The Observation Deck

David Anderson wrote:The fact that must be remembered by all investors is that there are really only two ways to make a living off rentals: (1) investing heavily to acquire dozens if not hundreds of units each making $50-100 profit per month or (2) having mortgages paid off wherein 60% of the rent received can be used as real monthly income/salary. (This second scenario is where all homeowners wish to be before kids enter college.)

OR, save money by never performing any maintenance on your property and never waste money on silly expenses like landscaping.

I understanding what Mr. Anderson is saying, but there are 5 things that come to mind immediately.


it assumes the investor will wait 20 years (or even 10 yrs) for one big payday.

it assumes no capital gains tax if the investor doesnt live in the property.

the affect on income tax is understated ($500 a month is unlikely to cover both real estate tax and the tax on $18,000/yr in rental income.
but most important
but here are the big ones

number four, the scenario works the same for any rental property in any town. The $40,000 increase in purchase price over 20 years could easily be bettered somewhere else

and finally (this is the big sticker) Your scenario presumes a consistent 20 years of rental at the top of the local price range. No repairs or utility inflation and NO tenant gaps or skips. Most landlords will tell you thats unrealisitc.

If landlords cannot make a profit month-to-month(and most small ones dont) and they have to wait 20 yrs to see a 22% return theyll try to scrimp as much as they can.

The most rational reason for small timers to acquire additional housing units would be for extended families to save on housing expenses: This would allow them to either save and invest more, or spend more on education, health, small businesses, or assorted quality of life things. (or expend these savings on 30,000 dollar wedding receptions and luxury cars or drugs). Since America is the only developed nation where the middle class has negative average liquid savings, this is a way some Americans could make themselves better off than average. However this is contrary to the uniquely sprawling and diasporic tendencies of the the American middle and upper classes.

That being said, it could be ok to break even or have small profits on rental properties. sometimes.

Dee -

Again, with all do respect, your initial point is not supported by the numbers provided by Mr. Liston. Now, if you want to argue that purchasing rental property for long-term investing is not a good idea ...

The first point I would like to Re-emphasize is that rental houses must be treated as businesses. So, to you and Mr. Uldricks, if a landlord defers maintenance and landscaping, the units will not attract high rent. Landlords who do this are just taking money out of their own pocket in the long run.

Second, smart landlords invest for the long term and "one big payday." What's wrong with this? Again, if the property is well maintained and updated, rent will be steady and one big payday is indeed reachable. Single or rental property homes are not smart short-term investment strategies. (However, really smart landlords never sell. They use the accumulated equity in the rental as leverage.)

Capital gains tax can be avoided if the owners reoccupies the house for a couple of years before selling.

"The affect on income tax" is actually beneficial, in that it reduces actual income. Rental property can be depreciated much like construction equipment over 27 years. Rental property is the only investment that appreciates in the market place while the government lets you depreciate in terms of tax deductions. Regular maintenance and investments, depreciation, property tax and other deductions regularly outpace rental income especially after year five or so of owning a property (certain maintenance and investments accumulate and when divided evenly over the "depreciation life" of the property for a better benefit). Your ROI of 22% (I'm not sure where you got this) would actually be much higher if you factored in tax incentives and depreciation and the fact that one can turn a $30,000 down payment into $190,000 in 20-years.

To your fourth point, you may be right. Maybe you have national rental property investment data which compares every U.S. city. However, I live in Lakewood. I don't want to manage rental property (which I consider as a part-time job) in Portland, Oregon. I live here because I have a professional job here. I didn't move her and don't live here to take advantage of the investment opportunities in the rental market.

As to your "big sticker" point, if you read my initial post I included that $100 or so needs to be worked in to budget for regular maintenance and repairs. Landlords, or any business owner, who do not have a few grand set aside for emergencies is doomed. I assume by "tenant skips" you are referring to an empty unit for a month or so. Good units rent quickly. My tenants pay for all utilities except for water. Maybe this is why 90% of small businesses fail within five years.

Landlords who try to live on a profit month-to-month are delusional and will eventually fail as are folks who overextend on single family home mortgages. Again, if you read my post, the only ways to "make a living" managing rental property is by managing dozens or so or owing the bank $0.

Dee, we can "seminar" back and forth about the pros and cons of real estate investing, but, again, neither your original post nor rebuttal to mine is not supported by Mr. Liston's numbers.

Respectfully, David A.

Mr. Anderson.

I dont mean to debate the pros and cons of rental property as investment. Like any investment it is right for some and not for others.
My point remains that Lakewood presents an element of risk for the investor they may not find elsewhere and if the 20 year payoff is 22% you cant necessarily blame landlords for wanting to minimize expenditures while trying to guarantee the highest operating income.

Translation: Section 8.

You present a "best case" scenario. One month now and again with an empty unit, a steady top-rate $750/mo rental, and a $1200 annual repair budget. A new furance can eat up 3-4 years of that pad. A roof alone another 10-12. These are very old very high-maintenance properties. It takes several months to evict a non-paying tenant.
My point isnt about rental property vs mutual funds or any other investment. Its about not having your investment turn into a money pit.

My point is to condone slumlords either. Just to offer some understanding about why those doubles seem to wind up in the condition they do way too often

Ms. Martinez -

How is your statement that "Lakewood presents an element of risk for the investor they may not find elsewhere" at all supported by the numbers provided by Mr. Liston? It seems to me as though you have an opinion and are in search of a statistic.

I would much rather debate the opinion of your initial post but you decide to abandon it and revert back to the pros and cons of multi-family housing investment. So, here we go again.

Where are you getting your 22% ROI. Turning a $30,000 down payment into $190,000 20 years later is an annual ROI of 26% and a 20-year rate of over 500% and this does not include the tax benefits. I can indeed blame landlords for not having a plan/budget for not investing in their properties.

I am a firm believer that Section 8 officials should remove their "clients" from homes that fail to correct problems detected through CMHA or Lakewood inspection.

As for the scenario I present, I do not know if it's best case or not. Knowing that any real estate investment can turn into a money pit before signing a mortgage is key. No successful investor would pay such a high price for a multi-family home that funds were not available for a major expense such as paint or a new furnace every 10 years or so. Bad investors buy these homes without a solid business plan.

Folks think that they can easily become a successful landlord. I'll admit to learning along the way but never got in way over my head without a budget and plan in place. Any investor would have to present a business and marketing plan before even being considered for an SBA loan. A far lower standard is in place to qualify for a mortgage.

You mention Mutual Funds. We pay professional investors to operate these funds via fees. Many landlords lack the business sense/skills to be successful and keep taking in water until the boat sinks. But, again, more than 90% of small businesses do not survive past five years so why should we be surprised that a certain percentage of multi-family homes are on the auction block.

Why do some properties end up in bad condition? That's a thread in itself. My opinion: people who put their name on a mortgage and deed are bad at running these businesses and they end up being bled to death or they are making money but aren't being forced to upkeep the property by Lakewood or CMHA. Also, don't limit this to multi-family houses. Many streets in Lakewood have single homes in pretty bad shape.

If I may, Dee, I think I understand the undercurrent of your opinion. You are concerned about the state of Lakewood's overall housing values and the impact of ill-conditioned of multi-family homes on the entire picture. If I am on target, I agree and have similar concerns although I’m not sure “it’s happening way too oftenâ€Â

Carole Cohen’s Cleveland Real Estate and News, a real estate blog worth reading, notes the following about the Lakewood market:

“In Lakewood, 2007 sale prices beat 2006 by a few thousand; homes had to stay on the market about twenty days longer to sell. Total sales however? 2006 was higher. Here are the stats:

2007: 121 Total SF sales. Average Ask Price $172,852. Average Sale Price $165,655. On market 92 days.

2006: 132 sales. Average Ask Price $168,053. Average Sale Price $162,227. On market 71 days.â€Â

Grew up on Arthur right near the library. Went to Grant, Harding, then LHS.

Bryan..
Welcome to your new home!! When you're settled, make sure you contact our office to update our records so you receive our newsletter and information about class reunions, special events, etc.


Teresa Coyne Andreani '82
Executive Director
Lakewood Alumni Foundation
216.529.4033

Well I am doing my part as well to strengthen our market... staking my claim on a piece of Lakewood . Hopefully closing in the next week.

Always good to hear of fellow Lakewoodites staying in the city.

We're hoping that the young couple from Fairview successfully close on DH's parents' house. It hadn't been on the market very long.

J - congratulations on your new house!

Dee and All:

I share the following as a comment on housing. It is an interesting case and increases my concern over housing in Lakewood.

We, my wife Donna and I, just sold a house in Lakewood. The house was in good condition, having been redone inside. Has a relatively large yard, especially for Lakewood, and a modern 2 1/2 car garage. Outside is aluminum siding which is in decent shape.

