Rent-to-Own Brownstone?
We currently rent 2 floors of a brownstone that’s approximately 18 ft. x 54 ft. The house is 3 floors, and there’s a second tenant upstairs. Our landlord asked us recently whether we might be interested in buying the house from him. He did not suggest a price. The house, while very pretty and having…
We currently rent 2 floors of a brownstone that’s approximately 18 ft. x 54 ft. The house is 3 floors, and there’s a second tenant upstairs. Our landlord asked us recently whether we might be interested in buying the house from him. He did not suggest a price. The house, while very pretty and having some lovely original crown moldings, fireplace, etc…, would need a lot of work (new plumbing, new electric, new windows, there are lots of small holes all around the house). I’m thinking it’s a total gut job. The house is in a lovely area of Bococa, but it’s not a prime area and it’s not landmarked. Assuming we decide to do this, what’s the best way to go about coming up with an asking price? While we’re familiar with real estate in the area, it seems that prices vary greatly on brownstones. Also, if anyone else has some general guidance on how a rent-to-own situation can work, I’d love the advice. Thanks.
Rent-to-own is another term for “lease option” which basically gives the tenant the option (usually 2 to 3 years) to buy the home at a specified, up-front price anytime up to the end of the option term. It usually requires an up-front deposit and any rent paid during the option (commonly reduced by 50%) is credited toward the purchase price. The option is binding on the seller but the tenant can opt to walk away (and lose the deposit). There are many variations of this type of deal. Just Google it and you’ll get a good idea so that you can move forward. I did one several years ago and it was a home run for me.
For a brownstone in bococa, you’re unlikely to find something selling for 10x rent roll, but you could get an appraisal (like the banks will if you finance) for a few hundred bucks.
Say the rent is 3k for the duplex and 1800 for the upstairs tenant. 10x RR is 576000. If you’re landlord will sell for that tell him I’ll buy it as an investment. The comps will probably tell you the market value is more like 15x or 864000.
I don’t know if rent to own makes sense, but you could ask the LL if he’s willing to finance. You might save some of the costs and hassle of bank financing. For the seller, it’s a income that might be better than alternative investments backed by an asset he knows the value of. And I believe the tax code allows a seller providing financing to treat it as an “installment sale” so that the capital gain can be spread out over multiple years rather than paying the tax on the gain in one year.
“great flexibility in renting their duplex/moving into a cheaper apt. if they ever hit the skids”
That high risk defeats their purpose of buying. Yes, risk is always present but it can be minimized significantly by waiting, saving and later putting more money down on a cheaper house (higher mortgage rates would yield the same monthly payment or less).
They are paying far less to rent there than to own there @ 15x. They’d be risking 20% cash down into a -5/15 = -33% downside to 10x in appreciation. Underwater (even faster with less cash down).
***Bid half off peak comps***
BHO, it’s true that typically prices will overshoot on the way down before they stabilize, so it is quite possible that in the next 5 years, they might be upside-down. However, they are already living in place, can afford the rent, and will have great flexibility in renting their duplex/moving into a cheaper apt. if they ever hit the skids. There is always an element of risk, but to me, buying at a multiple of 15 when they already live there is acceptable.
“Multiply by 15, and that’s you break-even point (meaning buying the house should be fairly equivalent in cost to renting it.”
If it depreciates (and it will – mean reversion to 10x) buying will be more expensive over the typical ownership cycle during which you risk a forced sale. Financing a home costs far more than the monthly nut unless you can sell for a material amount above what you paid. The monthly nut is a dangerous comparison to renting during this economic depression.
***Bid half off peak comps***
There are several ways to look at it. The simplest is to add your rent and the other apartment’s rent, multiply by 12 (so you get a yearly gross income.) Multiply by 15, and that’s you break-even point (meaning buying the house should be fairly equivalent in cost to renting it.) If you like it, and you like your neighborhood, and you can buy it for a multiple of 15 or less, go ahead and consider it.
I don’t know how old your LL is, but it can also help to look at it from his perspective: take the yearly gross income, deduct his expenses (maintenance, tax, oil/gas.) Now you have a net income. Depending on his age and cash situation, other investments and revenues, whether he has children or grand-children, he might prefer making this income in other ways. If he’s an old-timer, he might not have a mortgage, and since he deferred a lot of maintenance, he will look at this income as a sure thing.
There is a sweet spot where it makes sense for him and for you, and the only way to find out is by 1- figuring your ceiling (that multiple of 15) and 2- talking to him about his bottom line. With a bit of luck, there is some overlap.
@ben – apparently Boerum Hill, Cobble Hill, and Carroll Gardens
Pay no more than 10x rent roll. The historic range is 2x (70’s fiscal crisis) and 20x (recent market peak). The mean or average is about 10x. Today’s multiple is about 16x but slowly reverting to the mean (another banking crisis on our hands – MBS putbacks!). Don’t catch the falling knive especially since you have a wildcard of a gut renovation cost. If I were you I’d wait until the real economy rebounds (years from now). RE prices have never, throughout history, recovered swiftly after bottoming. It recovers very slowly giving you plenty of time to act. But market corrections/crashes usually overshoot so you might even see 5x rent.
http://realestatevaluation.wordpress.com/2009/09/03/a-little-bit-of-history-gross-rent-multipliers-in-new-york-city-over-time/
Also consider the income multiple which is usually stable at 3x median.
You’ve been warned.
***Bid half off peak comps***
invisible – where did you come up with the 18 times rent roll for valuation purposes? That sounds really high.