Investing in Townhomes

[Connor]

Alright, Fastlane Forum. Quick introduction here, and then we'll get to the fun part. First read TMF back in 2012, and I realized that I wouldn't achieve my goals by slowly climbing up the corporate ladder. Action faked for a while, and then I fell into the corporate trap for a few years, as I started to get comfortable with the regular raises, nice dinners I could expense, and the relief of the weekends. Finally realized in late 2016 that I was not going where I wanted to at all, and I decided that it was better to start slowly than continue to not start and wait for some inspiration to strike. I decided to start investing in real estate with my brother, as there will always be a need for places for people to live, and we have some past experience in it.

We bought our first townhouse in March of last year, and we've recently acquired another two of them. We are working to find value-ad properties that we can improve with cosmetic upgrades and then lease out- focusing on cash flow with any appreciation/equity as a happy byproduct. While townhomes come with HOAs, we've found some well-run developments with relatively low monthly costs, and it reduces volatility by not having to worry about landscaping, unkempt yards next door, etc. We also try to put in materials that will last longer than the lower-end materials used by other townhomes for rent in those developments, which allows us to not only rent our properties for more, but it will also help reduce turn costs, since they should last longer.

I'll keep track of my progress on this thread, and I'm happy to answer any questions anyone might have. Hopefully can provide some value here after years of (mostly) lurking. Thanks!

 

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[WJK]

Congrats! Be sure and take the time & effort to stabilize what you have. Build a strong investment base with your income stream and an adequate emergency fund for rainy days. I'm big on paying debts down and building up equities. In my investing experience, everything goes wrong at the same moment, in the worst way. I assume those days will come, and I'm prepared for them. That preparation work makes those moments just another bump in the road, rather than a total disaster.
I've been slammed for being too conservative, but I'm still here in the real estate business 42+ years later. When real estate was really hot, others made fun of me for being picky about deals and too careful about using O.P.M. (other people's money). When the market fell on its face, I watched a lot of them go broke. Their portfolio assets failed like a line of dominos, falling one after another.

 

[WJK]

Yikes! That is one of my biggest fears, especially if I ever get into sizable multifamily. Thanks for the cautionary tale- will use that as a good reminder to never shirk on my allotment for repairs/things happening.

Also set up funds for seasonal/yearly expenses -- like insurance and property taxes. In my case it's winter utility bills. Most repairs and expenses can be easily forecasted. They are an extension of expected component life, vacancy rates, and scheduled maintenance events.

Also, inspect, inspect, inspect. I change the furnace filteres and checked the smoke/CO detetectors myself on a regular schedule. It's my stated reason for doing a regular inspection. I take my clip board and my flash light. Everyone knows that I am coming to inspect every squre inch. And they sign a paper saying that I was there and what I checked. I note what I find and schedule repairs right above their signature.

I've had people stand up in court when I'm evicting them and say that I don't do maintenance. Those signed inspection sheets, coupled with my maintenance records, put the brakes on their argument. I win the case, and they end up sitting out the curb burping and chirping.

This is a business. I make sure that I treat it as such.

 

[WJK]

Hope everyone here is doing well. Closed on unit #6 in March- in a decent location but the square footage is a little smaller, so it will be interesting to see what kind of rent level we can achieve. With the two recent acquisitions and a move out, we were at 50% vacancy for a bit, which was really hurting our cash flow, but we've been able to rent out two of our units fairly quickly for higher rents than I thought we would get. So our cash flow should stabilize here shortly.

We were trying to pick up another 4 units from a guy who was having some debt issues, but he ended up selling off the two better properties to someone on their own, so we don't have much going on with the acquisition front right now. Not the worst thing, given the issues I mentioned above. Our insurance costs have also increased significantly percentage wise, after all the hurricanes last year, but the alternatives were still nowhere near what we are paying with USAA. Once we get to 10 units, I think we'll be able to consider more commercial options.

Have some interest from friends to invest with us, but I think we're going to hold off for now until we get bigger. Maybe on the debt side, but, unfortunately, the administrative costs of multiple investors would be too much of our income with so few units to make sense.

