Buying cheap property (condos) in bad neighborhoods

twinwings's picture
Rank: Baboon | 119

Hello,

I've been thinking about buying a cheap condo in a(for lack of a better word) bad neighborhood, and renting it out.

From what I understand about the demographic, the tenants tend to be long time renters.

Now, I am as ignorant as they come in the real estate world (at least compared to many of you here), but if I were to break it down on a monthly basis,

Rental income > (maintenance fee + payment). Now not by much, but rental income is still bigger....

These condos go for pretty cheap. Downpayment shouldn't put a huge dent in my savings...And due to its price, the payback period should also be relatively low for me

The only reason I can think of that justifies their relatively cheap price is the 'bad neighborhood", which I guess might lead one to assume that collecting payments can become a difficult task.

Have any of you been in my shoes? I'd love to hear what you guys think. I am located in Canada, but would love to hear from US people as well.

Thank you.

Comments (27)

Sep 30, 2014

You can get some deceptive tenants.

My uncle came off as a honest used-car salesman looking for a new start in a certain (bad) neighborhood; 6 months and a drive-by shooting later, DEA shows up at the door cause he was dealing and distributing, and shuts down the property for an extensive cleanse of devices/evidence.

Just a warning on that end, stuff like that could put your property out of business for a while (and attract even worse tenants), otherwise I can see how it can become a good opportunity.

Oct 1, 2014
SocratesIsMortal:

You can get some deceptive tenants.

My uncle came off as a honest used-car salesman looking for a new start in a certain (bad) neighborhood; 6 months and a drive-by shooting later, DEA shows up at the door cause he was dealing and distributing, and shuts down the property for an extensive cleanse of devices/evidence.

Just a warning on that end, stuff like that could put your property out of business for a while (and attract even worse tenants), otherwise I can see how it can become a good opportunity.

wow, talk about a surprise

Sep 30, 2014

Let's start with a Canadian joke if you don't mind -
"Hey there, would you please send in your rent payment?"
"No thanks"
"Ok, great!"

A friend of mine owns several resi housing units where the tenants get government subsidies. This means that even if his tenants don't pay, he gets a check from the government. Unless you have that government guarantee, this sounds like a risky venture.

In the US, you can't simply evict someone if they don't pay. If they have no where to go, it's a long, expensive legal process to get them out.

If your 'bad' neighborhood tenant damages the property, I would think it's tough to collect for those damages.

Lastly, you'd be a landlord. My friend is extremely handy and that helps a lot. When your tenant calls you and says the kitchen faucet is leaking, that's an expensive bill for you to have the plumber come out and fix.

I think you are under estimating the risk and the effort required to be a landlord.

Oct 1, 2014
grosse:

Let's start with a Canadian joke if you don't mind -

"Hey there, would you please send in your rent payment?"

"No thanks"

"Ok, great!"

A friend of mine owns several resi housing units where the tenants get government subsidies. This means that even if his tenants don't pay, he gets a check from the government. Unless you have that government guarantee, this sounds like a risky venture.

In the US, you can't simply evict someone if they don't pay. If they have no where to go, it's a long, expensive legal process to get them out.

If your 'bad' neighborhood tenant damages the property, I would think it's tough to collect for those damages.

Lastly, you'd be a landlord. My friend is extremely handy and that helps a lot. When your tenant calls you and says the kitchen faucet is leaking, that's an expensive bill for you to have the plumber come out and fix.

I think you are under estimating the risk and the effort required to be a landlord.

Indeed I am...I'll check the government housing as well. I am in Ontario and it's probably the worst province to be a landlord.

Sep 30, 2014

Owning rental real estate on the side has to be the biggest headache for some of the lowest yield out there, and you want to do so with an unreliable demographic that is more likely to trash your investment? All I see is poor yield, damage risk and an illiquid asset.

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Sep 30, 2014

I own a few rental condos in a subpar neighborhood and consistently receive 20-30% cash on cash return after expenses. Sure you have to actively manage the units, but if you screen tenants diligently (e.g. sufficient income, credit, past rental history), I wouldn't expect to spend more than a few hours a month of my time (automate as much as possible). Unexpected capex is part of the risk, but you can mitigate some risk through preventative maintenance. Sure as hell can't do that though the stock market.

Also, as mentioned above, never buy Section 8. They will destroy your units, literally.

Oct 1, 2014
AddValue:

I own a few rental condos in a subpar neighborhood and consistently receive 20-30% cash on cash return after expenses. Sure you have to actively manage the units, but if you screen tenants diligently (e.g. sufficient income, credit, past rental history), I wouldn't expect to spend more than a few hours a month of my time (automate as much as possible). Unexpected capex is part of the risk, but you can mitigate some risk through preventative maintenance. Sure as hell can't do that though the stock market.

Also, as mentioned above, never buy Section 8. They will destroy your units, literally.

Thanks for the info..care to explain what Section 8 means....im guessing a type of tenant (or class)?

Sep 30, 2014

You need to add costs (and/or lost income) for vacancy, maintenance, capex, insurance, any taxes or utilities you'd pay if they're not in the payment you're looking at.

