Unlike many other investments, real estate gives you more options than just buying and hoping to sell for more: You can rent out rooms for income, improve and flip it, or finance the sale to get a higher price. Unforeseen circumstances can mean that you have to consider options you might not have originally had in mind, as my story illustrates.
In September 2012, my wife Ana and I used our savings to buy the condo above ours in Naples, Florida, for $70,000. Though it wasn’t a great deal, we figured it would be nice to have a rental so close, for easier management. This was Plan A: Buy, fix and rent out a condo.
Of course, if everything had gone smoothly, I would be writing a different post. However, with real estate, you’ll often have to explore a “Plan B,” a “Plan C” and other creative possibilities, as you’ll see by the time we get to our own “Plan D.” Here’s what happened — and how you can learn from my experience when you’re ready to rent out a condo of your own.
Buying a Condo to Flip
If it weren’t for the handyman who looked over the place with us, we might have backed out of the deal due to the number of things that needed to be fixed.
However, he was sure it could all be done for about $6,000. He had recently won $1 million in the Florida state lottery and was just doing handyman work part time, so that might have contributed to his generally optimistic outlook. In any case, his “can-do” attitude was encouraging, so we scheduled the closing.
Our real estate agent, also an optimist, said we should be able to rent the place for $1,100 per month. She pointed out an ad for another unit in our complex, whose owner was asking for $1,100 per month. On paper, it looked like we would have a cash flow of about $600 per month.
Watch Out for Extra Expenses
The day before closing, we went to the condo association meeting, where it was announced that the dues would be going up from $320 to $340 per month. In addition, officials moved a line on the federal flood maps, putting us in a slightly higher-risk zone, so there would be a $600 annual assessment for additional insurance.
Those extra expenses meant our projected cash flow dropped by $70 per month (not to mention that we had to pay that extra $840 per year on our own place).
We seriously considered giving up our deposit and walking away from the deal. But optimism is infectious; after talking again to our agent and handyman, we went ahead and closed.
Lesson 1: Before you buy, ask key people in the condo association or strata about anything that may be happening soon. Surprises like ours usually won’t show up in the condo association’s financial documents, which reflect only what’s already happened.
Budget Extra Time and Money for Repairs
Closing costs were less than we projected; it’s nice to have good surprises once in a while. But then we got to work fixing up the condo, and guess what? It took longer than expected and cost more than we had planned.
That soft spot on the wall above the light switch by the front door? My wife was right; it wasn’t just damage from an old leak that had been repaired. It was damp, and not just in her imagination. Every time it rained, water dripped inside the wall into that electrical box.
We called management and had them repair the roof. Fortunately our condo association hired good management, or we could have waited weeks instead of two days. We had to tear open the wall, spray everything inside with bleach to prevent mildew, and put up two new panels of drywall before painting the room.
Lesson 2: Trust that intuition and take a second look or get an inspection if there is something that doesn’t seem right.
The leak in the air conditioning closet funneled rain water straight into a 220-volt electrical breaker box. After the third attempt to repair it, we had to wait a week before it rained heavily again — the only way to know for sure that it was finally fixed.
Lesson 3: Make sure to test your repairs before assuming you’re done.
I repaired the drywall in the A/C closet by myself, since my imperfect work would not matter as much there.
Lesson 4: You can save money by doing a lot of the home improvement work yourself, and you don’t need to be that good if you work in areas where appearance isn’t as important.
Because of these and a dozen other surprises, the project that our handyman thought would take “a week to 10 days” lasted more than a month, and also went over budget. We should have known better, because in our experience all contractors are overly optimistic about time frames and costs.
Lesson 5: To be safe, double the contractor’s estimates of the time needed to complete repairs and renovations. To be safe, add 20% or more to cost estimates.
Our handyman, despite being too optimistic about the time and cost, was great. His attitude was that for every problem there is always a solution, and he would find it. He taught me how to lay tiles, do electrical work, replace slider door wheels — the list goes on. More importantly, he taught me to be a better problem solver. We would hire him again in a second (but we would double his time estimate and add 20% to his cost estimate).
Lesson 6: Take advantage of your contractor’s knowledge to learn how to do basic repairs and improvements yourself. It can save you money on the current project and on future ones.
Research Costs and Be Flexible
As we were getting near the end of the project, we tested the stackable washer/dryer combo that had come with the place, and watched as it spewed water on the floor. The repairman charged us $69 to tell us it was beyond hope.
We planned to spend $700 for a new unit, since regular washer/dryer sets cost as little as $500. We couldn’t get a regular set, because the hookups were in a narrow closet that accommodated only the stacked kind. As it turns out, stacked units are expensive. The cheapest we could find anywhere was $1,300. Ouch!
Lesson 7: Check appliances carefully before buying a place. If you think you’ll need to replace something, don’t guess; check prices online.
In the end, we were only about $1,000 over budget because we altered the plan. For example, we opted to paint the bathroom vanity instead of replacing it. We also painted the kitchen cupboards rather than replacing the doors. It didn’t seem likely that those changes in our plan would affect what we could rent the place for. One of the things I like about real estate is that there are many ways to approach and solve problems.
Lesson 8: Look for alternate (cheaper) ways to do things if the expenses are going too far over budget, but only if the alternate plans won’t affect your rental rates or selling price too much.
Thoroughly Research Potential Resale or Rental Value
Our agent, who was also our rental agent, had been very optimistic about the potential rent. The owner who was asking $1,100 for his place in our complex lowered that to $1,000 per month — and six weeks later, still hadn’t rented it out. We discovered that places which were currently rented in our complex ranged from $800 per month to $950. It’s something we should have checked out more thoroughly before ever making an offer.
Although all the units were identical in size and layout, ours didn’t have top-of-the-line appliances, so it looked like we could get $900 per month. Between that $200 reduction in projected rent and the $70 surprise on the dues and assessments, our expected cash flow was now down to $330 per month.
Instead of the 9% we hoped for, the return on our investment would be only about 5% annually now — if there were no more surprises.
Lesson 9: Do your own homework to determine rental rates. Be skeptical of advertised rental rates; determine how much tenants are actually paying for similar units.
Investigate Prospective Tenants
Prospective tenants had to apply to us, but also to the condo association. They paid a nonrefundable $100 application fee and $70 for a background check. We didn’t like that lack of control on our end, but it has its advantages. The background check helped weed out questionable tenants.
For example, there was the woman who was ready to pay us six months of rent in advance because of her “temporary” joblessness. Once we had a lease agreement signed, the background check revealed that she had stolen drugs from the hospital where she worked, and therefore would probably never again have a nursing job. And the very nice guy who said he had “just one DUI” in his past also had additional drug charges.
Association management helped discover these lies, but we also became very good at using the Internet to investigate potential tenants. It’s amazing how often you’ll get a result when searching online using “mug shot” plus a person’s name!
Lesson 10: It’s easier than ever to investigate possible tenants thanks to the Internet, so get online and start looking!
One potential tenant wanted the place while we were still trying to rent it for $1,000 per month. But when our agent sent over the lease agreement a day or two later, he suddenly “remembered” hearing that the rent was $925. As far as we could determine, this was a delay tactic so he could keep looking for something better or negotiate a lower rental rate. In the end, he signed the lease at $1,000 — and then had his application denied by the association because of a criminal past.
Lesson 11: Make the terms very clear, and get that leases signed as soon as you can.
Since the condo management or association board members needed to interview all applicants, and those interviews were done only on Tuesdays, every rejected application cost us time.
Time is money, especially when you have not only taxes, insurance and utilities to pay, but also hundreds of dollars per month in condo dues. We could have avoided some of these costs if we had investigated and excluded some potential tenants before they applied to the association.
Lesson 12: The process of renting out a condo is more complicated and can take longer than renting out a house, so plan on the additional time and expense. Investigate tenants online as soon as they apply, so you can quickly exclude those who are not going to be accepted by the association. This saves you time and, therefore, money.
Switching to Plan B… then C, and then D
At this point, with so many surprises and every month that passed costing us at least $900 in lost rent, we started to wonder if we had made the right decision. Perhaps we should go to Plan B: Give up being landlords and sell the place.
We went with Plan C: List the condo for sale and keep offering it for rent. If it sold for a profit, we would be happy. If it was rented, we would drop the sale listing and be happy to at least have some income from the place.
Eventually we went a step further and implemented Plan D: Try to rent the condo while listing for sale both that one and the one we lived in downstairs. If we rented out the one upstairs, that would be fine. Otherwise, when one of the two sold we would drop the listing on the other and live in that.
The move would be easy enough if our home sold — one flight of steps. Still, we priced our own home $5,000 higher than the investment condo to encourage buyers to choose that one.
We got offers that didn’t work out on both places. The offer on our home was at a good price, in part because we were willing to take $30,000 down and finance the rest for a few years. Sadly, the buyer had to rush back to his home in Italy when his mother became ill, and he eventually backed out of the deal.
Fortunately it was the beginning of the “season” in southern Florida (everyone comes here in the winter), so the offers kept coming and we had a signed contract by the end of January 2013. We sold the condo upstairs (not our home) for $92,000, closing in March.
How Much We Made by Flipping a Condo
After every last expense, our net profit was $4,500 — not much to get excited about, especially since I put in six hard weeks of work fixing up the place. But we were happy to be done with the project, and that profit was equal to six month’s wages at the part-time, $9-per-hour job I had at the time.
Lesson 13: You always have more than one option with real estate, so consider other ways to make your profits or income. Offering financing can get you a higher price, and is relatively safe if you get a large down payment.
Timing matters, so plan according to the best time to sell. If we had bought the condo in winter and had it ready to sell in May, we could have waited many more months to get it sold, and the holding costs might have eaten up most of the profit.
Sadly for our buyers, the air-conditioning unit died a few months after they bought the place, costing them about $4,000 for a replacement. That would have wiped out almost all of our profit if it happened while we still owned the place, which leads to our final lesson:
Lesson 14: Real estate investing will always be full of surprises (and not many of them will be pleasant). Since you never know when costly surprises will come, seriously consider accepting any offer that makes you a decent profit, rather than paying more holding costs and risking big expenses while waiting to get a slightly better price.
Your Turn: Have you ever invested in real estate, and did you run into many surprises?