I stay away from investing with other investors. I find that it is like wearing a straight jacket. Part of being successful is being nimble and ready for the next deal. I'd rather go slower in my investment plan than have to drag a bunch of people along with me.

Let me give my reasons:
1. Everyone has an opinion -- especially when they have money on the line. BUT, its like listening to parenting advice, on raising your kids, from people who don't have kids. They are the investors -- not the front line guy. They aren't out there fighting the fight every day. But, they sure know how it should be done. Good for them. Let them go try it without me to buffer them from the stones and sticks of reality. Life feels totally different when you're at the front of the pack.
2. Things go wrong. You can't have salt without pepper. When you are right, you are a hero. Then the next minute, you are the worst project manager in the world. I can deal with normal problems as they come. I don't want to deal with people who are sitting in their armchairs judging me while they are trying to call the shots.
3. I make split-moment decisions all day long. Many are intuitive and based on 43 years of experience. It many times takes me longer to explain the "why" than to fix the problem. Most people are afraid to make a bad decision, so they just sit on it. Doing nothing is making a decision, and it usually doesn't go well. I just want the people around me to get out of my way and let me do my thing without a bunch of lip.
4. Why should I share my expertise and the profits with someone who hasn't paid the price of putting in the years, blood, sweat and tears? I'd rather just do myself, by myself. When I split the profits, I have do that many more deals to have the same money in my pocket. I'm the tortoise -- not the hare.

I guess I'm just old and cranky. I just can't be bothered with other people's baggage. I hold MY control of my deals close to my heart rather than sharing. Their money isn't worth my peace of mind.

 

[Connor]

Been too long since I’ve updated this- while my primary focus has been work, we did just close on another townhome. This year has been slow on the acquisitions front, but we bought 9 more last year, so this is our 37th. Had some cash flow challenges in Q1 with renovations, but now we are back on track and I’m also in a position to contribute more to our investments this year. 8 of the units we acquired last year need heavy renovations when the existing tenants move out, so that's been a drag on cash flow.

Think we will keep it calmer this year, but hope to pick back up the acquisitions next year when some distress enters the marketplace and hopefully have more cash to contribute to buying more properties.

 

[WJK]

Thanks @WJK! My background is in insurance, so I'm always thinking of the worst case scenario lol. Both my brother and I work full time jobs, so that helps us reduce the risk. Plus the refi will probably be on a 20 year am, so while that will reduce cash flow, it will help expedite our paying down debt. I want to be excited about the next recession, with all the properties going on sale, not wiped out by it!

Do you have a particular percentage that you allocate for emergencies? We've got maintenance and vacancy allowances built in, but I'm curious as to your approach.

I don't have a percentage. Instead, I use a "sinking fund" system. It comes from years and years as a commercial real estate appraiser. All "short-lived" item has an expected usable life. By creating a saving system to replace those parts, you are always ready for issues that most people would consider to be emergencies. For me, these are expected events.
We do have true emergencies here in my mobile home park. Three years ago we had a 7.1 earthquake in January, the depth of our Alaskan winter. It damaged my small community water system. We had water running down my private streets from underground breaks. And we couldn't dig up the breaks and fix them. The ground was hard frozen, and the system is 10 feet deep. We had major pipe breaks in my Laundromat. We had to take up part of the floor since we couldn't get into the crawl space. We had several feet of snow on the ground. We had to close down for a few days. There was water everywhere. I own 40 mobile home rentals. Several were jarred from their supports. The doors and windows wouldn't close properly and it was -20 degrees.

It took a while and a lot of out-of-pocket money to get back to normal. No, none of the damages were covered by insurance.

But, we were lucky to not have more damage. 3 houses up the highway from us blew up and burned to the ground. They had natural gas leaks.

 

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[Connor]

I keep saying that I know it's been a while since I've posted an update, so I'll have to come up with a new phrase haha. It's been a little crazy at work with all of the Coronavirus turmoil going on. We're still at 7 units- had one tenant move out on 3/31, and we're finishing up the clean-up/reno there. They treated it well, so going to be less than $1k to fix it up, which is great. We've gotten 5 of 6 tenants to pay us for this month, so not too bad considering all that's going on. Think we might get the 6th as well in the next few days (hope I didn't jinx us).

