by Vena Jones-Cox
I have just started investing in real estate and am looking at 4-families to start with. My agent has shown me probably 20 properties all over the city, and I can’t see how anyone makes money at the prices these things are selling for! My agent says that some of them are real bargains, because they’re listed for $10K-$20K below what other 4-families have sold for, but I just can’t make the numbers work. Am I being too conservative, or is everyone else overpaying?S.M., Seattle. via email
The Truth About 4-Families
Many of them sell at a price where the purchasers will not see a dime in positive cash flow for 10 years or more. Why? In my humble opinion, there are several reasons. First, 4-families are very much in demand among newer investors who, in all honesty, don’t have the first idea how to properly evaluate cash flow. These buyers fall into the trap of determining the value by looking at what other people have paid for comparable 4-families to determine value, rather than doing a cash flow analysis to see how much money they’ll make at a particular purchase price. As a result, they pay what everyone else is paying”which, as you’ve already seen, is often more than one can pay and make any money!
Compounding the problem is the fact that many 4-families are sold by agents who also have no investing expertise. I’ve had many an agent prove to me that a 4-family is a good deal because it has a positive cash flow after mortgage payment, taxes, insurance, utilities, vacancy loss, and maintenance fees are taken out. What they don’t seem to understand is that, as the owner, I would also have to pay for extermination, evictions, mileage and wear-and-tear on my car, bank fees on my business account, accounting fees to keep my taxes straight, turnover and advertising costs associated with those vacancies, and the all-important replacement reserves for items that wear out slowly, such as boilers, roofs, and so on. When I show an agent that my real, true-to-God expenses on a particular building will outstrip income by 25% or more, they invariably tell me that I’m exaggerating”after all, the CURRENT owner makes money hand over fist! (Sure he does”he paid $20,000 for the building in 1954!)
Another reason for the gap between selling price and price at which a buyer could make money is that 4-families seem to be a favorite of super-conservative investors, many of whom pay all cash or a very hefty down payment, and, as a result, are able to get cash flow out of even the most overpriced properties. Think about it: if you didn’t have a mortgage payment on these properties you’re looking at, would they make money? Of course! Would they make a decent return on your investment? Heck no! But some investors aren’t looking for double-digit returns; they’re looking for an attractive, easy-to-manage property where they can sink their money and get a (more-or-less) guaranteed return.
My suggestion is this: leave the 4-families to the under-educated and over-conservative, and focus on the slightly larger properties that small investors like yourself can both afford and actually make money on. Five to 12 unit buildings give you the benefits of size plus eliminate the competition from over-paying amateurs and the better-funded corporate investors (who want much larger properties. And as an added bonus, it’s much easier to negotiate owner financing on these properties!
Vena Jones-Cox is a past president of the Real Estate Investor’s Association of Cincinnati, the Ohio Real Estate Investor’s Association, and the National Real Estate Investor’s Association. Vena has been featured in publications such as The Cincinnati Enquirer, Smart Money Magazine, Money Magazine and Reader’s Digest in articles about successful real estate entrepreneurs.
Vena Jones-Cox’s real estate business focuses on finding great deals on 1-3 family homes, and then lease/optioning them to homeowners or wholesaling them to investors and renovators. All told, she buys and sells about 50 properties per year.
Vena is a frequent guest lecturer at real estate investment groups throughout the country, and particularly enjoys working with new investors. Vena frequently authors articles on real estate investment and the regulatory environment for various newsletters and publications, including her own monthly newsletter. She has been a guest speaker at the Cato Institute in Washington, D.C., lecturing on the effects of lead-based paint regulation on small investors. And in her spare time, Vena Jones-Cox hosts a popular weekly call-in radio program on public radio.
This post provided by REI Club for real estate investors.
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