San Diego Rent Control

San Diego Rent Control

Quick Summary

  • Californian’s will get to decide in the November ballots the fate of the Affordable Housing Act (AHA), which would allow for cities to adopt rent control.  The AHA seeks to revoke the Costa-Hawkins Rental Housing Act, which prohibits rent control on buildings built after February 1995.
  • Many San Diegan’s believe this would provide an answer to our housing crisis, however, many professionals and economists disagree.
  • Experts believe rent control would be detrimental to the San Diego economy and would discourage new housing development, further exacerbating the housing crisis.
  • Experts also argue that rent control would eliminate many incentives to own rental properties. This could cause harm to both owners and tenants.
  • Rent control has already been adopted in several cities around the United States, and the results have proved to be harmful to the overall economy by shrinking supply of affordable housing and driving up rental market prices.

Continue reading below to learn more about rent control and the effect it would have on the San Diego economy.

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San Diego Rent Control

San Diego is facing a profound housing crisis. Rents keep climbing and supply keeps falling desperately behind demand. According to the San Diego Union Tribune, in March of 2018, the average rent in San Diego County hit an astonishing record of $1,887.

San Diego now ranks as the ninth most expensive market in the United States. Many San Diegan’s are finding it increasingly hard to afford rent and are turning to the government for answers. Their solution? Adopt the Affordable Housing Act and repeal the Costa-Hawkins Rental Housing Act which would allow cities like San Diego to decide on their own rent control measures. The initiative received more than 650,000 signatures and will be placed on the November ballots, giving Californian’s the option to decide on this issue.

Many economists and experts agree that rent control offers no benefits for all parties involved and would be disastrous for our local economy. How would rent control affect San Diego? Let’s take a closer look at the various players in this debate.

*This is part 1 of our series on Rent Control. Be sure to stay tuned for detailed scenarios and further information to come soon.*

What is Costa-Hawkins?

Costa-Hawkins is a California state law that was adopted to counter vacancy control ordinances and spur new construction of single-family homes.

It limits how cities set rent control in two ways

  1. It prohibits cities from putting a rent cap on single-family homes or apartment buildings built after February 1995.
  2. It gives landlords the right to raise rent prices to market value when a tenant moves out, otherwise known as a vacancy control.

Costa-Hawkins does NOT outlaw rent control. Cities like Los Angeles and San Francisco have been able to adopt some forms of rent control but within the state law.

Source: Union Tribune 

What Is the Affordable Housing Act?

The affordable housing act has three main objectives

  1. It aims to restore California’s cities and counties to develop and implement local policies that ensure renters can find and afford decent housing in their areas.
  2. Improve the quality of life for millions of California renters and reduce the number of people who face critical housing challenges and homelessness.
  3. Repeal the Costa-Hawkins Rental Housing Act

Supporters of this bill hope that if passed, rents will go down and that many San Diegan’s will be able to find affordable housing. They believe that increased rents are a result of landlords fueled by monetary greed.  This act would allow cities to prevent landlords from increasing rents once a tenant leaves.

Source: Affordable Housing Act Website 

While it is no question that rents are sky-rocketing and that a solution needs to be reached – rent control is not the answer. In fact, I would argue rent control would just exacerbate the problem.

 

Why Rent Control Won’t Work

Those against the Affordable Housing Act include apartment developers and landlords (among others). Repealing Costa-Hawkins would lead to shortages in both the quantity and quality of housing. Profits are what incentivize landlords to maintain a building in good shape. If rents are capped at a certain limit, what is the incentive for landlords to maintain the building?  Buildings would become neglected and long-term improvements wouldn’t be invested in. This can create unsafe living conditions for tenants.

Rent control would limit property owner’s potential cash flow to dangerous levels. When you think about things like increased expenses and rising interest rates, this could put owners at risk. If the owner can’t make their mortgage payment because rents have been caped, they risk losing their property. This could create a domino effect amongst many property owners. Tenants might also have to look for a new place to live.

There are already many risks associated with owning a multi-family building, so if you factor in rent control, what is the incentive to buy a place? Owners might opt to convert their building into condos if they do not see enough cash flow to turn a profit. This would take away even more rentals from the San Diego market.

In 2016, the Union Tribune asked 14 experts whether they believed rent control would benefit the San Diego economy, all 14 experts answered, “No”. They cited everything from shrinking the supply, decreasing affordability long-term, to driving tenants out to repurpose buildings.

History has shown us that rent control doesn’t work. Look at New York City in the 1970s and 80s. Landlords simply stopped maintaining the buildings, amenities were no longer looked after, living conditions became dangerous, and eventually, entire streets blocks were left vacant. New York’s neighborhoods fell into an economic recession and investment was at an all-time low. 