We're likely going to pick up another unit for 5/1. Pricier, but it looks like we'll be able to get it for $10-15k under what others have gone for in that development via a wholesaler. Also, it's funny how things can change quickly- not too long after I was complaining above about not having enough things going on, we uncovered an opportunity for a 12 unit group of townhomes for sale. While we ended up putting in an offer, the owner has put things on hold with all of the uncertainty, but we're going to refinance out our private money from the other 4 units we have to free up the capital to close that deal if it comes back up.

Hope everyone is staying safe out there!

 

[Connor]

Happy 4th of July everyone! Thought I would give you guys a quick update- 3rd townhome is about to be listed for rent, after taking too long to fix it. While it's easy to make excuses, weeks matter especially when you start to scale. Fortunately, it looks like we should be able to rent it for a bit more than initially expected, so that will help. Always good to learn lessons like this earlier than later, but you really have to fight for every dollar if you want to be a serious investor.

We also executed our first turn (renters moved out, fixed up the unit, and re-rented) on our first townhouse. Due to some issues with our property manager, we ended up withholding less of the security deposit than we should have and spent more on the rehab than initially expected. While a difference of $600 might not seem like much, again, that matters when you want to scale to hundreds of units one day. Probably will end up costing us a bit more on our turns due to increasing labor costs, but we did iron things out with property management, so the net cost shouldn't be as high next time.

Acquisitions right now are hard to come by, as most people can attest to. Units in the desirable areas are being bid up by owner occupants to levels that don't make them attractive, so we're having to expand what we would consider. Will be interesting to see at what level interest rates have to get to in order to cool off the owner-occupants' bidding.

 

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[Connor]

Just closed on #4 today. We were able to get an off-market deal through a wholesaler we have connected with, and we paid a little more than I would have liked, given the condition. However, the tenant has been there for a while and plans to stay, which should help us on turn costs. This is also our first unit in the nicer county, which has a lot better schools, employment, etc. Also lower property taxes, which should help make up for it over the long haul. This wholesaler is new to us, but he seems eager to get after it and is willing to target townhomes. The MLS is just way too overpriced right now for what we are targeting, so trying to put more effort into finding off-market deals.

Now that we have 4 units, we are looking at portfolio loans. With interest rates creeping up, I'm not sure we'll be able to get a loan close to what we're getting with the private money. I was hoping to get to 7 or 8 units before refinancing, but, due to some circumstances I won't get into here, we're not able to access as much private money as we previously thought from that source, so we're trying to pay back what we've taken out and then repeat. Hopefully more to come!

 

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[Connor]

Well, I guess I should have expected this, since I see these types of claims all the time in my insurance job. After having a water damage situation from a water heater in one of our units, we just had a backup in the sewer line in another. Shouldn't be too costly to fix, but, when you only have 4 units, your profit margin gets quickly eroded.

While our water heater situation was a miss on the initial rehab, not sure how we could have seen this coming. But the contractor we hired mentioned that sewer backup issues are very common in the area of that unit (and one of our others), so we are going to add it to our checklist of things when doing a rehab. Trying to look at this as a good learning experience, as I would rather have it happen at the 4 unit level with one unit than have it happen at 25 units when we have 100.

Just glad we contract out the property management so I didn't have to go down and see the mess from that situation!

 

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[WJK]

Well, I guess I should have expected this, since I see these types of claims all the time in my insurance job. After having a water damage situation from a water heater in one of our units, we just had a backup in the sewer line in another. Shouldn't be too costly to fix, but, when you only have 4 units, your profit margin gets quickly eroded.

While our water heater situation was a miss on the initial rehab, not sure how we could have seen this coming. But the contractor we hired mentioned that sewer backup issues are very common in the area of that unit (and one of our others), so we are going to add it to our checklist of things when doing a rehab. Trying to look at this as a good learning experience, as I would rather have it happen at the 4 unit level with one unit than have it happen at 25 units when we have 100.

Just glad we contract out the property management so I didn't have to go down and see the mess from that situation!

You must have pepper with your salt. It's all the cost of doing business and part of the learning curve. Yes, profits can be fleeting. BUT, you've learned a couple of common problems. Create a protocol for handling these common problems. It's a knee-jerk response, and you can give written instructions to you property managers. And try to figure out a prevention program for the future. Keep going. You're doing good.