Bottom line.....it can make you money, but I'd be careful. It seems like you have some learning to do. I recommend checking out biggerpockets.com

twitter: @CorpFin_Guy

Oct 1, 2014
accountingbyday:

You need to add costs (and/or lost income) for vacancy, maintenance, capex, insurance, any taxes or utilities you'd pay if they're not in the payment you're looking at.

Bottom line.....it can make you money, but I'd be careful. It seems like you have some learning to do. I recommend checking out biggerpockets.com

lots of learning to do. Thank you for the brief breakdown. just made an account on biggerpockets. Will go through it after work, or during lunchtime :)

Oct 1, 2014

Just wanted to ask...is there a multiple that you guys use when buying rental properties.

eg. 3-5 times your annual gross salary?

If I recall correctly, I may have searched through torrents in the past for real estate models (not even sure if they would come in handy) but couldn't find anything. Do you think it's worth cashing out and buying the REIT modeling for $400?

Oct 1, 2014

multiple for what? what you can afford?

Typically on rental properties you'll need to put down 25-30% (there are ways around this, but that's the typical amount), if you can afford the downpayment and initial capex and it cash flows monthly you should be good to go.

I wouldn't buy any modeling. What you're looking for is simple, you can probably create it in 20 minutes. Otherwise check out biggerpockets, they have it for free.

twitter: @CorpFin_Guy

Oct 1, 2014
twinwings:

Just wanted to ask...is there a multiple that you guys use when buying rental properties.

eg. 3-5 times your annual gross salary? Do you think it's worth cashing out and buying the REIT modeling for $400?

Wtf? Dude. 99% of people who invest in cheap rental properties don't even know what modeling IS. Don't waste your time with spreadsheets at this stage. You can do this math in your head.

    • 1
Oct 1, 2014

Yeh, "modeling" at a single property/unit stage can be literally back of the envelope. 5 or 6 line excel if you want to be complicated.

Just my two cents OP: be careful on very low end stuff. It can be a pain in the ass because there's a much greater chance you'll have to chase rent, expect and repair property damage, etc. so it won't be as passive as a slightly higher end rental. And if it's in a really bad neighborhood and the ______ breaks at 2 am, do you want to have drive there?

I have a friend who does this as a full time job now (I think he was an options trader in his 20's, bought one property, then another and so on until the income was enough to do it FT). He still owns some units in bad areas but he's very hands on with these and he, let's just say, projects a little more of a tough blue collar guy attitude (even though he went to an Ivy League school) and he says that that helps him all the time with tenants in the lower end units. And that those class C/D units take him more time and make him less money in an absolute sense than better properties, at least with regard to CF.

I'd also look at neighborhoods that have the possibility of transitioning from bad to good if you're willing to devote the above stated time to them because you'd at least have a chance of appreciation that beats inflation while putting in the time. That's why my friend owns in less than desirable neighborhoods. This is a city by city thing but it take time to learn the market.

And one last thing, just because something doesn't cost much in absolute dollar terms does not make it cheap or a good value. Maybe you buy a 2 bed row home in the 'hood for $50k just to get you into the real estate investing world but if it doesn't cash flow based on rents and expenses, that's not cheap. A 2 bed luxury condo that gives you a 25% leveraged annual yield that cost you $1MM is cheap, even though it's a lot of money.

Oct 1, 2014

You just should look at props with existing tenants and where the incoming cap rate (Rent - All Expenses / Purchase Price) is over 10% (although this does take some looking, but isnt impossible to find BC of unique situations certain sellers are in). I have seen rentals in not-so-bad areas at 10%+ cap rates (including prop mgmt fee of 10% rents). With the financing world today, you can get positive leverage and get a pretty nice levered yield. I assume in 'bad' neighborhoods you can find deals at even higher cap rates, although it definitely will be tougher to get as cheap financing or as stable tenants...

But, if you get a levered yield of over 15%, potentially more, is it worth the risk? That is tough to say, but you can't get 15% yields without a lot of risk in the world today. Also, it is tough to get an investment with those yields that also has inflation protection like real estate. Idk just things to consider.

Oct 1, 2014

thanks a lot sport. Indeed, the ones I was looking at, had existing tenants. And thank you for giving me a benchmark. Wasn't sure how to ask about it, but that's what I was looking for (10% to 15% cap)

Oct 1, 2014

similar topic (flipping houses): http://www.wallstreetoasis.com/forums/is-flipping-...

the trouble with rental real estate is unless you can get it at foreclosure (below market rate) your upside is inherently capped. the ways to make serious money in real estate is with land or with something like farmland or mineral/O&G rights where its income production is much higher. the deal is the rent rate you can charge and still have tenants can't be materially higher than street rent rates otherwise you won't get tenants. rent rates are traditionally pretty close to what a 30y mortgage payment is. I rent, my rent payment is about 25% more than what a 30y mortgage at 5% would be. however, when you add in taxes & insurance, my rent is only about 5% higher than what that would be, and I'm in a nice neighborhood. add in the costs of maintenance plus the headache of dealing with food stamp tenants and it's enough for me to say "fuck that." even in a ZIRP world, you can get more than 5% in the stock market by just blindly equal weighting a portfolio of dividend aristocrats, and much more if you have skillz.

tldr: not worth it unless you get the property at such a steep discount that it makes your rate of return substantially more than other capital markets.

