Anatomy of the Deal.
I”m going to use this post to analyze a deal I’m attempting to put together currently which will help you visualize a real deal. I’m still negotiating this deal and will let the blog know when/if it goes through. I won’t post this article until negotiations are completed to avoid a mishap. Im very experienced at the due diligence related to assessing a purchase. Disclaimer: I’ve never tried to convey a deal to others in the form of a blog post so put your questions in the comments and I can update article as needed.
Warning: This deal analyzes a Rooming House which in itself is gonna throw you a curve ball. Don’t trip over that fact, I’ll write another article on rooming houses later on. Think of it as a multifamily (building with several apartments) for now.
A little history about where this deal came from, around 3-5 years ago my loan officer said he knew someone with a rooming house for sale and wondering if I was interested. BTW this is how a lot of the best deals are found, word of mouth. Rick knew I already owned at least one Rooming House and that I was making money from it. Lets be real here, he wanted me to buy it so he could finance it. I bought that building for 120,000 and a year later another building from Joe for another 120,000 or so. Fast forward to now and Joe is selling his last Rooming House so he can retire, he is around 70-80 years old. So that’s how this particular deal came about.
Joe needed to sell this one on land contract for tax reasons. This is tax planning not to be confused with tax avoidance or fraud. There is nothing wrong morally, ethically, or legally with Tax Planning FYI. Joe was asking 200,000 and by spreading out the proceeds over 5 or more years he won’t get pushed into a higher tax bracket. Joe is a very sharp dude, he was an “OG” even before I was born. Jim had a career as a Realtor and along the way picked up some rentals for dirt cheap and managed them for many years. By paying them off either right away or within a few years he eventually stopped working and just managed his investments.
I don’t normally buy on land contract for lack of need. With where I’m at in my career I don’t have much problem going to a bank which is just easier for me. In an effort to make this deal “win-win” I will need to consider the land contract. The only reason I will consider this is because Joe is an honest dude of good character, if there was anything suspect about him I’d pass.
Here is the terms as proposed: 200,000 purchase price with 35,000 down payment at 5% interest using a 20 year amortization. Payments will be 1088.92 and a 5 year balloon whereby I would have to come up with 137,775. There would be a 140 day prepayment penalty and no tax escrow.
What I get: Building has 14 rooms for rent for various amounts but total rents are 5569.00 monthly. There are 3 shared baths, one on each floor and a coin laundry in the basement plus a garage and parking slab. Some of the rooms have a mini kitchen area and others have a mini frigerator and microwave. This is a low income neighborhood that is somewhat primarily Hispanic.
Unfortunately, there is a fair amount of crime, prostitution, and gang activity but it is not even close to the worst neighborhood in Milwaukee. The Building is in good repair with newer siding and roof and interior well kept especially the common areas. The boiler is 20 years old and has a minor problem which is to be fixed before closing the deal. Residents are a combination of slightly mentally disabled to physically disabled or just in life transition and of need of a temporary place. They are all rent paying without any major problems. An onsite manager gets a 200 discount on his rent and the onsite cleaner gets 25.00 per week to clean common areas.
A little more about my financial side of things: After depreciation expense, repairs, utilities, taxes, insurance, trash, and the Rooming house permit Jims last years net was 33,207 which is very realistic. Subtracting 13,067 for my payment willl leave 20,140 in profit. Joe pointed out thats a cash on cash return of 57% which is unheard of in normal real estate investing. Thats the reason I routinely invest in this type of property, more on that in another article.
This is a good deal however interest rates have dropped a bit in recent times so I’ve countered with 1% less interest and a 5% reduction in price. Im waiting on Joe’s response after he talks to his wife and I am hopeful and a little confident that we will be able to close the deal. Part of what’s going for me here is that, since Joe is no longer a Realtor he would need to list property if I don’t buy it. That fact will add around 10,000 to Joe expense to his bottom line so its an advantage for him to make a deal with me and hopefully that translates into a good deal for me. If it works out we will have eliminated the middle man in a sense, ‘win-win’.
I will probably raise rents a little and my repairs will cost a bit more since Joe did lots of his repairs himself. At the end of the day if I make 50%+ return on my down payment that qualifies as a “gangster deal”. To be fair I have administrative overhead to consider but still thats only a small amount, provided I do my job correctly.
There you have it, a real deal analysis. Now we sit back and wait to see what happens. Hit me up for questions or clarifications below. Peace……