The Impact on Development

What about developers and investors? Would the same incentives remain for them to continue to build new construction if they knew property values would be artificially capped?

A recent CoStar report discussed the impact that rent control could have on development.

“Many developers are concerned about the economic impact there will be on new development if it is subject to rent control… it would change the “whole economics” of how developers view potential development opportunities… It’s hard enough and costly enough for a developer to make a decision to build housing, and now they are put on notice that the housing may be subject to rent regulation… they may very well be unwilling to make those tough decisions of being invested in building a development”.

If developers are unwilling to build new units, which San Diego desperately needs, that is a losing scenario for all parties involved. This would place us further behind meeting the demand for housing. Alan Gin at the University of San Diego argues,

“the problem is the lack of construction of both single-family and multi-family residential units. Controlling rents would reduce the incentive to build more multi-family units”.

If developers see fewer incentives to build housing, they may turn to other development avenues like commercial, retail, office, etc…

The Building Industry Association recently commissioned a study that found that up to 40 percent of the cost of a new home is attributable to the 45 agencies that govern home building in California. This means that on a $5,000,000 project, $2,000,000 is spent paying these 45 agencies that govern homebuilding. Legislation like the California Enviornmental Quality Act (CEQA), while once good intentioned, has proven to be a major roadblock to countless developers. 

Rent control not only discourages development, but it would contribute to less affordable housing developments being built. Austin Neudecker of Rev points out that rent control would increase the prices for those who cannot find a controlled unit. New York City and San Francisco are prime examples where soaring rental prices and rampant abuse of rent-controlled housing exists.

Another big concern with rent control is tenants deciding to stay for extended periods of time in their current unit or subleasing it out. This makes it harder for people who need affordable housing to get into units.

A 2017 Standford Study and this LAO report also concluded that rent control does more harm than good. I recommend giving these a read, they provide some valuable insight into what happened in San Francisco and their attempts at rent control.

Final Thoughts

Think about this for a moment. If produce is too expensive, should we limit how much the farmer makes? What about if Apple Computers are too expensive? Do we start paying people who make them less?

The same concept applies to landlords when being asked to accept rent control. Just because rents are going up, it doesn’t mean the responsibility falls on owners and developers.

More permanent solutions lie within increasing zoning, reducing the time it takes to build, and expanding our public transit system and building communities around those transit centers.

Lowering parking space requirements could prove to help as we enter a future where vehicle ownership could decline. Developers fees should be prorated by size. As it currently stands, big and small units face the same fees, which gives developers no incentive to build smaller, less expensive units. 

These are just jumping off points but could be great starts to solving what is arguably one of San Diego’s biggest dilemmas. I will be updating this post as more developments arise, so please stay posted.

More Information

San Diego Union Tribune “What’s the Deal With Rent Control” 

EconoMeter Critics Panel Report

Rent Control is No Answer to California Housing Crisis 

Written by Blake Imperl in collaboration with Curtis Gabhart

Curtis Gabhart and Gabhart Investments, Inc – 2018 All Rights Reserved
The material contained in articles that appear on gabhartinvestments.com is not intended to provide legal, tax or other professional advice or to substitute for the proper professional advice and/or commercial real estate due diligence. We urge you to consult a licensed real estate broker, attorney, tax professional or other appropriate professionals before taking any action in regard to matters discussed in any article or posting. The posting of an article and of any link back to the author and/or the author’s company does not constitute an endorsement or recommendation of the author’s products or services.

 

Hold vs Sell Decision – Real Estate Investing Class

Hold vs Sell Decision – Real Estate Investing Class

Hold vs Sell Decision

Commercial Real Estate Investing Class

One of the most important decisions for real estate investors is to hold an investment or sell it. This class will demonstrate a methodology to evaluate the hold vs. sell decision. Investment pro-forma’s will be used to measure the impact of keeping an investment or selling it.

Topics will include:

  • Estimating Investment Base
  • Forecasting cash flows
  • Comparing alternative investment strategies
  • Estimate investment performance with Net Present Value and IRR.

Registration is at $50.Seats are limited to 50! RSVP in advance to reserve your spot!

________________________________________

The presentation will be put on by Curtis Gabhart, CCIM and Mark Goldman, CCIM of SDSU. 

Curtis Gabhart has been a successful Real Estate professional for more than a decade. He has a Certified Commercial Investment Member (CCIM) designation from the CCIM Institute. He is a Director at Keller Williams Commercial Brokerage and President of Gabhart Investments, Inc, a privately held real estate investment firm that manages a syndication of private investors, specializing in acquiring and renovating single and multi-family properties. He also serves on the Commercial Advisory Board at the University of San Diego Burnham-Moores Center for Real Estate and he teaches commercial real estate courses for the California Association of REALTORS® and San Diego Association of REALTORS®. He has been recognized by members of Congress, California State Senators, the City of San Diego, and had a day named after him in the County of San Diego for his community service and dedication to the community. He was awarded as the Dealmaker of the Year for 2015 in Retail and Multi-Family category.

Mark Goldman has been a loan officer in San Diego since 1991. He has a degree in real estate finance from the University of Connecticut. Mark has a Certified Commercial Investment Member [CCIM] designation from the CCIM Institute. He has authored several books on real estate financial analysis and given seminars on real estate financial analysis and financial planning topics. Mark also teaches real estate finance at SDSU. His areas of expertise include analyzing financing alternatives and searching for specialized loan programs. Mark has been a “Certified Community Home Buyers’ Program” instructor. He can help to maximize your home purchasing power or achieve your refinancing goals.

Don’t Take Cap Rates at Face Value When Buying Your Next Multi-Family Building

Don’t Take Cap Rates at Face Value When Buying Your Next Multi-Family Building

The Quick Facts

  • Cap rates on properties can be misleading without proper expense reports
  • Many small to mid-sized multi-family buildings don’t have accurate expenses records
  • By only looking at cap rates can cause you to lose out on potential good deals
  • It is imperative to do your due diligence and analyze the expenses
  • Pairing yourself with proper representation (commercial broker) can make a huge difference
  • Learning standard expense multipliers can save you a lot of time and money

 

So, you’re looking to purchase your next multi-family building. You’ve selected a few perspective properties, gathered the financial reports, and are trying to decide which is the best investment. How do you know which one is the best deal? Many investors would run straight to comparing capitalization rates (AKA cap rates).

While this is a good start, I’d argue that you should be cautious when comparing cap rates. It is crucial never to take a cap rate at face value and always conduct proper due diligence and seek appropriate representation. Not only could you overpay for a property, but you could also miss out on some great deals. The answer to this dilemma lies in the expenses.

First, I will explain why cap rates can be inaccurate due to inaccurate expenses and then offer a more accurate and efficient alternative.

If you’re unfamiliar with cap rates, get caught up to speed by checking out my earlier blog post on cap rates. 

Be sure to make it down to the end of this post for my PowerPoint presentation on “Don’t Take Cap Rates at Face Value”. I’ve included some valuable and practical examples of the topics discussed in this post. 

CAP Rates

To understand cap rates better, it is best to take a look at a crucial component, the net operating income (NOI).

Net Operating Income on commercial properties

To arrive at the net operating income, we must subtract gross operating income from operating expenses; but what if the operating expenses are misreported? That can have a drastic effect on the final calculation of a cap rate.

Most small to mid-sized apartments available on the market don’t have actual expense reports or profit and loss statements from the owners.

This could happen because the owner is:

  • Unorganized
  • Hiding expenses
  • Doing repairs themselves and not factoring in things like labor costs
  • Miscategorizing capital expenses as maintenance expenses
  • Keeping incomplete expense reports or in some cases, no reports at all.

Other times it can also be the broker’s fault because they don’t ask for the expense reports from the owner.

A failure to have actual expenses can lead to you, the potential buyer, to purchase an over-priced deal or worse, walk away from a great deal.

Here are some ways it can be inaccurate

San Diego Painter Mr Magoo

I’d like to introduce Mr. Magoo, a carpenter, and the owner of a small apartment building that has recently been put on the market. He’s seen a couple of Martha Stewart shows and thinks he’s quite the handyman, so he decides to do all maintenance and repairs himself. He’s made some questionable decisions like when he mixed several leftover paint cans to paint the exterior of the building, or when he patched a leaky roof with plywood. He’s also read online about property management and decides he can manage the building himself.

By doing this, Mr. Magoo has been able to save thousands of dollars on labor and maintenance expenses. He’s able to avoid placing these line items on his expense report, which makes his NOI appear higher than it is.

So, one day you’re on LoopNet or Costar looking for commercial property and stumble upon his building and decide to give him a call. When you speak to Mr. Magoo, he tells you it is an excellent building with little expenses. He claims that maintenance and repairs only cost him 5% of total expenses, which is drastically different from another owner who may assign 25% of their total expenses towards maintenance and repairs.

After doing some math on the given expenses, let’s say you calculate the cap rate of his property to be 6%. You think this looks like a great deal and are considering making an offer.

This can pose a severe problem if you, the potential buyer, take his expenses at face value without conducting any due diligence.

If you were to look into the expenses on Mr. Magoo’s property, you would find his cap rate is inaccurate unless you plan to hire yourself to be the painter and the property manager. The reason his cap rate appears to be high is that he was not accounting for the labor or market costs of maintenance. Unless you’re making less money than a property manager or painter at your current job, you should hire professionals. You’re going to save more money by paying them to do these services, and a lender will always add these expenses to their underwriting criteria. Your job should be running the operations, finding more properties, or continuing your career that pays you more than painting or managing your property. So, in this scenario, the cap rate is useless because Mr. Magoo’s expenses do not represent what you, the new owner, would be paying.

Without digging into his expenses, you might end up paying far more for a property that doesn’t produce anywhere near the stated NOI.

Now I’d like to demonstrate how over-reporting maintenance expenses can drive you away from potential deals.      

Let’s say you stumble upon a 6-unit apartment building that has everything you are looking for in a multi-family property. The only issue is that it has an alarmingly low cap rate of 3.5% and very high expenses. Many inexperienced investors or brokers may walk away from this deal without even digging into the expenses.

Upon further investigation, you discover the current owner has been overstating expenses because they don’t know how to accurately spread out repair costs over the life of the repair. When looking at the report, you see that there were two consecutive years of significant electrical upgrades that cost about $30,000 per year. This adds up to $60,000 in total expenses for new electrical that was meant to last 50 years. The owner should have spread out that $60,000 expenses over the life of the electrical rather than doing it up front. An experienced broker would be able to spot this and reallocate the expenses to the property area. After correcting the error, you will see that the cap rate will go up and expenses will go down.

As you can see, by the owner not understanding how to report expenses accurately, the property seems to be a bad deal. You may have walked away from a great opportunity had you not conducted a little due diligence.

Property Taxes

Another way cap rates can be misreported is through property taxes. The property taxes for multi-family apartment buildings in San Diego is 1.2% of the purchase price of the building. Where many inexperienced brokers can make mistakes is by basing their cap rate calculation off the old property taxes which is not accurate of what the new owner will be paying. Here’s an example:

Let’s say you have a property that the current owner bought for $1,000,000 over ten years ago.

Old commercial real estate investment

Currently, the owner would be paying $12,000 a year in property taxes. The property is then listed on the market for $2,000,000. Instead of calculating the new property taxes, which would be $24,000 per year, the broker decides to use the same $12,000 that the current owner is paying.

New owner for commercial property

What results is that the expenses will be reported at less than what they actually will be. This has the unfavorable result of artificially increasing the cap rate. When the new owner acquires the property, they will not be receiving that same income as their property taxes will be based on the new purchase price.

Furthermore, this could cause you to pay more for the property than it’s worth. Take a look at the following spreadsheets.

Old vs New commercial real estate investment

The difference between the old and new property taxes comes out to be $12,000. If we value the $12,000 difference at 5% cap rate ($12,000/.05) we get a value of $240,000. Now, let’s say the property requires a 25% down payment. If you were to pay the original asking price of $2,000,000 assuming the old property taxes, your down payment would be $500,000 ($200,000 * .25). If, however, you took into consideration the reduced value given the updated property taxes, you would see the offer price comes down to $1,760,000 ($2,000,000 – 240,000). This makes your 25% down payment $440,000. That’s a $60,000 savings by accurately accounting the property taxes.

This is why it is crucial to pair yourself up with proper representation. An experienced commercial broker would realize this and account for it in the offer.

The pay between experienced commercial brokers and new ones is not far off, so why not pair up with one who is experienced?

So now that I’ve demonstrated some ways that cap rates can be inaccurate let’s look at a better alternative.

Standard Expense Multipliers

With properties that may not have accurate expense reports (especially small to mid-sized apartment buildings), I recommend that you use standard expense multipliers to learn the price per square foot. This puts you in a much better position to understand a properties performance and overall value. I have found the Institute of Real Estate Management (IREM) Apartment Expense Multiplier sheet to be extremely valuable when determining baseline expenses.

Operating expenses for commercial real estate

When used appropriately, this will allow you put a better estimate on what your actual expenses may look like on a price per square foot basis.

This will allow you to compare the owner’s expense report versus your estimate. Any significant discrepancies could be a red flag that requires further investigating. These calculations will save you a lot of time and potential money spent.

If you’re trying to look through 180 listings, you can’t underwrite every deal promptly. Instead, what you can do is quickly look at each deal and say, “okay, this is a $170,000 unit. It’s a 14 times GRM.  If you put about a 40% expense on it, it is going to be in the 4% cap range”. Using this approach is going to make it much quicker for you to go down the line of properties.  Also, sometimes you’re going to find very similar buildings. If you saw something that sold for a particular gross rate multiplier, that may be a better way to sort through properties quickly. It will become easier to make apples to apple comparisons because those rents that they listed are usually accurate as long as they’re not pro forma rents.