TIP -- When I replace water heaters, I LOVE on-demand units. They are worth the extra dollars. We do have to service them, but they are a wonderful invention. You don't have all that hot water sitting there, waiting to flood your rental unit.

 

[Connor]

Know it's been a while since I've posted an update- not that much exciting, other than having a few move-outs and renovating one of our units before getting it leased up. Prices have mostly gone up to levels that doesn't make sense to buy, though we did just put an offer in on one unit, but it's going to require a significant amount of work even for a townhome.

Good news is that we've built up some nice reserves and should be able to acquire the next townhouse with the money we already have in the bank rather than having to put in additional money. I know it's ridiculous, since we're so fortunate to be able to afford to own 7 units already, but it's frustrating to not be able to keep acquiring deals, especially since we passed on some ones early on that would be awesome deals now. I have to remind myself that we're in this for the long haul and will be able to scoop up a lot more when the market resets.

 

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[Connor]

Closed on unit #12 earlier this week- was touch and go as the owner had a second mortgage that was larger than our wholesaler initially informed us. While again we're having to pay more than we did a year or two ago, the spread on off-market properties is so substantial. One unit just sold right across the street from the one we bought for 35% more.

Good news is that we'll still be able to cash flow this acquisition decently, with how much rents have risen as well in that area.

 

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[Connor]

Well, first fun issue for us, naturally while I was on vacation. Pipe burst in our newest rental and caused part of the ceiling to fall in. Fortunately, the damage is probably less than $2k worth, but that will take care of most of our profit on this unit for the first lease term.

Trying to look at it as a positive that we are discovering these sorts of issues when we're still small so we don't encounter as many major issues further down the road. But it still sucks to have happen, especially when we just got the tenant in the place.

Finding deals continues to be a challenge- looked at another off-market deal right before they got on the MLS, but they wanted way too much for the area, especially since 1 of the units was rented out at a very low rate. Hoping things cool off as we enter the fall, but we'll keep hunting regardless.

 

[Connor]

Hope everyone here is doing well. Closed on unit #6 in March- in a decent location but the square footage is a little smaller, so it will be interesting to see what kind of rent level we can achieve. With the two recent acquisitions and a move out, we were at 50% vacancy for a bit, which was really hurting our cash flow, but we've been able to rent out two of our units fairly quickly for higher rents than I thought we would get. So our cash flow should stabilize here shortly.

We were trying to pick up another 4 units from a guy who was having some debt issues, but he ended up selling off the two better properties to someone on their own, so we don't have much going on with the acquisition front right now. Not the worst thing, given the issues I mentioned above. Our insurance costs have also increased significantly percentage wise, after all the hurricanes last year, but the alternatives were still nowhere near what we are paying with USAA. Once we get to 10 units, I think we'll be able to consider more commercial options.

Have some interest from friends to invest with us, but I think we're going to hold off for now until we get bigger. Maybe on the debt side, but, unfortunately, the administrative costs of multiple investors would be too much of our income with so few units to make sense.

 

[WJK]

@WJK I definitely agree on a lot of those points. That's part of why I'm thinking debt instead of equity- no voting rights haha. Still, we're a bit early on to pull the trigger, but I want to make sure I explore all options that are out there before dismissing them.

Definitely don't want to be seduced by the adrenaline rush of raising capital, but we eventually want to get to several hundred units, so we'll probably have to raise some sort of funds at some point.

Over the years, I have seen some take high-interest hard money loans rather than taking on partners. It was easier and cheaper for them in the long run. Personally, I try to run on cash as often as possible. Very low LTVs (loan to value ratios) is gold in our business. Another source is owner-will-carry type of deals. And I personally have taken out commercial loans -- although they are usually blanket incumbrances with a very short loan life. Another short-lived option is a credit line with a major bank.
After the 1990s recession, I'm very head shy of any commercial loans or credit lines -- which includes all loans on residential income and other commercial properties. I saw a bunch of them being called and my friends had to go BK. They lost everything in a heartbeat. That business cycle blues has stuck with me for all these years. It's about to happen again here in my area. No one in the apartment building business here believes me. Oh well.

