Buy, Rehab, Vacation Rent: A Dallas Case Study

The last picture has been hung, lamp placed just so, and beds all neatly made with white linens.  Its time for the Airbnb guests to arrive at my newly rehabbed Dallas triplex.  I wanted to share the journey by the numbers- this is a long post with a lot of math thrown at you, but it will be interesting for investors looking to get into their first small multifamily rehab project.

For the most part, I am happy with the way the remodel came out, especially given my constraints of budget and time.  However, I made a few mistakes which I want to share.

The Project:

On September 1st, I purchased a 5 plex in an up and coming area of East Dallas, close to Baylor University Medical Center and Lakewood.  My initial purchase price was $245,000.  4 of the units were rented, and the total rent was $2400/month (almost meeting my 1% rule).   These were well under market, and the units needed an overhaul.  Also the tenants I inherited were low quality (this means they caused a lot of headaches and were not reliable).  I knew there was potential to add value to this investment, and my goal was to invest $60K to fix it up.  I would then need to earn $3,050 per month to satisfy the 1% Rule.

This would be easily done after rehab, if I decided to keep long term tenants.  I could safely bet on $1800, $1100, and $900 for the three units, or $3800 total.  Not a bad return, but I suspected I could do better on Airbnb.  Time will tell if I’m right.

I also needed to convert the property back to a Triplex, since the previous owner had cut up the original layout into 5 oddly sized units that made no sense and were not even permitted.  I consulted with Dallas building code department and confirmed that I would not have to pull permits for converting it back to its original layout.  I did however, need permits for the foundation work, which were easy to get.

I did not renew any of my tenant’s leases, so the property was fully vacant by February 1st.   I was in Dallas January 31- February 4, to oversee the beginning of the project, and again February 28- March 3rd to check it at the end.

Rehab Breakdown:

  1. New foundation, including 56 new piers and a new beam: $13,000
  2. Labor: Demoing 5 units, removing 2 kitchens, changing the layout, installing hardwood floors, tile, paint, new doors, tub, vanities, new kitchen cabinets and some plumbing work: $27,000
  3. Construction materials: $11,000 (Bamboo flooring, Porcelain tile, lights, vanities, cabinets, paint, bathtub, plumbing materials)
  4. Electrical work: $1400
  5. New Fence, including automatic driveway gate: $7,000
  6. New Windows: $2500

All in, the project cost me about $62,000

Because I decided to rent it on Airbnb, I had to fully furnish, decorate, and supply the three units.   This cost me about $9000, which I will earn back after 2 months of rentals.

Airbnb income SHOULD look like this  Numbers based on 20 night occupancy:

  1. Unit 1 ( 1 bedroom):$80/night ($60 after management).  $1200.
  2. Unit 2 (2 bedroom): $120/night ($90 after management). $1800
  3. Unit 3 (3 bedroom): $180/night ( $135 after management) $2700

All in, $5700 per month

To Recap:

  • Long Term Rental Expected: $3800 = 14.9% annualized return
  • Short Term Rental Expected: $5700 (I am going to reduce this a further 10% to be extra conservative, and to account for supply costs): $5,130=  20.2% return

These numbers are based on a cash purchase.  If I leverage my investment with a (lets be super conservative) 5% interest rate, my cash on cash looks pretty good.  Let’s assume that my house appraises for my “all-in” costs: $305,000.  I leave $92,000 ( 30%) in equity, so my loan is $213,000 and my mortgage payment is about $900 a year.  Add on property tax and insurance, and that jumps to $1600.

  • Long Term Rental: $3800- $1600= $2200  Annualized cash on cash return:  29%
  • Short Term Rental:  $5130- $1600= $3530 Annualized cash on cash return: A whopping 46% return!

Holy SHIT!  Even assuming a pretty bad interest rate of 5%, those numbers look really good.  Its clear that the answer to this puzzle is 1) LEVERAGE is better than owning in cash and 2) Short Term rentals are definitely the way to go.

Now that we’ve sorted out the financials, I want to talk a little bit about the learning curve.  I made some mistakes which may be helpful for others to know about.

I remodeled the units from Grade D, to a B-.  I didn’t finish the units with top quality materials, but the units are now super cute and quite functional.  I didn’t gut the plumbing or electrical, but I updated it where necessary (adding GFCI plugs in bathrooms, adding light switches where none existed, upgrading lighting/plugs etc).  The truth is that with a 108 year old building, I am asking for a continual outflow of repair bills.  That is just the way it is with an old building full of charm.  Pipes break, electrical will have to be upgraded over time- I know I still need to add a few more GFCI outlets and upgrade a few light switches for example.

Overall I am satisfied, given the amount that I spent, and the fact that the project took only 5 weeks from start to finish!

That being said,  I made several very frustrating mistakes which I deeply regret:

  1. I should have gone to Dallas for 3 days in the middle of February, to oversee the project halfway through.  The flight would have cost me $250, and since one of the units was already listed on Airbnb, I could have just stayed there for free.  The $250 would have been worth it.
  2. I didn’t insist that my contractor visit the house every other day.  He let his subs to most of the work, so lots of little things got lost, didn’t get finished, or were just generally overlooked.  I had to do a lot of project management myself to ensure that everything got finished.
  3.  2 of the showers still had the original separate hot/cold faucets.  I didn’t include replacing these with a pressure balanced shower kit on the project list- I never talked about it with my contractor so we didn’t factor it in the budget (Originally, I wasn’t planning to do any plumbing at all).  He didn’t think to ask me if I wanted to change them out (which would have cost an extra $100 per bathroom), so instead just tiled over the old plumbing.  This was a huge mistake, and sooner rather than later I will have to rip out some of my newly installed tile, and change out the plumbing to pressure balanced shower kits.  What would have been a $200 update is now going to cost me $1200 in labor.  Thankfully I have plenty of tile leftover!
  4. My takeaway is that my contractor was generally pretty good in terms of construction knowledge, and his subs are pretty skilled.  However, he sucks as a project manager.  That being said, he is good for small, specific tasks (where I act as project manager) so I will probably continue to use him for one off’s.  I wouldn’t have him manage an entire house remodel again, however.

So, there you have it!  I think these are fairly conservative estimations.  I will update the numbers in 6 months, just to see if I’m on track!

 

Exit Strategy:

 

This was a cash flow investment, so I am not looking to sell any time soon.  But, lets say I did want to sell in 5-10 years. There are a few options:

 

  1. I plan to put another $100K into the property before I sell in order to gut and remodel the 3 kitchens.  Currently, the kitchens are functional with original cabinetry and basic appliances.
  2. Apply for permits to convert the 600 square foot storage/laundry area into a 4th unit.  This could be rented either long or short term.  It has a separate entrance and already has a gas line and bathroom plumbing- it looks like at one time (many many moons ago) this space was lived in.  Square footage is money in the bank, so I should probably do this anyway.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

w

Connecting to %s