So, when do you use Cap Rates?

Well, the larger the property or, the more organized an owner is, the more likely it’s going to be accurate. Also, the more respectable and experienced the broker is, the more likely it’s going to be a precise number. If the pay difference between an experienced and new broker isn’t far off,  why not pair yourself with an experienced broker?

Rarely, when you get down to it, will expenses be precisely what any owner says.  The question becomes; how far off is it?  So, my first piece of advice is to try to deal with people who are reputable and looking at the numbers. If everything you see in the market is at a 5% cap rate, and all of a sudden you find a property with a 7% cap rate – you should think to yourself, “that’s suspicious, why is it still on the market?”. Another example is if you see two comparable buildings with similar rents but drastically different cap rates; this could indicate something is off.

If you’re looking at larger properties or ones run by management companies, the numbers are more likely to be accurate because the owner is going to be able to print out a profit and loss statement. However, another problem arises.

What you could find is that the owner wants to write off as much money as they can on the property. Besides depreciation, they can achieve write-offs through two main ways.

  1. First is by doing maintenance and writing it off the in the year you did the work. This could be things like fixing your toilet or patching the roof.
  2. The second is capital improvements. Capital improvements typically have a long life but can range from one year to several years. A roof, for example, is a capital improvement because even though I paid $10,000 for it today, that write-off might be over the ten-year life of the roof. Because of this, I’m only able to write off $1000 per year against my income.  Although this is the case, a seller may say, “no, that’s still maintenance, so I’m going to write off the entire $10,000 this year”, even though it’s very questionable if not outright fraudulent to do so – but it still happens more than you’d think. A good broker would be able to spot this right away and reallocate it to the proper area of the financial statement. This would change your overall NOI.

So, when working with cap rates where you get income/expense reports, it is imperative to take a look and identify which numbers are actual maintenance and which ones are capital improvements. You also need to see if they’re moving their maintenance into capital improvements. Sellers often do this so they can report more income in the year that they sell, which gives them a higher sale value. Doing your due diligence here can save you a lot of time and money.

Here’s a great example of a multi-family apartment building in San Diego that I bought a while back. The property had a very low cap rate, which typically means that it’s not producing a lot of income. Many investors would walk away right there without digging into the financials. However, after we got into the property, we realized the expenses were misallocated, and the CAP rate turned out to be higher than it was initially stated. We were able to turn a healthy profit on the building by not taking the CAP rate at face value right away.

The moral of the story is be careful when you rely on the CAP rates of small to mid-sized properties.

  1. Learn your expenses
  2. Learn the price per square foot
  3. Learn the market rents in the area so you can apply those metrics to buildings you are analyzing
  4. Take a look at who is listing the property. Is it somebody who has experience? Are they missing a lot of financial numbers?
  5. Do they have expenses listed out, or do they just give you a bottom line number?
  6. Do they have a marketing package? Are they seeming overly aggressive with what they’re proposing?

Sometimes the best deal you buy are the properties that were not marketed correctly. These can often be opportunities for you get a lower price if you conduct the necessary due diligence.

Please leave in the comments below any thoughts you have on cap rates and valuing a property or any stories you may have run into…

Curtis Gabhart, CCIM

Edited by: Blake Imperl

Disclaimer: I’d like to point out that none of the content in this article is absolute. It’s just food for thought and is based on my numerous years of experience dealing with commercial real estate.

These are just some things you may want to think about when analyzing commercial properties. It isn’t always advantageous to rely heavily on CAP rates when looking at properties where you don’t know their actual expenses. This post was designed to offer an alternative for when you’re looking at dozens of properties and trying to find the best deal available.

Additional Education

Please take a look at my PowerPoint Presentation from my recent class on “Don’t Take Cap Rates at Face Value”. I teach monthly commercial real estate classes on a variety of topics from due diligence to getting started in commercial real estate and everything in between. If you’re interested in finding out more about my classes, please visit my Eventbrite Page where you can find the complete list of upcoming classes. 

Looking for some more tips on buying multi-family properties?  Click here to check out my multi-family inspection tips!

Want to get more return on your investment? Here’s a great article on how to increase your buildings’ property value fast by investing in a new paint job. 

How to Value Commercial Real Estate 101 Slideshare – This crash course will take you through the basics of valuing commercial real estate. It has over 106,000 views so far!

Multi-Family Quick Tips When Doing An Exterior Inspection

Multi-Family Quick Tips When Doing An Exterior Inspection

By: Curtis Gabhart, CCIM

Here is a quick recap of some things I look for when doing a quick inspection of an apartment building or even a single family home and common issues I come across.

I like to do a quick review to the outside condition of the property in order to gain insight as to whether it warrants further consideration for purchase or investment.

Now, before getting into the details, let me summarize the most important factors regarding the physical condition of a property.

Some of the important visible considerations are:

  • Reviewing the foundation and cement
  • Checking the siding
  • Reviewing the sprinkler systems
  • Analyzing the quality of the landscaping
  • Looking at the windows
  • Looking at the roof
  • Inspecting at the front door
  • Looking at the gas meters
  • Looking at the train gutters
  • Reviewing the quality of the paint
  • Looking at the overall neighborhood

When buying a property, whether it’s an apartment building or single-family house that you may plan on flipping, some of the concepts are going to be very similar, if not identical. With many investment properties, you will find an inside inspection is subject to an accepted offer. This means you will need to make some assumptions about the property before you submit your offer. This can prove difficult, especially when you’re not able to view the inside.

Starting Out 

I’ll look from the ground up – I’ll start by looking at the ground and taking an overall look at the condition of the property to see what level of care has been maintained. As a general rule, if it’s a piece of shit on the outside, it’s probably a piece of shit on the inside. There have been a few exceptions where I’ve been pleasantly surprised when I got inside a property, but that’s exactly what they are – exceptions. I’d use this analogy as a general rule of thumb – if you see a car that looks junky on the outside, it probably just as junky on the inside.

Foundation – I’ll look at the foundation, all the cement on the ground near the foundation, and all landscaping near the foundationI’m looking for things like sprinklers spraying on the building. I’ll then check if there is stucco peeling off the building, which can sometimes indicate moisture intrusion into the building. I’ll also check if the ground is sloping towards or away from the building; it should be sloping away from the building. If it’s sloping towards the building, it may indicate that a possibility of having a foundation or other problem that relates to water. If there’s cement, I’ll look for big cracks in the cement, which sometimes can indicate unstable soil or cracks in the foundation.

This could indicate further foundation issues

Landscaping – what is it going to cost me to improve the landscaping, what do I need to do to it, are there sprinkler systems, and are they automatic or non-automatic?

Building – what kind of siding is there? Is it stucco, brick, vinyl, wood? I pay close attention to the condition that it is in. If it’s wood, I will check for visible water or termite damage.

Eaves – Does the wood going into the eaves have damage? If there’s a lot of damage in the eaves, it very well could go into the attic rafters, which could be a lot more expensive. If it’s on the siding, what kind of siding is it? If it’s an old building, a lot of times replacing siding can get very expensive for two reasons:

the eaves is the part of the roof that meets or overhangs the walls of the building

  1. First is the fact that you may not be able to find that particular kind of siding anymore without having it specially milled.
  2. Second is anytime you pull something off an old building, you’re very likely to find unforeseen surprises. Because you can’t be certain of the magnitude of these surprises, it is safe to assume everything is going to cost you a little more than you think. Whatever you think the price is, assume it probably cost more than you originally estimated. 

 

Windows- Are they new or old? If it’s an old building, are they wood sash or aluminum windows? Is that something that’s going to need to be replaced? Typically, the double-wood-hung windows that you see in houses or old apartment buildings are not in very good condition. With aluminum windows, I essentially just look at them and decide if I’m going to replace them or not.  What you need to be aware of is in many areas where you replace these windows, there may be architecture review committees that require you to replace them with historical windows. This could prove to be very costly, especially if they are wood sash.

wood sash window

Building Corners – Does everything appear straight? If there’s siding, are the lines of the siding vertical or are they all straight? On the corners of the building, what does the wood look like? Is there stucco coming off?

Roof – Does the roof have something called a drip edge?  This is a little metal edge that goes into the lip of the shingle roof. Are there rain gutters? If there are no rain gutters, water may not have been running away from the building. Because of this, I will spend more time thoroughly inspecting the foundation.

I look at the shingles of the roof; if there are many noticeable curved edges, it is likely on its last leg. Then, if I think I may need to replace the roof, I will look at how many layers of roofing there are. Typically, you don’t want to go past two or three layers of roofing. What that means is that if you replace a roof that has two or three layers, you need to put in your budget funds to tear off that existing roof before replacing it. You also will need reserves for unexpected issues when you pull of the old roof because you may need to repair the plywood underneath. Depending on how much work you do around the roof, you may have to re-sheet it.

re-sheeting a roof

Fence  Do I need to replace or paint it? Is the fence wood? Is it leaning, does it look like it’s on my property line, does it look I could add private yards for apartment units? Many times, you will find large open areas in the back of apartments that are shared. What we can do is put up a fence around the units and now each unit has their own backyard – a very inexpensive fix that not only can help you get higher rent but can reduce costs because you may not have as much landscaping to maintain

Paint (for older buildings) – If it’s pre-1978 and you have peeling paint, you’re probably going to want to get a lead-based paint test conducted. That’s going to tell you whether you’re going to need to do any kind of abatement or work on the property. If work is needed, you may need to use lead-based paint best practices, which can prove very costly. I usually recommend getting a test. Paint used in older buildings in San Diego is less likely to have lead in it compared to the east coast, where the weather is harsh and requires more durable paint.  Most of the properties I have tested did not contain lead, but it is still important to get it tested.

