission.
Nor is it good enough to claim it if you are in their car and drive by.
However one area that is often overlooked is if a buyer is introduced to the property whilst it is a sole agency then the agency changes the commission is supposed to go to the original agent.
You would be surprised how many sneaky vendors will try and do the agent out of their commission. It is not only a buyer sneaking in the back door issue.