Real Estate Investing: Rental Properties SH #1 and SH #2 Update (1 Year Later)

by FI Fighter on October 16, 2015

in Real Estate Updates

IMG_4078

I have spent very little time covering my side hustle properties on this blog… Since my investment partners and I won both Rental Property SH #1 and Rental Property SH #2 last year, I have basically stopped talking about them completely.

It may then come as no surprise for readers to learn then, that for the most part, my investment partners spend even less time thinking about, and/or managing these properties than I do.

Why is that?

Well, there’s really nothing to report. And in the business of landlording, no news is usually good news!

In any case, here are some more details.

Rental Property SH #1

We first won Rental Property SH #1 back in late August of 2014. Our purchase price was $490,000. At the time of purchase, our short-term gameplan was to hold this property for ~5-7 years, as we were projecting at the time that it was in the realm of possibility for this type of investment to appreciate to ~$700,000.

One year later, nearby comps are selling for ~$580,000, although a next door neighbor did recently close at $630,000 earlier this year.

So, we’ve witnessed about ~$100,000 in appreciation in just a little over a year. Not bad, and if the market can hold up, we should easily be able to hit our $700,000 target sometime within the next 5-6 years.

Since we haven’t yet achieved our appreciation target, in the meantime, we’ve had to rely on renting out the unit for cash flow. Luckily for us, this property is located in a Class A neighborhood, and this property could not be any easier to rent out. As I’ve emphasized before in the past, when it comes to real estate investing, absolutely nothing beats a wonderful location where demand is high.

Originally, we were renting out the unit for $2,850/month. Since it has been over 1 year now, we recently extended the lease agreement, raising rents to $3,000/month. At this time, market rates are closer to $3,300/month, so we are offering our tenants quite a discount.

But it’s a two-way street. These tenants pay rent on time, are low maintenance, and by staying put, they save us a ton of time of having to re-start the entire tenant leasing process (clean up, open houses, screening, etc.) again. So, I’m more than happy to return the favor in any way that I can. And as every landlord knows, vacancy is the one thing that will decimate your cash flow more than anything else!

Plus, I really do love passive investments, so the less amount of work I have to do, the better!

My investment partners are also shrewd people and realize that there should be no rush at this time to try and milk our tenants for every last drop… Although cash flow isn’t too abundant yet, we are very much cash flow positive, are paying down a tremendous amount of principal every month, and really, we just let this thing run on autopilot each month.

Further, we are currently in the process of refinancing our mortgage, attempting to lock in a lower rate. If all goes well, we should be able to reduce our monthly mortgage payment by $140/month.

So, the combination of rent increase and mortgage reduction should help increase cash flow in the positive direction by $290/month, year-over-year.

 

Over time, I’m confident even more cash flow will be generated from this wonderful investment.

 

Patience will be rewarded. Just gotta stay the course until then…

Rental Property SH #2

The story of Rental Property SH #2 is not much different. We originally purchased this property for $521,000 and the current valuation is about $600,000.

Our target for this side hustle is also to see it rise to the realm of ~$700,000 within 5-7 years. After one full year, we’re quite pleased with the progress already being made here.

Like SH #1, this property is also located in a tremendous Class A neighborhood. Similar to the other property, we extended our lease agreement with our pre-existing tenant for another 1 year. Unfortunately, with this unit we had already conveyed at a much earlier time to the tenant that we would be extending them at the same rate.

So, we’re locked in for another year at $3,100/month.

Market rent is around $3,400/month.

Not an ideal situation, but this tenant is wonderful, and is actually our best one. For starters, we’re renting out to a corporation who not only furnishes the entire unit, but brings in hired maids (their expense, not ours) to clean up the place 2x/week.

Everytime I visit, I find the unit to be in impeccable condition, just as good (if not better) than the state it was in when we first rented it out. So, the big picture tells me that even though our rents are low today, we are probably saving a ton of money on wear and tear down the road.

Yes, we’ve had a few maintenance repair items pop up from time to time. Over the year, I’ve probably had to stopby for repairs 5-6 times. Since we are running the PM services ourselves, we are saving a lot on expenses. Luckily, so far, we haven’t had a single repair item exceed $100.

When it comes to cash flow, we are also in the GREEN with this unit, and it actually generates a better monthly income than SH #1 since the rent is slightly higher for this unit. Currently, we are also in the works of refinancing this unit as well, getting out of a 7/1 ARM and into a 30 year fixed rate mortgage. Once the refi is completed, our monthly cash flow should decrease by $80/month.

In regards to cash flow, we are still doing well, but there is clearly a lot of wiggle room for future improvement.

Bottom Line

With these properties, you really have to take a long-term approach to appreciate the wonderful investments that they are. A myopic viewpoint will discount them as “lousy” investments because the cash flow numbers have not yet delivered strong double digit returns…

But as I’ve learned, Day 1 cash flow numbers do not tell the entire story.