If it is tested and comes back negative you do not need to follow lead based paint best practices. If you have a pre-1978 property and decide not get it tested, you still must work on it like it contains lead based paint – which is a good reason to get it tested in the first place.

peeling lead-based paint

Click here for information on lead-based paint best practices

Front Doors – Aesthetically, are they looking good? Are there any gaps? If I look at top of door, I will look for a little pie-shaped gap at the top. If this is present, it indicates there may be some settling in the property.

Meter Boxes

Meters  Is it gas or electric? Are there gas meters for all units? If the property runs on gas and there is one water heater, there should be gas meters for each unit and also for the building.If it’s a multi-unit building, I count how many individual meters there are. There should be as many individual meters as there are units, plus one additional one, which would be for the common area. If you’re missing a meter, you may have something called a bootleg property, which means one of the units may have been put in unpermitted (just something to look at).  These are important things to note because in San Diego the tax assessor will charge for all the units, and state on the public website that it is X units, but that does not necessarily mean they are legal units.

Electrical – As far as electric meters go, I’m looking at what kind of panel it is. If it’s old, it could be something called knob and tube, which could indicate that I’m going to have to put a lot of money into upgrading the electrical. This will likely increase the interior costs as well. I then look at the circuit panel – is it updated? Then, I’m looking at how many amps each unit has. Ideally, you want 100 amps, but for many apartments, you’ll have between 30-50. Newer apartments should have 100.

Knob & Tube Wiring

I’m also looking at the type of panel; Murray Lampert typically have problems, so I want to check what kind of panel there is. Are there circuits in the units? Is there any room to add additional circuits if you want to add appliances or anything else inside the property? Is the inside of the panel painted? If so, it could indicate that the previous people who worked on the property weren’t doing things the proper way. This would lead me to believe other things were not done the proper way.

This is quite the mess!

I’m looking for bunches of electrical or cable lines running all over the place. We’ve bought properties where it looks like spaghetti running all over the building, and we’ve ended up having to rip it all off and start from scratch simply because it’s easier to do instead of trying to sort it all out.

 

 

Staircases – When I walk on the stairs, I make sure to walk very heavy. I’m looking to see if it seems squishy. Is termite damage visible, are the railings stable? In compliance with code, railing spacing should be about three and a half inches. For me, if I can make a fist or place my hand through the pickets of the railing, it is most likely not up to code and I’ll have to replace it depending on my insurance company and how bad it is. I look at the stairs to see if the tread rise and depth are consistent. It should be around 7” of rise and 11” of depth. If they are not to code they may need to be replaced.

Inconsistent stair depth

After An Inspection  Once the inspector gets into the property and finds things that I may not have found, do I decide not to buy the property? No, not at all. It just helps me to figure out what it’s going to cost to fix or if I even want to fix it, and what exactly I’m getting myself into. That’s what is critical about the inspectionYou can make a well-informed decision on the property rather than going in blindly and being surprised later.

It is naïve to think you can figure out how to hit a certain number or certain profit, or how to stay within a tight budget, without being informed of all the problems. This is valuable while I’m negotiating in the beginning. If I’m coming in lower than the initial offer, I can right away talk to them about some of these problems, which, most likely, the owners already know about but haven’t disclosed yet or many times they had no idea there were these problems which make it easier to negotiate.

Final Remarks

Keep in mind, none of this is 100%. These are just good rules of thumb when looking at a property. They have served me well to establish if an investment property warrants further investigating and analysis, and if so, what kind of offer to submit. This obviously isn’t everything. I depend on inspection in most cases. I will be posting an interior walk through an article in the weeks that follow. I’m interested to hear your story and what else you may look at when walking a property. Please share your take in the comments below.

**Disclaimer** – make sure you are walking the property with the consent of the current owner. Please keep in mind we are in the San Diego market and practices in your area may be different.  I highly reccommend you get a building inspector to look at the property unless you are highly confident in your ability. 

Curtis Gabhart, CCIM President Gabhart Investments, Inc.

Edited By Blake Imperl, our newest intern at Gabhart Investments. Check out his Linkedin page by clicking here.


Gabhart InvestmentsGabhart Investments, INC. (GII) is a privately held real-estate investment firm based in San Diego, California. We operate in a rapid paced project driven environment.  The employees at Gabhart Investments, INC. (GII) are close-knit, highly qualified professionals, possessing the necessary competence to meet our clients’ goals. GII promotes ethical balance for continuous training, leadership, and teamwork. Since 2000, GII has acquired and converted multi-family properties into condominiums throughout San Diego County. The new real-estate market has presented us with many opportunities to take advantage of. Along with our equity partners, Gabhart began to grow its portfolio in, arguably, the strongest housing market in the country. Thus, we consistently generate superb risk-adjusted rates of return for our investors. In 2005, Gabhart’s private investment portfolio had transactions in excess of 40 million dollars.  We intend to accelerate our business model by maintaining our focus within the purchasing and rehabilitation of bank owned real-estate property. Our additional services include consulting, brokerage, venture funding, development, construction management as well as property and asset management.

Check out our other blog posts here

Commercial Real Estate Internship Update #1 – Blake Imperl

Commercial Real Estate Internship Update #1 – Blake Imperl

How My Views on Commercial Real Estate Are Changing

By: Blake Imperl

As I am approaching the end of my first month as an intern at Gabhart Investments, I’d like to reflect on what I’ve learned, and what has changed thus far.

What I’ve Been Doing

Over the past few weeks, I have been spending a lot of time reading the material Curtis has provided me on Property Valuation & Investment Analysis. Although it is mainly an overview of the subject, it has proved to be some highly valuable content. This material essentially picked up where I left off in my Real Estate Investment Analysis class that I took last semester at San Diego State. I have been brushing up on subjects like tax benefits, 1031 exchanges, expenses, leverage, returns, evaluating cash flow, and much more. I still have a great deal of learning to do on these subjects, but it is exciting to see how what I’ve learned in the classroom correlates to real world applications. It is my intention to continue to read up on these subjects and ask as many questions as I can.

I’ve also been observing how Curtis and his team assemble marketing packages for commercial properties they are listing. I was doing things similar to this at my last internship at Realty National, so I’ve enjoyed seeing how this translates in the commercial arena

Commercial Real Estate Blog Posts

Another task I have taken on is the editing of Curtis’s blog posts. My first edit was a post on property walkthroughs. One tremendous benefit of doing this has been the information I’m learning is sticking much deeper than if I just glanced over it. It’s proved to be a great learning tool for me and I’ve even taken on the task of researching some of the topics I was curious about. Writing has always been a passion of mine, so getting the opportunity to revise and write some stuff has been great. I’m excited that I will get to continue to edit blog posts during my time here.

Property Walkthroughs

This past week I had a great learning opportunity with Curtis to do a walkthrough of a 13-unit apartment building in Fallbrook. I was able to learn about some of the things you should be looking for in a property, both on the interior and exterior. This was a neat real life application after reading Curtis’s article on property walkthroughs. This is certainly the kind of stuff you’d never learn in a class room.

13-Unit Apartment Building In Fallbrook

La Jolla Multi-Family Building

Another property we looked at was a 5 unit multi-family building in La Jolla. This was a very intriguing property because it had great bones, was less than a block to the beach and offered several routes for renovation. When walking the property, we looked at things like the condition of the floors, the bathrooms, kitchens, balconies, electrical, etc… It was far from move-in-ready, however, at the right price this could prove to be a great deal.

Curtis and Abe inspecting the condition of the upstairs balcony

the interior of the detached studio

Co-Star Lunch & Learns

In addition to the property walkthrough, I’ve also attended two Co-Star lunch and learns with Curtis and his assistant Dianne. The one that stood out to me was on the housing forecast over the next few years in San Diego County. I enjoyed this meeting because this is a real problem we will be tasked with fixing over the next decade. This past semester in my investment analysis class I did a great deal of research on this subject, so it was neat to hear the industry take on the issue.

Other Opportunities

Lastly, I have very much enjoyed the opportunity to pick Curtis’s brain. He’s always offering me valuable tips and knowledge about real estate and just life in general. Whether it be tips on client relations, listing properties, or even just financial management, I’ve been trying to act like a sponge of knowledge. He’s always honest about things and I respect that.

My views on real estate are growing stronger than ever and I’m excited all the learning opportunities that lie ahead. I am finding that the San Diego Commercial Real Estate Market contains more possibilities than I ever could have expected. Stay posted for my final update in August!

In a bit,

Blake Imperl

Intern, Gabhart Investments