Re: 22unit—advice needed - Posted by JohnBoy
Posted by JohnBoy on October 06, 2003 at 21:45:43:
You need to account for replacement costs on all major items like, roof, appliances, carpeting, HVAC, etc.
The roofs are new. OK, a roof last about 20 years. So lets say a new roof will cost $5k. That will be $5k you will need to pay in 120 months from now. So divide $5k by 120 months and that comes to $42 per month to cover the replacement cost of a roof. You need to take $42 of the rent income to set aside as deferred maintenance cost so you will have that money when the time comes.
You do the same thing on all other major items that will need replacement eventually. You don’t ignor these things and wait until the time comes to worry about where the money will come from to replace them with. You need to have enough rental income to set this money aside so the money is there when the time comes.
If you manage it yourself you still need to account for management cost. Only you just pay yourself for this. You don’t work for free, do you??? Is your time not worth anything? If you don’t pay for management then you pay yourself the same it would cost if you did pay for management, unless your time is worth nothing.
As far as raising rents in two years, that is fine. But you NEVER pay the seller a price based on what you can do later. So that future rent increase is YOUR profit and should have nothing to do with how you base your purchase price on what you pay the seller. You base your price on what the income is today. What all costs are going to be based on current rents today. Anything you gain later from YOUR hard work is YOUR profit. Never pay the seller for YOUR future profit you can make from your hard work.
Always allow at least 5% for vacancy. One tenant moves out you could lose a couple months rent easily. Plus advertising costs to find a new tenant. Plus cleaning, painting and repair costs when the tenant leaves. These thing cost money and you need to account for this.
You are cutting yourself short here by reaching for a deal that may not be a deal at all.
Vacancy, management, and deferred maintenance alone could cost 15% - 20% of gross rents. Ad that to the 17% of costs you show now and that brings your costs up to 37% of gross rents. So you are not accounting for more than half your costs that you should be accounting for. Add that in and adjust your numbers to come up with a fair price to pay for the property in conjunction with a cap rate you need to make this worth investing in.