Archive for the ‘Rehabbing’ Category
Previously, we’ve discussed how an equation embedded in the Housing Department’s Primary Renovations program is responsible for perpetuating slum conditions in rent control buildings. Today, I want to suggest a simple change to the equation that would, I believe, kick off a large wave of construction in LA benefiting all of us while costing very little.
To understand my proposal, you have to understand how the Primary Renovations program works. Without getting into all the nitty-gritty, the idea of the program is pretty simple: As a landlord, you’re allowed to recover 50% of the cost of capital expenditures benefiting your building from your rent controlled tenants, in the form of a rent increase of $55 / unit.
The reason this equation stinks is that no one on earth invests a big chunk of money in exchange for getting back only half of it back over a period of many years. Would you spend $20k re-piping an 8 unit building if you would only receive $10k back in the form of $55 x 8 = $440 / month over the course of 22.7 months? You might as well light half your money on fire and save yourself the aggravation.
But what if, instead of getting half your money back, you got 115% of your money back in the form of $100 rent increases on your tenants? Suddenly, it would make sense to invest in your building, because you’d actually earn a return on the investment. In our example above, you’d invest $20k and get back $23k in the form of $800 / month for 29 months. That’s equivalent to an interest rate of 6% / year, guaranteed.
I’d do that deal and so would many, many owners all over LA.
Who benefits from my proposal?
- Tenants in slum buildings. Sure, their rents would increase by $100 / month for as long as it took to pay off the improvements to their buildings. But many are living in buildings with deteriorating, dangerous plumbing and electric systems left over from the 1920s because it’s in no one’s interest currently to fix them.
- Owners. No one wants to own a slum building. It’s just what happens when you’re not allowed to earn a return on money spent improving your building. Compared to earning 0% in their money market accounts, that 15% return on investment would, I think, look pretty tasty.
- The construction trades. My program would spur a ton of construction work, leading to increased employment for plumbers, electricians, roofers, foundation workers, etc.
- Building supply stores. Think of the copper plumbing that would be purchased. The wiring. The roofing supplies. The tools.
- The City. All work under the program would require permits, each of which earns the City money it desperately needs. And there is a public benefit to having safer buildings, even if you can’t measure it in dollars and cents.
I know most of you have much more interesting things to do than read about Housing Department bureaucracy. But I sincerely believe that making this one little change would have cascading, positive effects all across our city. Do you know someone in a position to do something with this idea? Pass this piece along!
Spent a bunch of time recently talking to tenants in a 1920s building.
They told the story of how their building turned into a slum. In a nutshell: The owner 30 years ago used to live in the building. He took a lot of pride in the building and fixed all problems immediately. Then he died and the building started changing hands every few years.
Somewhere along the way, the new owners stopped investing in the building. Graffiti appeared and wasn’t promptly removed. So more graffiti appeared. No one upgraded the electric, even though tenants used more and more of it for big TVs, A/C, etc. So outlets started blowing out (and not being replaced). The old waste lines corroded, leading to more and more sewage back-ups into the units. The hallway lights went out and weren’t replaced. Eventually, no one came to take out the trash and keep up the garden, so the tenants started to do it themselves (with varying results).
Tenants started to turn-over a lot and the new owners filled units with whomever they could find: often undesirable tenants paying low rents. And no one remembered to raise the rents on the tenants who stayed.
Now, the rents are low and no one can raise them because of rent control. There is now a powerful incentive for the tenants who can handle the decay to stay, even as the building some of them grew up in falls apart around them.
When you read in your Econ 101 textbook that rent control creates slums, this is what they’re talking about.
Recently, people keep asking me if I see any good repositioning / flip deals to do. And my answer boils down to this: Yes, but only for certain types of investors.
Here’s what I mean: Right now, prices for apartment buildings, especially small apartment buildings, are high and rising. A year ago, you could buy a 4plex in Echo Park for 10-11x the annual rents. Now it’s more like 12-14x. I don’t like those numbers at all, especially for FHA buyers, who really shouldn’t be paying more than 12x unless they are very confident in their job security.
Even larger buildings are getting more expensive. It’s tough to find things for less than about 10.5x now, with properties in really good areas or with really low rents going for 11-14x.
Now, a buy and hold investor with enough cash to buy a 5+ unit building can still do pretty well buying for 11x, especially because debt is so cheap right now (if you’re willing to take recourse, it’s sub-4% for 5 year bank debt).
But people who want to make money more quickly are kind of stuck unless they have a lot of expertise and cash. That’s because the most important factor in the success of any flip / re-positioning deal is the price of acquisition. Since prices are high now, you really need to have a lot of expertise in doing these sorts of deals to make the numbers work. You have to be able to:
- Clear the building cheaply
- Renovate cheaply
- Use (moderate amounts of) debt
- Get premium rents
Ideally, you’d be able to do all of the above. But that would make you a professional like me, not your average part-time investor.
If you’re interested in being involved in these sorts of repositioning deals, get in touch.
One of the best ways to add value to an apartment building is to add washers and dryers to the units.
Why? Because tenants will typically pay $100-150 / month in rent in order to avoid using shared laundry rooms or, worse, going to laundromats. The math is easy: $100 / month in extra rent = $1200 / year x 10 grm = $12,000 in value added to your building. Even if it costs $1,000 to buy the washer / dryer, it’s a no-brainer, right?
Well, you need to be careful. Washing machines, in particular, put a lot of strain on a building’s plumbing system. Ordinarily, it’s not that big a deal, at least from a practical perspective. But it is a big deal from a permitting perspective!
If you don’t use permits when you put laundry machines into your units, watch out! When the SCEP inspection comes, you’re in jeopardy of getting cited for unpermitted work. They’ll ask you to get permits for the plumbing work to put the machines in or take them out. Here are your choices:
1. Remove the washer / dryers. This is, in some ways, your easiest option. No permits required; just pull them out. The problem is that your tenants are going to be pretty upset, and justifiably so. They’re going to demand a rent decrease commensurate with the service reduction and, if it gets to LAHD, they’re going to win.
2. Get the permits. This saves the units, but potentially at great cost. In order to put washer / dryers into a 16 unit building the right way, I once had to add an entirely new, separate plumbing system for the washer / dryers while tenants were in the building. The whole thing cost me around $50k. Was it worth it from a financial perspective? Yes. Was it extremely painful for me and for the tenants? Yes.
So, speak with a good plumber BEFORE you go ahead and put machines into your building. It’s almost always possible and usually profitable, but you need to go into it with your eyes open.
When you first buy a building, you’re likely to be approached by someone, often the management company you hire, about signing a laundry lease. It will be pitched to you as a convenience for your tenants and an opportunity for you to make some extra cash. Be careful!
What’s a laundry lease? It’s an agreement whereby a laundry company agrees to place, operate, and maintain coin laundry machines in your building. In exchange for allowing them to do this, they offer to give you some share of the revenue. Sometimes they even kick in a few grand as a bonus. Sounds good right?
Here are the problems:
- The contracts are usually very long and very, very hard to cancel. You need to send them a cancelation notice written in lamb’s blood on third full moon after Easter seven years from now. If you forget, the contract renews for another 10 years. Etc., etc.
- There are usually monthly minimums below which you get nothing. The contract might say something like, we (the laundry company) get the first $100 of revenue and the rest is split 50-50 with you. If this number is set too high, you may never see a penny from the machines.
- Auditing the revenue is almost impossible. You’ll get a a statement every month or quarter showing how much the machines brought in and how much you’re entitled to, along with a check (hopefully). But you’ll get very, very suspicious that you’re not getting your fair share. And there’s no way to audit the numbers, because it’s all cash coming in to them.
- You usually can’t put any other laundry machines in the building. If you later want to raise your rents by adding washer / dryers to the units, too bad. The lease usually stipulates that you can’t put any competing machines (coin operated or free) in the property.
I’ve got two good ones about laundry leases:
- On our first building, the contract was short, so we were able to buy it out for around $3k and replace the company’s machines with our own. Cool, right? Well, it turned out that the company had been shorting us by roughly $150 / month, a fact which we discovered once our new machines were installed and we started collecting the money ourselves. Turned out to be a very good deal.
- In order to get another laundry company out of one of our buildings so that we could put washer / dryers into the units, we had to pay (I’m not making this up) $16,000 in order to get them to cancel the agreement. Do you know how much they had been paying us per month up to that point? Around $50. Bastards.
My advice: Don’t ever, ever sign one of these things without reading it carefully. Insist on a short period without automatic renewals. Insist on a low monthly minimum. And pay attention to the reporting. A 16-unit building ought to produce $200 / month or so in laundry income, maybe more. If your company’s reporting much less to you, they’re probably stealing.
OK, team. Here’s the plan:
On Saturday, May 12, at 1pm, my partner, Jon Criss, and I are going to lead a project tour. The idea is to show you how we do what we do. Here’s what we’ll cover:
- The math behind our business: We’ll do a quick, in person explanation of how you can buy a building, spend money renovating it, and have it be worth much more than the combined cost of buying and renovating (this part will take place in our office, where we have whiteboards)
- 1239 N. Westmoreland: We’ll take you to the property (which is still for sale, although there are multiple offers), give you all the numbers, and then show you how the renovation worked
- 4443 Willow Brook: Same as Westmoreland. We’ll show you how the numbers worked, what we actually did to the building, what we think it’s worth today and why.
Expect the whole thing to take two hours or so.
Why are we doing this? We’re always on the look-out for people to partner-up with on deals, brokerage opportunities, contracting gigs (Jon is a general contractor), etc. So we’re very happy to educate you on how we do what we do in order to start a relationship with you that will hopefully be profitable for you and for us.
Interested in coming along? We’re limiting this to seven people to keep the discussion lively and intimate. We have three spaces already reserved. So, if you want one of the other four spaces, please email me ASAP at email@example.com.
If you’re interested in making money from re-positioning apartment buildings like we do, you should read Multi-Family Millions, by Dave Lindahl (that’s not an affiliate link; I don’t get paid if you buy it).
A few warnings:
- The book is cheaply made. It feels like someone self-published it out of vanity. I recommend getting the Kindle version.
- The author is kind of cheesy. He’s constantly trying to get you to join his mailing list so he can promote seminars or something.
- It was written before the financial melt-down, when it was much easier to get loans, so you need to take his advice about financing with a major pinch of salt.
Armed with that information, buildings talk to you. You see a run-down building in a good neighborhood and you hear it saying “Rescue me from this stupid, lazy owner. I’ll pay you handsomely for your time!”
If you’re reading this incredibly dense blog, about a pretty dry topic, with no pictures, you’re the kind of person who understands that knowledge is powerful. And this book, cheesy and awful as it sometimes is, contains within it the knowledge needed to begin or accelerate your quest to make money from apartment buildings.
Sometimes all you need to do to improve your neighborhood is to yell at a priest.
My brother and I own a 16 unit building on Reno St (the one from this story) that’s across an alley from a new church, one of those Latin Pentacostal deals.
The street itself isn’t the nicest one in LA, but it’s not terrible. We try to do our part by making sure that the strip of grass outside our building looks like this:
And here’s how the same strip of grass looks outside the church:
The last time we had our building appraised, I was literally on my hands and knees picking up trash up to the minute before the appraiser arrived because I was so paranoid about the impression the trash would leave on her. (See how glamorous it is to own a building?!)
I’ve been steaming about the trash for months.
Finally, the other day, I was at our building picking up the laundry money (again, the glamor!) and decided on a whim to call the church. I figured I’d get some voicemail, leave a message, and no one would ever do anything about it.
Turns out I was wrong. The minister got on the phone right away and spoke to me (in Spanish). He was super nice and understanding. He assured me the church would clean up. And they did.
Now our litte corner of “Silver Lake -adjacent” is a little less gross. I wonder how many other owners out there would benefit from doing the same thing.
Some people take owning an apartment building as their opportunity to unleash their internal interior designer. It’s like the building becomes their personal canvas to show off their taste in decorating.
Don’t be one of those people.
The only way to make a rational decision about spending money to improve your building is to determine whether the expenditure will increase the value of your building by more than it costs.
Say you’re considering spending $4,000 to install a washer/dryer in a unit (the cost of the actual appliances plus the necessary plumbing work). You need to estimate the additional rent the W/D will generate. In my experience, having a private, in-unit W/D adds somewhere between $100-200 per month in rent. Let’s say it’s $150 / month.
To determine whether it makes sense to go forward, multiply the additional monthly rent by 12 months. So the $150 / month becomes $1,800 / year. Then, multiply that annual additional rent by the gross rent multiple for the neighborhood in which your building is located. In Northeast LA, that’s risen to right around 11x the annual rent. Which means the $1,800 / year adds $1,800 x 11 = $19,800 in value to your building.
If you had the chance to spend $4,000 to get $19,800, you’d do it, right? So there’s your answer on the W/D.
But let’s try the same math on putting in a set of custom cabinets for $10,000, when you could have used a set from IKEA for $2,500. The cost difference is $7,500. Can you justify it? Well, I think you’d struggle to get more than $50 in additional rent for fancy cabinets. The math is $50 x 12 months x 11 grm = $6,600. Not worth it.
In my experience, the things that add the most value to apartments are washer / dryer, dishwasher, replacing carpet with manufactured hard wood, and, for the whole building, painting and landscaping. Things to avoid include expensive light and plumbing fixtures, designer tile, and granite counter-tops.
Remember: If you can’t imagine a tenant paying more rent for it, don’t do it!
Guess what we get for one bedrooms with no parking on Westmoreland in East Hollywood. Give up?
$1,500 / month.
Here is an ad for the 2 bedroom unit that we have on the market now.
We’re asking $2,000 and we’ll definitely get it. [Edit: We got it.]
On a per square foot basis, those rents rival anything landlords get in West Hollywood. How is this possible?
Two things are going on, one any owner can control and one that’s just dumb luck:
1. We have amazing units. We gutted the building when we bought it and completely turned the apartments into little homes that people are proud to live in. A lot of that is just good design; it’s not like we spent a ton of money on high-end appliances or designer tiles. Here’s an example:
2. Location. East Hollywood is very close to Sunset Junction, which is one of the coolest, most walkable parts of LA. It’s not rocket science. Given a choice, most young people with money to spend on rent want to live near enough to bars and restaurants and cafes that they can have a great life without getting DUIs. Here’s where we are relative to Sunset Junction:
So here’s my challenge to my fellow landlords on Westmoreland and all over East Hollywood: Why aren’t you getting the same rents we are? Why not spend a bit of money on your buildings and turn them into the kind of places people actually want to live.
Make them more like this:
And less like this: