Last month we purchased a new duplex and due to interest I’ve received from several clients I thought you might like to learn about how I evaluated this purchase. This post describes, in detail, how this new duplex is expected to pan out. My wife and I have been in the rental game since 2005 and now we have 31 doors for rent.
Why Residential Real Estate?
Since my income is tied to the markets, my portfolio is tied to the markets, and the value of my “enterprise” is tied to the markets, and as small business owners we don’t have a pension, real estate is the perfect non-correlated income-producing asset class for us. Rentals are still in demand as I last wrote here. Both rents and prices of homes are high, and bidding wars for the rent per month are now ensuing, similar to what we’ve been seeing for purchasing for years now. This has some investors thinking it is time to “ring the register” and sell, but from what I see, the returns are potentially still outstanding as a result of escalating rent rates.
Last Year’s Purchase
Last year around this time we purchased a duplex in downtown Plymouth for $301,000. It was listed for $290,000, but there was a small bidding war with another investor and we came out on top by $1,000. My purchase agreement had an automatic $1,000 escalation clause to give me an advantage and actually proved to be the difference in this case. The duplex didn’t need too much work and I was able to rent each unit for $1,500 per month. As a cash investor, I estimated the rate of return for that property was 8.77% at the time of purchase.
The New Opportunity
When a similar duplex on the same street came on the market this spring, I was immediately interested. However, the listing agent did a poor job marketing the home. They didn’t post any pictures, provided no answers to our questions, and actually listed it as a one bedroom duplex when in reality, each unit has two bedrooms. I believe due to these serious mistakes, there were limited buyers at the price point of $300,000, which was the original list price. After a few weeks, they reduced the list price to $280,000, and we ultimately made a deal for $265,000. Both units need work, and I was estimating about 20k worth in total, which will increase my price to about $285,000.
Was it a good deal?
We acquired it for less than last year’s duplex purchase, which was a bidding war, so that makes me happy. I also have seen two other one-bedroom triplex’s sell for about $300,000 recently, which are located a few blocks further from town. As a result, I feel like the price of $285,000 is solid based on comparables.
However, as an income-oriented investor, I prefer to answer the question based on the expected yield. If you look closely on the spreadsheet, you can see the cash purchase rate of return (if everything goes well with rent collection and zero maintenance) is expected to be 9.26% - even better than last year’s duplex. In a market like downtown Plymouth, I feel like 9% is amazing, because that’s a high income rate and does not take into account any appreciation. Back to the spreadsheet - If you put 50k down and got a 30 year mortgage for the remaining 233k, your cash flow yield is expected to be north of 25%. This is due to the leverage factor, which adds risk. If you take out a mortgage, my preference would be to roll all the net profit back into the mortgage which would make it about a 12 year payoff. Then in year 13, your tenant has paid off the house for you and your cash flow is free and clear of the mortgage and you only put 50k down.
In reality, I use my HELOC (home equity line of credit) tied to my personal residence to make these purchases so I can come into the deal as a cash buyer. Then I use the rent from all the other properties as well as an extra personal money (from my day job) to pay down the HELOC as quickly as possible. I do not like debt, but if used responsibly, it can be a great tool. As a result, I prefer to evaluate the property as if I am a cash buyer so I focus on the 9% figure in the spreadsheet.
Was it a good deal? Yes! To be in DTP, a fabulous local market, with a 9% yield makes a lot of sense to me and fits perfectly with my existing retirement income plan. Are you considering real estate as part of your investment portfolio or retirement plan? Let’s talk!
Educational purposes only. This is not a recommendation or solicitation for any investments and should not be considered advice.