Re: Home Equity - Posted by Dave T
Posted by Dave T on November 05, 2000 at 14:49:51:
Before you ask about funding sources for the down payment, look at the deal itself. If all the units stay rented at $800 per month, you DO have $3200 in gross rental income. You can’t raise those rents immediately because you will have to honor all current leases. It may take a year or more to realize a rent increase across the board.
Now consider how you have to spend that money. Maintenance, taxes, and insurance will each take a bite. You did not mention how you are going to manage the property, but a property manager will cost you too. What about trash removal, water/sewer, electric, and cable TV? Unless each unit is separately metered, these will be provided by the landlord as well. If each unit is separately metered, is the landlord providing some or all of these utilities? Since you are in Ohio, if you have a parking lot you should also budget for snow removal. Is there a homeowners association fee to include in your monthly expenses?
Don’t forget your monthly contribution to a reserve fund for future capital maintenance items (new roof, heating system, major unit rehab, parking lot repair, etc.). And finally, remember that eventually these tenants will move. Each time this happens, you have a vacancy that must be advertised (and as needed: cleaned, painted, carpeted, repaired) – all expenses with no income.
As a general rule, you should anticipate that about 50% of your gross scheduled rents will go to day-to-day operating expenses and your reserve fund. This leaves you with about $1600 per month for debt service.
If you are seeking 80% bank financing for this deal, expect the debt service to be somewhere around $2500 on a $240K mortgage (15-year term, commercial mortgage at 9.5%). Just the numbers alone, suggest that this property at a $300K purchase price will cost you around $900 out of pocket each month.
I would think that this large negative cash flow would discourage you from considering not only this deal, but also a home equity loan to finance it. To much risk of losing your house if you get a couple of vacancies and can’t make the monthly payments.
There may be deals where it is right to pledge the equity in your home to finance the deal. In my humble opinion, this is not one of them.