When it comes to both cash flow and appreciation, much more important than Day 1 numbers, are Year 5 numbers… Year 6 results…

After 1 full year of ownership, we have already increased our cash flow from SH #1 by $290/month. For SH #2, cash flow will actually take a slight hit (but still cash flow positive), as our new 30 year fixed rate mortgage will not offer as attractive a rate as our 7/1 ARM.

But at this moment in time, we can afford this setback on SH #2, since the gains in SH #1 more than compensate for any decreases in cash flow. In fact, the overall result of both moves is net positive.

Again, it’s a slow and steady approach, but we just have to be patient with these investments… I can clearly already see the benefits, and long-term, these side hustles may well prove to be the best investments in my overall portfolio.

To wrap up, after 1 year, we have noticed:

  • $100,000 appreciation in each unit.
  • $290/month increase in cash flow for SH #1.
  • $80/month decrease in cash flow for SH #2.
  • Wonderful, low maintenance tenants who have extended their leases for an additional year.
  • Hefty paydown of principal each month (total for both units = ~$1,000+/month).

 

After 1 full year, so far so good…

{ 16 comments… read them below or add one }

1 Midwestern Landlord October 16, 2015 at 11:11 am

You know I like those real estate updates…..

One thing that I think people miss the boat on is how significant increases in cash flow really are. Take side hustle number 1 for example. $290 more cash flow each month X 12 = $3,480 per Year. Divided by .04 = $87,000. So you need $87,000 in capital to earn $3,480 per year based upon the 4% rule. It takes a while to save $87,000………..Power of real estate.

Reply

2 FI Fighter October 16, 2015 at 11:23 am

Midwestern Landlord,

Absolutely! And that’s a great way of looking at it. Most investors rely on the 4% rule, so there it is crystal clear!

Once you factor in the tax breaks, depreciation, and principal paydown, the story gets even better and REI becomes an absolute no brainer.

Real estate is a tremendous wealth building tool… Unfortunately, the nature of the beast is cycles. And in an expensive market, you really have to time those market cycles right or you can/will be burned.

I’m patiently waiting for the next round!

All the best!

Reply

3 Midwestern Landlord October 16, 2015 at 11:28 am

Great points. In many ways, you have already made it. You have a lot of really nice real estate investments working for you and have accumulated very nice liquidity as well. I would not be “all in” with your remaining capital as well right now. Better to keep the dry powder for when truly remarkable deals present themselves.

Reply

4 FI Fighter October 16, 2015 at 5:17 pm

Midwestern Landlord,

Definitely, I agree with you there, and maintaining a cash strong position is the #1 priority right now.

As much fun as this buying cycle has been, I am more than content to exit the stage and wait my turn to get back in. As investors, nothing is more frustrating than to see a buying opportunity and have insufficient funds to execute!

Take care!

Reply

5 Alexander @ CashFlowDiaries October 19, 2015 at 12:56 pm

What is the 4% rule? I dont think I have come across that before.

Reply

6 Joe October 16, 2015 at 4:21 pm

Personally this is not a type of real estate I would want to have my money invested in. Here is my logic. I do think appreciation is important BUT to have the entire deal hinged on the real estate cycle is too risky for me.

For example from the numbers you posted you bought the first property at $490,000. Lets assume you bought the property 25% down 30 year mortgage at 5%. Correct me if I am wrong but lets guesstimate your PITI is $2597. Lets say you have a perfect month and there is no vacancy, repairs, capex and you manage it on your own time. Even in this best case scenario you are bringing in $403 X 12 = $4836 which is a 3.8% on your $127,000 investment. What about the worst case scenario?

That being said you certainly have gotten a much higher ROI if you count the appreciation in the gains. If I remember correctly you said that you did a refi on this so you were able to appreciate your gains? I also do believe that people should diversify their portfolio to have some properties produce cashflow and some produce appreciation. For my risk tolerance I would consider it to be way to risky to have that much of my portfolio allocated in an appreciation only play.

Personally I try to get opportunities that both cash flow and appreciation. I do not invest in warzones which it sounds like your out of state rentals are in rougher areas. I usually invest in B neighborhoods which receive steady appreciation from population growth as well as stable cashflow from being priced right.

Reply

7 FI Fighter October 16, 2015 at 5:09 pm

Joe,

Yes, these type of investments are not suitable for all investors; anyone can log onto Bigger Pockets and you’ll find a never-ending string of threads debating about appreciation vs. cash flow between Bay Area investors and other cash flow markets…

As an investor who also owns cash flow properties out of state, my two cents is this:

– You pay a premium to invest in the Bay Area… but you also receive a premium on the way out (should you choose to sell).

-It may take 1-2 months to rent out a unit in a typical cash flow market (for us out of state investors)… Bay Area homes such as SH #1 and SH #2 can typically generate 5+ solid leads via one Craigslist ad overnight.

-Cash flow out of state trumps Bay Area real estate on Day 1… Most investors are completely fixated on these return numbers… But cash flow appreciation in hot (expensive) markets like the Bay Area will rise at a much more tremendous rate. Forget about property value appreciation (although it does matter!). As an investor, do you care more about Day 1 cash flow or Year 5 cash flow?