We had a development loan from Lakewood which we used to pave the non-shared portion of the driveway, seal three sides of the basement, install new front and back porches as well as a new sanitary drain to the street. The house had new electrical and plumbing which was one reason we purchased it. We did all the other improvements ourselves as it is totally unfeasible to do such improvements retail at this price point.

We purchased the house for my wife's sister and her family to rent until they could buy. They skipped out on us. We then fixed up the house, including building a hallway on the second floor so one did not have to walk through one bedroom to enter another. We also re-roofed the garage and rebuilt it from the studs out with vinyl siding.

The house is on Coutant Avenue behind KFC. Shares a driveway with an identical physical house. However, the companion house is owned by someone in Avon and is currently valued at half of what our house was valued. That house is section 8 and the shared drive led to problems that thankfully are over with the sale of the house.

It took 16 months to sell. We first tried to use inexpensive realtors but finally employed Howard Hanna. As the house is in good condition we thought it would sell with minimal effort. Finally did sell but for less than the purchase price plus the improvements. Location is indeed a compelling component of real estate. However, the housing market seems soft.

The best news is that a family with two young kids purchased the house. One of my goals was to get the house out of the rental market and bring a family to Lakewood. We did achieve that but had to help the purchasers as did money from the city. However, we did not recover the costs over the six years we own the house and I do think that the return on rentals is low. The tax code is quite generous and the only saving grace for our attempt to help family.

All in all, we see a slow down in both sales and prices for Lakewood real estate. We are also dismayed at the condition of many of the single family homes for sale in the lower price range. Doesn't bode well for the future of Lakewood, especially the eastern part of the city. I wish there were better ways for the city to help improve the housing stock generally and particularly in the lower end. This is the segment that may prove most important for the future.

Are the people who leave the area to flee from the "undesirables" or fear of sinking property values not as large a cause of the problem as those items that seem to drive them away?

I have a brother with a house in River that's not selling going on one year and friends with a house in up market Westlake (300K range) that no one is even looking at going on six months...literally, no one. I'm not sure if this is a Lakewood issue or a regional one though being linked with a shared driveway to an absentee landlord is a different scenario.

Houses in my neighborhood well priced are selling fairly quickly...though there are a few people tied to the irrational market of a couple year's back who think their house should sell for now what it would have sold for three year ago. Not going to happen.

Dr. Keller - You wrote, "However, we did not recover the costs over the six years we own the house and I do think that the return on rentals is low." Unless the house was bought for $20,000 how could anyone expect to at least break even.

I wouldn't classify the house described in your scenario as a rental. You bought a single family home intended for a single family. You bought a house when the market high, invested much in improvements and sold when it was low.

Did you try renting it before selling? It's a bit more difficult renting an entire house for $1,200-$1,500/month but not impossible.

The ability to provide a quality home that attracts able renters who build equity in the property by paying rent every month is a better measure of determining "the return on rentals."

What you did was basically a long-term flip.

FWIW

David:

We purchased it as a short term rental. We invested to help family and not to increase any return on the property for us. In fact, we intended most of the investment to be a gift to my wife's sister and her family. However, as it did turn out, we did a flip in many ways. Had that been the original goal, we would have invested differently.

My point, though, was to caution about optimistic views of housing in Lakewood. I do think there is a general downturn, hopefully a lull, in the housing market. And much of this is even national. However, I do think that some types of housing in the inner suburbs may be experiencing long term disinvestment. Doubles are the most obvious type as most families don't use such housing for their start and most buyers want a single family home.

I had not realized that my family in Cincinnati used a double to get started. For the first five years of my life, my parents lived above my Dad's parents in a double that my Dad's parents owned. This was a sensible process for families rooted in communities based on blue collar labor. However, later generations of my family did not use doubles and few were constructed in most cities after the 1950's.

A growing concern for me about Lakewood is the inability or unwillingness or some combination thereof, of owners to maintain the less expensive single family homes. As we were selling the Coutant house, my wife became quite familiar with homes for sale in Lakewood, especially those in the $100,000 and under category. As I noted in my earlier message, most - and I mean a large majority - were in terrible shape even though they were on the market. I fear that any new owners will not have the resources to renew such homes. Yet renewal is what needs to happen in the long run for the health of the community.

My wife also saw a trend of downward prices. This is good news in that it could help young families get a house. The bad news is that such young families often lack the resources to maintain much less renew their house. As prices descend, more families with less resources may become home owners. This is a growing concern for me and requires some careful thought about how to deal with it effectively for both the new families and the community.

Interesting discussion. But on the whole, I am glad I don't have to sell the house in which I live in Lakewood in this market. I guess there is always something for which to be thankful.