Moses Kagan on Real Estate

Income Property Teardown: 822 Sanborn in Silver Lake

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Welcome to the “Teardown”, a series where I’ll take apart an income property listing and analyze it for the whole world to see. As always, all figures are estimates which you should not rely upon.

Today’s subject is 822 Sanborn, Los Angeles, CA, 90029, listed by Keith Cox of Keller Williams, Beverly Hills. Here’s a link to the MLS listing.

Key information
What: 4-plex built in 1923
Where: 822 Sanborn, 1/2 mile from Sunset Junction
List Price: $599,000
Unit mix: four one bed / one bath units, approx. 900 sq. ft. each
Building size: 3,780 sq. ft.
Lot size: 7,492 sq. ft.
Zoning: R3
Rent roll:

  • Unit 1: $658
  • Unit 2: $1,095
  • Unit 3: $1,153
  • Unit 4: $935

Buy/sell/hold: Strong buy.

The details
Here’s what I see when I look at this property: Low risk now, major potential upside later. Let’s drill into the numbers.

First, the present: This property is really close to Sunset Junction, the heart of Silver Lake’s ongoing gentrification. It’s generating $3,841 per month in rent, or $46,000 per year. At the list price, that’s $599,000 / $46,000 = 13x gross rent multiple. That seems high (remember, 10x is kind of normal right now), but you need to look a little closer to understand what’s going on.

The rents are low because of LA rent control. A large, renovated one bed, one bath unit in this part of Silver Lake can rent for $1,400-1,500 per month, depending on the quality of the renovations. So all of the tenants are paying between 15% and 60% below market. This is the upside of LA rent control: Tenants paying under market aren’t going anywhere. It’s actually not bad, because you can be assured you’ll get your rent every month.

How about the expenses? On a building like this, I would expect the expenses, including property taxes but not including mortgage payments, to come in around 25% of rents. That works out to $3,841 x 25% = $960 per month in expenses.

Deducting the expense estimates from the rents, I estimate there will be $2,880 per month in net operating income to cover the mortgage and/or put money in your pocket. Incidentally, that’s $2,880 x 12 = $34,560 in annual NOI. To get the CAP rate (for an explanation of CAP rate, go here), you can divide $34,560 / $599,000 = 5.8%. Another way of looking at this is that, if you invested $599,000 in cash, you would receive $34,560 per year in profits, or 5.8% per year.

The numbers above assume you buy this property as an investment, but that’s not what I’d recommend. Instead, I love this as an owner-occupier property, and here’s why: You can use your owner-occupier rights to displace one of the tenants, move in yourself, and this thing will cash-flow, even with only 10% down.

To displace the tenant, you’ll have to pay roughly $10,000-19,000, depending on how long the person has lived there, how old they are, whether they have kids, etc. Under LA rent control and because all units are the same, you’d have to bump the person who moved in most recently, which I assume is the tenant paying $1,153. So you get the property in escrow, issue your notice, pay your $10,000 in cash, wait your 60 days, and move in.

You use an FHA mortgage to buy, put down 10% of the purchase price, and borrow the rest at a very low interest rate, fixed, for 30 years. Assuming $599,000 x 10% = $59,900 down and a $539,100 mortgage at 4.5%, your monthly payment is $2,731, plus a bit of private mortgage insurance (PMI).

Your monthly outgoings are $960 in expenses plus $2,731 in mortgage plus $200 in PMI, or $3,891. But you’re very confident of bringing in $2,688 from the remaining units (and this will go up by 3% per year under LA rent control). So you’re only paying $1,150 per month to live in a unit that would fetch $1,400 or more on the open market. That means you’re “profiting” at least $250 / month, or $3,000 per year, on an investment of $59,900 down plus $10,000 for relocation = $69,900. That’s an annual return of $3,000 profit / $69,900 investment = 4.3%. But wait (as Billy Mays used to say), there’s more.

Remember I said this is a high upside deal? That upside comes from two things: Rent increases and development potential. First, the rents: If any of your tenants moves out, BOOM, you raise the rent to market, instantly adding hundreds of dollars per month to your rents and, therefore, your profits. Second, development: This is a nearly 7,500 sq. ft. lot zoned R3, which means you can potentially build 9 condos here. You’re probably not going to be the one who develops it… but the guy who buys it from you might be, and they can pay as much as $100,000 per potential unit for land like this. (I’ll let you do the math on this last piece.)

Conclusion

822 Sanborn is the kind of deal you search for. You get a very stable, easy to manage apartment building in a rapidly gentrifying area to live in now. The rents increase every year by 3%, which adds up quickly. With any luck, one or more of your rent-controlled tenants moves out and you raise the rent by a lot more than that. Maybe you own this building for 30 years and end up with a cash-cow that supports you in retirement. Or, maybe, in the future, you sell to a developer at a very large profit.

Interested in discussing 822 Sanborn or other income properties? Give me a call at 310 994 0001 or email me at moses@betterdwellings.com.


Written by mjkagan

10/04/2011 at 4:46 pm

Posted in Teardown

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