This post is one of many rental property case studies I hope to do, both on the properties we currently own as well as a few from some of our investing friends.
Today’s case study is from our first rental property, which we purchased the summer of 2010. I’m going to walk you through all the steps and show you how we found it, rehabbed it, and leased it for positive cashflow.
The Search is On
As it turns out, a coworker of my wife was a real estate agents and a house flipper. We gave him our criteria and he set up an automated search which emailed us properties daily.
Since we both had full time jobs, our strategy was to make a conservative guess on all the relevant figures (repair price, closing costs, appraised value) and make offers without even visiting the property. This allows us to put more offers out there without having to spend a lot of time on a property we might not even able to buy. The disadvantage, of course, is if our figures are too conservative, we might offer lower than we had to and end up losing the deal.
If we did get one under contract, our offer had a fairly short inspection period during which we could conduct additional feasibility and back out of the deal if our guesses ended up being way off.
We made a lot of offers (probably 10+) before we finally got one accepted. The house was a foreclosure and had been on the market for over 100 days. They had just reduced the price by a few thousand and by the time we made our offer, there were already multiple offers on the property. We submitted our “best and highest” offer and were notified a few days later that we were accepted!
Here’s a few details about the house:
- 3 bed, 2 bath, 2 car garage
- 1410 Sqft
- Pitched roof, slab foundation
- Built in 1982
- Good neighborhood
- Typical design for the neighborhood (you don’t want the weirdo house)
All in all, this makes it a “bread and butter” deal for our area.
The house needed a little of everything but none of the expensive stuff: the roof, HVAC and foundation were all in good shape. It was actually a pretty typical foreclosure in many ways: the flooring was absent or damaged, the paint was hideous, appliances were missing, there were holes in the walls here and there, and some “remodeling” needed to be re-remodeled. The previous owner had turned the little dining room into a bedroom by kinda sorta walling up the doorway into the kitchen and putting up a plywood door at the entrance. All of this combined scares off the would-be home owners and so if anyone was going to buy this house, it was going to be an investor. I’m glad it was us!
Doing Due Diligence
Now comes the fun part: get some real numbers and see if it still works. With our accepted offer, we could do more in-depth analysis to see how close our guesstimates were. It turns out they were very close: repairs came in right around the $10/sqft that we budgeted for and our insurance quote ended up being lower than expected. The appraisal for the “After Repair Value”, the price it would fetch it if it were all fixed up, came in at $105,000 which was a little higher than we guessed. All in all, this was shaping up to be a pretty good first deal for us.
Buy, Fix and Rent
To purchase the property, we used an investor-specific loan product called a “hard money” loan.
We use this product because:
- There’s no down payment requirements
- Most lenders can close extremely fast (within a week)
- The loan includes funds for repairs, up to 70% loan to value (in our area)
Since they are expensive and short-term, you will eventually have to get a bank loan and this does increase the total cost since you have to go through two closing: the purchase with the hard money loan and the refinance with the bank loan. But the extra costs associated with hard money are worth it in the end if you can get the deal with a lower amount out of pocket.
Anyway, we closed on a Friday and renovations began on the following Monday. The repairs were completed in about four weeks and we met with our contractors on a weekly basis to survey the progress and point out any issues. The rehab went off without a hitch and we’re really happy with the results.
Unfortunately, we don’t have as many pictures as we’d like to have but I’ll share a few of the ones we took.
Look at that nasty carpet!
You would be surprised how often we see these kinds of bright accent walls.
We started marketing the property about two weeks before it was done. At the time, we put ads out in a lot of places and even paid for an ad in a local circular. But after renting out a few houses we realized that for us, the two most effective advertising methods were craigslist and a sign in the yard.
We advertised it for $950 which was $20-$25 less than the competition. We had a lot of interest and after a total of one showing we had two families fill out applications. Both of them paid the application fee and met our requirements so the race was on: we called both families and told them that the first one to agree to meet us to sign a lease would get the property. Sure enough – we got a call back less than half an hour later and the lease was signed the next day!
After it is rented, you can start the refinance process. Our mortgage broker arranged the financing through Bank of America and we got a great rate 5.125% on a 30-year loan. The final loan is at 75% loan-to-value and the second appraisal came in a little less at 103k.
Finally, the part you were probably all waiting for: the financial analysis. Well, let me fire up my bookkeeping software throw out a few figures then!
We do, however, reserve some funds for maintenance and vacancy, though this house has been rented since we bought it and maintenance has been very low. Also, this family had a pet and so the rent ended up at $970 after the $20/mo pet rent.
This works out to a yearly cashflow of $3698 and some change, and a cash-on-cash return of 25.8% ( 3698/14305).
We’re extremely pleased with our results on this one. The family who rented it is taking good care of the property and they have paid on-time every month since the beginning. They even pay electronically so we don’t have to run to the post office or the bank to collect the rent.
Before that fateful day, where I came across this concept of “passive income”, I never would have imagined in a million years that I would own 3 rental properties. Rental properties weren’t even on my investment radar and I didn’t know the first thing about buying a house, let alone a house for investment purposes. This one house, which cost us less than a lot of cars cost, has made a tremendous difference for family. Just think, what would you do with a $3,000 raise?
I hope you enjoyed reading this as much as I enjoyed writing it. When I started writing, I had filled up a whole page before I even got to the part where we bought the dang thing! I had to trim it down but I’ve got a lot of stuff to share with y’all in the coming months. Stay tuned!