And so on, and so on…

I see merits to both sides, but since I don’t live in a cash flow market, I don’t have boots on the ground and my expenses will be much higher than someone else who can do it themselves…

So, when it comes down to it, because I can manage these Bay Area properties myself, my returns (and future potential) make these type of investments a no-brainer… Bay Area real estate (for me) wins hands down, especially if you control units that cash flow! You may think I’m crazy, but out here, it’s quite normal for investors to buy cash flow NEGATIVE investments… and a lot of times, these owners are just thrilled to have won! It’s that competitive…

These investments have been almost as effortless to manage as dividend growth investing, which is 100% passive.

That says a lot…

Reply

8 Joe October 16, 2015 at 7:26 pm

Just like dating, if she is fat and complains a lot on day 1 shes not going to complain less or be any skinnier on day 28. For my risk tolerance I like to see day 1 performance as well as day -1 performance and day -28 performance. Historical trends have a stronger imprint on my mind.

I guess I am just spoiled over here in Texas buying rental properties in one of the fastest growing counties in the country. Bought for 75,000 rented for 1200, 2 years later appraises at 90,000 and rents for 1300.

As far as effortlessness goes I have a property manager that collects all my rent checks for me. My margins are so wide I can afford that. I haven’t seen my properties in 5 months. Hes raised rents twice. I wouldn’t say I invest out of state but I definitely invest at a distance. Again another “if i were in your shoes” scenario I would look to invest in cities like Stockton or Sacremento (sorry if I am ignorant of California geography).

Reply

9 FI Fighter October 16, 2015 at 11:26 pm

Joe,

Congrats on all your success with Texas real estate; I’ve also heard many good things from other investors.

Yes, there are many ways to invest… From my experience so far, I definitely have no regrets with the more expensive properties in the Bay Area. I definitely don’t appreciate the high prices today, but if I could do it all over again, 1000 times out of 1000 I would have made the same moves and bought in the Bay Area.

In fact, my only regret was not buying more Bay Area rental properties during the downturn and especially from the period between 2012-2013, when I was very active.

Take care!

Reply

10 Anon October 16, 2015 at 11:29 pm

I find your analogy at the beginning of your post to be quite crude and in bad taste.

Also, you spelled Sacramento wrong.

Reply

11 bob October 20, 2015 at 11:22 am

His analogy was spot on

Reply

12 JP October 20, 2015 at 6:43 pm

Anon, good work on heading up the spelling police, your priorities are surely in the right place.

Fifighter, great work on keeping the tenants in place even though they are below market. I just spent 6 months trying to remove a tenant that seemed wonderful to begin with, then stopped paying rent and stopped responding to me.

I have another tenant who pays $1250 when market is around $1600. She pays 21 days late like clockwork. It’s hard to evict her because she pays every month, although late. Would you raise the rent until it reaches market value and hope she either pays or leaves? It’s just tough because I don’t think she would pay or leave.

Let me know if you have any thoughts on the matter.

Reply

13 Reddy March 30, 2016 at 10:54 pm

what is your opinion of 15 yr vs 30yr loan on rentals.
is it better to payoff in 15 and get more cash-flow after 15yrs

does your answer change if i am 45 and am planning to retire at 60 with more cash flow

Reply

14 FI Fighter March 30, 2016 at 11:04 pm

Reddy,

It really depends on your goals and own personal situation. For me, I like 30 year fixed-rate mortgages since inflation will make these loans very manageable in the far out future. Since your goal is to retire in about 15 years, it might make more sense to go with the lower rate 15 year loan since the timing will align with you getting a paid off rental when you retire.

For younger folks just starting out, I would have to think 30 year is the way to go.

Cheers!

Reply

15 Reddy March 30, 2016 at 11:33 pm

thank you for the prompt response
i have been following your blog for a year plus and really enjoy reading every post of yours..

one more question..

what would you do with a $200k appreciation in a rental prop..

tempted to take cash out (if i can) to the point where cash flow is break even. your thoughts

Reply

16 FI Fighter March 30, 2016 at 11:42 pm

Reddy,

Thanks for the support! Glad you are enjoying the blog.

Well, I can only speak for myself, but I did 2 cash out refis last year to pull out approx $200k… Granted, even after the fact, both rentals are cash flow positive, but right now I’m charging about $500/month below market rate on EACH property… So, that gives me about $1,0000/month buffer, in case the economy goes into recession, or rents go down for whatever reason.

Obviously, more debt = more risk, but I wanted the cash upfront, which I used to build an emergency fund/fund other investments.

So, it depends on your cash reserves, current debt burden (would more be acceptable?), and goals with the $200k… Ideally, you would be able to pull out cash and still be cash flow positive… If break even works for you b/c the properties are in wonderful locations and easily rentable, it may make sense.

Reply

Leave a Comment

Previous post:

Next post: