investing in real estate is always a balance of current cashflow and future appreciation. u r one of the folks whom i met would focus on future appreciation when determining roi. while you speculateon future appreciation, those who focus on cashflow are speculating FUTURE RENTAL INCOME. both are speculation, i believe.

getting back to this articule. i have a few questions on your assumption. you use 3% on rent increase and 8% on appreciation. i m curious if you could provide any justification. long time inflation would be more or less 3-5% unless the government indebtness (esp medicare), is getting out of hand. i feel very comfortable with the 3% increase in rent. but i m not quite sure on the 8% of appreciation. In recent years, we see an asset class inflation. some people see it as a consequence of global saving glut. some would see it otherwise. but the point is that 8% would not be sustainable long term.

just minor technical point on the calculation. should you use discount cashflow to get a more accurate picture? it doesn’t matter much conceptually, but using DCF would definitely lower the ROI.

footnote: i live in CA, but have never set my foot on TX yet. so, i ain’t as knowledgeable about the conditions in TX.

In the first year, tax deductions would include:
Loan Origination (Points), Closing Cost, Depreciation, Interest Expense, Management Fee, Maintenance, Profit/Loss.

Following years don’t have the Loan fees or closing costs.

I used the calculator at:
http://www.cashflowproperty.net/free/property_detail_custom.asp
to help come up with the numbers. You can enter your own numbers there and check it out.
(Note: I don’t endorse the websiite, I just found the calculator to be useful)

A second major issue are option and IO loans. Now that buyers can step into a $200,000 loan and pay sub-$1,000 monthly payments, they have little reason to be renters unless they are truly transient. With the further ability to finance 95% + with closing costs, the previous pool of renters is greatly diminished, hence stagnant rental rates vs. rising property values. Even with ARM’s, the current ability to convert to a 30 year under 7% ought to bail most owners out in the short term.

In this environment, I am skeptical of “normal” rental investment returns, ex-cap appreciation in the short term, and am watching with great interest as the coastal markets “deflate” a bit and how this impacts coastal investor owners who have moved into the Texas markets. I think Steve is right on to keep a close eye on rental rate trends. A 20% rise in Austin rental rates over the next 2-3 years would clearly do wonders for the economics of rentals. Question is, do you buy now in anticipation of rental rates firming in addition to anticipating steady capial appreciation from a linear market such as Austin. Or if you wait on rents to firm, will you also end up paying up for properties if you wait on rents to buy?

For your San Diego buyer – one would hope they would have enough equity there to come in for more than 20% if they really want properties that don’t cash flow. So, maybe in that case it would be ok. They’d just be investing more per property.

But, what do I know?

Whether it is a good investment or not depends on the particular circumstances and financial goals of the individual investor. We have a lot of buyers from California who do 1031 Exchanges. San Diego prices have now dipped, making San Diego the first major California city to see a drop in real estate values. For someone with a lot of equity in a California property, they can either leave it there and watch it shrink, or move it tax free to property(s) in a city with rising values.

Many of these buyers make substantial downpayments and/or are not as concerned with the cash flow as they are preserving and growing their balance sheet wealth.

Yes, it is more speculative than the old days (1990s) when almost any single family home would rent for an amount that would cover carrying costs.

As recently as 1999 we could buy 3 bedroom brick homes in Austin area 10 for $90K that would rent for $950. That same home now costs $140K and still rents for $950, and the taxes and insurance are higher. A brand new buyer today, unless they are able to spend time bird dogging for fixer or desperate sellers, will have a difficult time finding a rental home with the ratios we saw in the 1980s and 1990s.
Steve

I only own one investment property right now in Austin, and I’ve had no problem making a modest positive cashflow. I’d never have bought it if I expected a negative cashflow. I might accept a modest ($50-$100) negative cashflow under more the more pessamistic assumptions you’ve given if I thought the market was booming and property values (or more importantly, rents) would be increasing . (nowing that if things go well, I’ll be positive)

As a general rule, I’d say a property that is only a good investment IF property values rise dramatically is not an investment property. It is a speculation property. Investment properties should generate some real revenue. If you are smart/lucky, you’ll have good appreciation adding big profits makign an already profitable venture golden.

Great information, we discussed your findings in our staff meeting this morning.

Thank you!

Michael