    • 1
Oct 1, 2014

This is very true. I actually want to own a few rentals, but you're absolutely right they have to be purchased below market value.

You're also correct in that your annual return will not be staggering in buy and hold rental properties, but 5-10% per year PLUS the mortgage paydown isn't too bad.

My goal is to accumulate ~5 properties that cash flow every month (likely in the $100-150k range). The cash will only be re-invested into the properties, used to paydown the mortgages or acquire more property. Then, in 20 years I can cash out by selling the properties or keep a passive income stream through my retirement.

The key to buy and hold is time. You put down 20% and at some time in the future you own 100% of the property + any appreciation (if there is any) + you should have accumulated some positive cash flow over that time.

twitter: @CorpFin_Guy

Oct 1, 2014

I don't think that yield is realistic. Last time I looked at getting involved in real estate as an investor, it was a gross yield of around 7%, not counting maintenance, taxes, fees and that doesn't even factor in amortization of your note if you needed one.

Edit: I don't mean to come off as harsh or single you out.

Oct 1, 2014

I did this with (3) foreclosed properties 3 years ago. I did this for 2 years and then sold them and got the fuck out. The areas of the properties were in questionable neighborhoods. Finding someone who could come up with a valid security deposit (worth protecting the owner) plus a fair rent, and you felt was dependable was nearly impossible. The typical pattern I saw was first months payments were on time or at worst 2-3 days late, 2nd month 5-7 days late, after that going forward I was constantly on the chase. "Oh, I just got laid off", "my kid got sick", I heard it all. I'm not saying it wasn't true but when it becomes a trend, well, you get it.

Oh, the ones that move out? Needless to say folks in that income stage are not very respectful and then will hound you thinking they seriously deserve the security deposit back.

Get your facts first, then you can distort them as you please.

Oct 1, 2014

Btw, I know people who have killed it buying cheap-ass investment properties, and some of the guys who do the best are the ones who do it full-time because they have the time to go around pounding the pavement and knocking on doors to find those off-market deals. Even if not, they have alerts on their phone that will instantly tell them about listings that they can put under contract within mere hours. Also, they often either have plenty of cash or access to cash so that they can persuade a seller to give it away at a discount, or so that they can close fast before someone else snatches up a deal, or so that they can fund at an auction, or even so that they CAN buy it at all (e.g. let's say it's a 10k, etc.).

There is also hard money lending, but I'm not as familiar with that.

Point is, don't let people make you think it's mysterious or complex, because it's not - it usually comes down to the factors I mentioned above ... time and money.

Oct 2, 2014
prospie:

Point is, don't let people make you think it's mysterious or complex, because it's not - it usually comes down to the factors I mentioned above ... time and money.

Plus a lot of hard work.

Oct 2, 2014
prospie:

Btw, I know people who have killed it buying cheap-ass investment properties, and some of the guys who do the best are the ones who do it full-time because they have the time to go around pounding the pavement and knocking on doors to find those off-market deals. Even if not, they have alerts on their phone that will instantly tell them about listings that they can put under contract within mere hours. Also, they often either have plenty of cash or access to cash so that they can persuade a seller to give it away at a discount, or so that they can close fast before someone else snatches up a deal, or so that they can fund at an auction, or even so that they CAN buy it at all (e.g. let's say it's a <$50k deal that is too small for a normal bank, or a burned-out house for $10k, etc.).

There is also hard money lending, but I'm not as familiar with that.

Point is, don't let people make you think it's mysterious or complex, because it's not - it usually comes down to the factors I mentioned above ... time and money.

This is a very important point: the guys who get the really good deals and make great money are the ones who do it full time and are pounding the pavement or have others pounding the pavement (and I'm not necessarily talking about brokers, but people in the neighborhood who know when someone's being foreclosed upon, for example) know when a good property is coming on market, have the capital lined up and can take it down within days (maybe with a&e and environmental contingencies).

Hard money lenders: bad idea. We looked into it back in '08 when we were investigating jv'ing with a developer who was locked up on capital simply due to the times (great project but there simply was no conventional financing for anything, real estate or corporate) and you might as well just go to Vinny One Thumb on the corner and borrow from a loan shark. Huge points going in and out, outrageous interest rates, very strict limits on term, personal guarantees that will reach to anything and everything: basically they are like the mob and want to take your property over while milking you for any bit of money they can and they'll take your first born along the way.

Oct 2, 2014

I bought two condos that were not financeable because of the complex's owner/occupancy ratio and the HOA reserves were below the recommended amount due to a lot of delinquencies. Now that banks will lend on them, and one is FHA approved, the values increased by about 40%.

Oct 4, 2014
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Oct 4, 2014
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