 

[WJK]

Yes, scaling up is tough. So, it's taking some time... But, please think about this. There are times when you need to stop for a hot minute and take stock of where you are and where you're going.

I'm really big on debt reduction. OPM really scares me after living through the 1990 meltdown. At the beginning of each loan, your principal payments on these loans are SO small. At least double them. If you can get just one unit with considerable equity, or paid off, you'll sleep better.

 

[Dunkafelics]

Welcome to the forum @Connor, thanks for the great introduction and an inside look into some great strategies for investing into townhouse investment properties.

Can you give any more insight into the amount of money that you had to put down for these townhouses and what your long-term vision is?

I ask as my family is looking to buy a property this year and am interested to hear more about your mindset in comparison.

 

[Get Right]

Subscribed!

 

[Connor]

In my investing experience, everything goes wrong at the same moment, in the worst way. I assume those days will come, and I'm prepared for them.

Thanks @WJK! My background is in insurance, so I'm always thinking of the worst case scenario lol. Both my brother and I work full time jobs, so that helps us reduce the risk. Plus the refi will probably be on a 20 year am, so while that will reduce cash flow, it will help expedite our paying down debt. I want to be excited about the next recession, with all the properties going on sale, not wiped out by it!

Do you have a particular percentage that you allocate for emergencies? We've got maintenance and vacancy allowances built in, but I'm curious as to your approach.

 

[Connor]

3 houses up the highway from us blew up and burned to the ground. They had natural gas leaks.

Yikes! That is one of my biggest fears, especially if I ever get into sizable multifamily. Thanks for the cautionary tale- will use that as a good reminder to never shirk on my allotment for repairs/things happening.

 

[Connor]

I've had people stand up in court when I'm evicting them and say that I don't do maintenance. Those signed inspection sheets, coupled with my maintenance records, put the brakes on their argument. I win the case, and they end up sitting out the curb burping and chirping.

Yep we also segregate our funds for insurance and taxes from the rest of our operating expenses. And your comments about evictions is exactly why we don't PM them ourselves haha. I definitely don't want to get involved in eviction proceedings if I can help it!

@Merging Left Sounds like you're targeting the low end (potentially Section 8 or otherwise) with your going after townhomes that are only $20-30k. With that being the case, I think you're likely way under-reserving for maintenance with 3%, unless you're doing a full gut on everything. Also not sure if you're budgeting separately for turn costs or not.

You can certainly make arguments for going lower end, as the margins do look better on the front end. However, since we want to eventually scale this big time, we're aiming for more of the upper-middle end of things, where we get the biggest tenant pool with the least amount of risk. Our margins probably would look worse than yours on the front end, but we're going to have less volatility of tenants (and thus cash flow) over time. You're right about appreciation- when things are doing well in the economy, everyone wants to have their own yard and space. But I'm ok with that- cash flow is what I'm after, and you're not going to see (typically) a 50-60% swing to the downside in a recession in the space we are targeting.

 

[WJK]

I'm looking at getting into condo/townhome investments as a way to get my feet wet with real estate. The prices are considerably lower, and the cash flow appears to be about the same, there' just less equity upside to the deals I'm looking at.

What price range are you looking at, and how much cash flow is ideal for each unit? On a similar vein, what kind of allowances are you giving yourself for capex/maintenance and vacancies?

I'm targeting condos ranging $20-30k, which will hopefully put out $200/mo in cash flow. Allocating 3% to maintenance and 10% to vacancy. I'm curious if your numbers are significantly different than mine.

Thanks!

My vacancy rate and maintenance rates are about the reverse of yours. And my net cash flow is higher. I've been rehabbing for almost 20 years now, one after another. I'm just about at the end of that program. I'm on my last two rehabs, and then I won't be adding to my rental inventory. It's enough to manage and I want to spend more time on my trust deed business. Becasue it's mobile homes, I can't expect the appreciation. I'm just happy with the income stream. My next goal is be debt free, and that's coming along. The rehabs were soaking up the cash flow. I sure be happy when they are all done.
Keep going. I like condos too. The normal danger in those is the association dues and being subject to the boards management decisions. Condos make a lot more investment sense than many SFRs and small units. The price of multi-families has also gone bananas in some markets. The good part about your cheap condos is the accessible resale market. The problem with the low end of that market is getting too many low income people into the building -- which can bring crime and a high vacancy factor.

