# Local Real Estate Investment Madness

## By Mr. Money Mustache

## Fri, 23 Nov 2012 13:00:41 +0000

The real estate market has been pretty interesting in my area in recent months, and perhaps in yours as well. It’s a topic worthy of discussion on this blog, since many of us consider property ownership to be a key part of our early retirement strategy.

If you live in an area where houses are currently expensive (San Francisco, Vancouver, New York, London, good slices of Canada and Australia, and anywhere else enjoying a surplus of demand) you might be frustrated that even owning your own place seems out of reach. In such an environment, you can often rent a house or apartment for less than the mortgage interest and taxes/insurance/maintenance would cost on a similar space. If the rent vs. buy decision leans towards “rent”, it usually means that buying extra properties for investment income is also a bad idea.

On the other hand, much of the US housing stock is still on sale, presenting favorable conditions for both investment and cozy living. In my own city as well as most of the Denver area, this is definitely the case. In other areas in the US Southwest, there are even better deals to be had. As long as this persists, I’m going to keep an eye out for investment opportunities and pick out some good ones. Just a few examples from the recent shopping list:

Property 1: Nice Neighborhood Fixer-upper

A house recently came up for sale literally right in my back yard (I can see its rooftop over the fence when I eat breakfast each morning). It is a 3-bedroom house with a full basement, 1200 square feet on the main floor, plus a huge yard. But it had been abandoned by the owners at some point via the “jingle mail” process, leaving a bank to take it over and attempt to re-sell it. In fairly ugly condition, but with good bones and potential.

Asking Price: $165,000
Renovation cost to bring to nice condition: $25,000 ($10,000 actual cash for materials, $15,000 of unpaid DIY labor from me).
Potential Rental Income: $1600/month

I put in an offer on this place for $150k, figuring that after paying myself $50/hour for renovations and buying materials, I’d have $175k invested. Gross rental income (at $1600/month) would be $19,200/year, and operating costs (tax, insurance,maintenance) would be about $3000. This would leave me with a net annual return of 9.25% on the total “investment”, or 10.125% on the actual cash outlaid, since the materials for renovation would only be $10k.

On top of that, the place could easily be resold after renovation for about $240k after selling costs, leaving me with a tidy $65k in capital gains whenever I eventually decided to sell it. On an hourly basis, you could thus consider the 300 hours I would spend renovating the place to be bringing in an income of over $250.00 per hour.

Sounds pretty good, right? People often complain that it is hard to get 7% after inflation, and here I can get 10% within 300 feet of my breakfast table! This is exactly why I find real estate so interesting.

Epilogue: Unfortunately, I was not aggressive enough on the bidding for this place and another buyer outbid me. But the education that came from doing the analysis was fun and useful anyway.

Property 2: Downtown Residential Double-Header

A good friend of mine found a sweet deal on a place just a block from the best downtown restaurants. It’s a historic little 2-bedroom place from the 1920s, in rough condition, but for the $131,000 he is paying, it is a bargain. He’s a carpenter, so bringing it back to life will be no problem, especially since he plans to live there. He is also putting a Financial Independence Ace up his sleeve, since this place can easily rent for $1300/month once he fixes it up. After expenses, this is even more than the 10% net income I could have earned on the place in my own backyard. Since this friend has been known to go on long journeys to other states and countries in the past, he can now use his new house to fund his lifestyle abroad, by simply renting it out before long trips.

But that’s just the background for Property 2. The place I was interested in was right next door to his. Currently owned by the same person that sold him his place, this is a nearly-identical 1920s historic house. But mine had a full basement instead of a crawlspace, and a second building at the back of the lot: a 1500 square foot concrete garage structure with a flat roof. Inside, this place is set up as a “monster garage/man cave” arrangement with enviable workshop space as well as a kitchenette and bathroom with shower.

Both units are currently configured as rentals, with a stable tenant in the garage. Total income is a combined $2000/month. I put an offer in at $190,000 for this property, which would yield 10.5% net income, with the potential for much more once I got around to doing some much-needed renovations on both the house and garage, allowing much higher rents in the future (12.6% after accounting for renovation costs). The sellers did not accept my offer (yet), although their counter-offer came close, so these returns are almost within reach.

The fun in owning this property would be to team up with my friend to create a sparkling jewel in the heart of the city – both matching houses would be restored and painted with beautiful colors, fancy front porches and deluxe landscaping. The downfall of this deal is that mine would always have a commercial feeling: not every family wants a 1500 square foot concrete building in their back yard, so future buyers would be limited to investors or people with a serious love for workshop space. (When buying rental properties, always consider the eventual exit strategy, rather than just the retirement income).

Property 3: A Downtown Landmark

Some other friends and I also toured a big old brick 2-story commercial building on the nicest block of Main Street. Built in the 1880s, this beauty has high ceilings and about 3800 square feet of rentable space (a 2600 square foot retail space on the main floor and a 1200 square foot 3BR apartment above). Plus a 2 car garage on the back alley and flat roofs which present amazing rooftop patio potential for the residential space. Potential rental income was about $3,500-$4,000/month in its current condition (two tenants are already in place), although that could rise considerably once the apartment is renovated. Asking price was $350,000.

This was more of a fantasy exercise, since the price is more than I could safely handle right now, commercial space can be subject to long vacancies, and I don’t yet know much about the business. But it was still neat to think that a person could own such a significant chunk of a historic downtown, for less than the price of a 1-bedroom condo in many cities.

On top of that, our downtown is undergoing a bit of a renaissance right now, including a city-funded rebuilding of the alleys behind the prime downtown blocks (including the alley behind this building within the next 12 months), which creates new pedestrian walking spaces and storefronts – potentially increasing desirability of this building. On top of that, a major new high-end residential project just broke ground a few blocks north of here, which at $21 million is worth about as much as the rest of the downtown buildings combined. It is a speculative endeavor, but if it were undertaken with some confidence and patience (and without much leverage), this building could be a very profitable and fun investment as well.

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The possibilities in real estate investment are endless if you enjoy the work. I am writing about these three examples just to give you a feel of the thought process you might go through if you were to evaluate places in your own area. All of this is made even more fun by the fact that Mrs. MM holds a Colorado real estate license, so we get quick access to information and commission-free sales for any deals we do ourselves.

Equally interesting is the idea of investing in properties in other cities. The deals in my area are reasonable, but people in Arizona, Nevada and many other places have access to houses with even better cashflow right now. I contacted one MMM reader/investor about the idea of buying a place in Las Vegas as a rental, and although he was duly cautious on my behalf, the deals sounded quite favorable. Another reader (who is also a friend) from Australia contacted me personally, asking if I might help him buy an investment place right here in Longmont, since that country’s market is sizzlingly expensive right now, yielding poor returns.

After we return from the winter trip, I will be more serious about getting the next investment house purchased. Although we don’t technically need the extra income for ourselves, I still love the idea of restoring old houses, improving neighborhoods, and generating good investment returns – which can in turn be used for bigger projects (and bigger charitable donations) in the future.