 

[Connor]

I was actually curious where @Connor was.

I knew you were in Alaska and have been in real estate a long time. @Connor only has Southeastern US in his profile. Just curious how close he is to me.

I'm sneaky like that haha. I'm actually in the process of moving, so it works well. Living in the Carolinas, but I invest mostly in GA. So not too far off.

I have a friend who invests in Nashville, and he owns a few duplexes. Though he manages them himself, so his margins probably look better, but he also spends a lot more time on it then I do.

 

[Connor]

Know it's been a few months, so I thought I would share an update. We are still at 6 units, but we are hopefully about to pick up 2 more here by 8/1. We're going to have to do a bridge loan for 30 days or so, as the banks will only loan up to 75% of the value or purchase price, whichever is less, when doing a portfolio loan. Since we're going to be purchasing these two well below market, we'll have to wait a bit before including them on the portfolio loan with the 3 other units that we have yet to refi as well.

Thought we were going to close on our first 3/2 recently, but the guy ghosted us. We were going to assume his loan, but his ex-wife was listed on the mortgage, and we suspect he couldn't get her to sign off on it.

 

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[WJK]

Just acquired townhome #8. As I mentioned above, one of our pricier ones, and it probably won’t cash flow as well as some others. However, it will help our balance sheet, as the ARV will help our equity overall.

We also executed our second refinance, taking our a loan across the last 4 units that we had acquired. Didn’t completely take out all the private money we had out there, but took care of 90% or so.

We want to get to 10 this year at least, and I definitely think that’s achievable.

Slow and steady wins the race. This virus situation will shake out the RE business some -- depending on how long it lasts...

 

[Connor]

Have townhome #9 under contract (hopefully just didn't jinx myself). This is an older unit, and a 2 story one, but it's a great area, so I think we'll be able to hit a good rental price. Will be a good experiment too as we try to map out our criteria for the future and where we will be able to push the boundaries versus not.

Also was able to get a rate adjustment on our first portfolio loan, which is going to save us a little bit each month.

 

[Alleghenyman]

What has your experience been with property management? How does it affect your costs?

I managed my own investment property to save cash and it wasn’t terrible, I liked being onsite and knowing the tenants well. Problem is that I can’t scale to more properties.

 

[Connor]

Problem is that I can’t scale to more properties.

You hit the nail on the head. It all comes down to the question of what you are looking to accomplish. Do you want to make the highest margins possible? Or are you willing to give up some margin for the freedom of not having to deal with some of the headaches, and focus more on scaling?

My brother helps run the property management firm, so I do get the best of both worlds to some degree. Regardless, if your goal is to own a bunch of units and be more "passive" (RE is never fully passive, even with a property manager), then you need a property management. Definitely need to vet them even more than you would vet a tenant and keep tabs on them to make sure the 10% that you're giving up is worth it.

Edit: Most SFR property managers aren't very sophisticated, so it is a space that is rife with opportunity, but you have to be willing to slog through the muck. My brother works very long hours and deals with so many headaches, but his efforts are really starting to pay off.

 

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[Connor]

I feel like this is such a boring thread, but I keep posting as I guess I partially want to show that it's not super exciting on a day-to-day basis and more about consistency of the process. We've closed two more units since last time I've posted, and we're currently looking at doing a refinance across our entire portfolio, pulling out some additional equity to help us acquire properties. The additional leverage does give me some pause, but our rents are going up rapidly, and we're putting it on a non-recourse, longer-term note that will help maintain a good level of cash flow.

With real estate so hot, pricing of these townhomes continues to rise, especially with so few people selling, so we're starting to look more at smaller multifamily as a way to continue to grow while not overpaying on a per-unit basis. Still love the townhome thesis, as it's done well for us, but tough to get them to cash flow well enough with the increasing costs to renovate. Those are up about 30-40% from pre-pandemic levels, whereas our rents are up 15-20%.