     Matt Fletcher | Thursday, November 04, 1999 - 05:55 am 
Hey Chris, how is it going. This is an article John Reed wrote about me. I just thought I would brag on your site. see ya
Matt,
Here's the final version.
Thanks,
Jack
Matt Fletcher (myfletcher@
prodigy.net) bought 893 St. Clair in Grosse Pointe, MI, for $50,000 on
Valentine's Day of 1995. After spending a little more than $50,000
additional for rehab, he sold it on August 10th of last year for
$189,000.
Fixer
Fletcher made an offer on a house across the street from 893 St. Clair.
He was not the winning bidder, but in the process, he noticed 893 St.
Clair. It was greatly neglected and vacant.
Buying and rehabbing houses is something everyone in Fletcher's family
does. His sister made inquiries about 893 St. Clair and learned that it
was one of five rental properties owned by an elderly woman. She had
become terminally ill five or six years before and apparently had no
friends or relatives in the area. Her properties deteriorated and became
vacant.
Probate
By the time Fletcher's sister tried to contact the woman, she had died
and the properties were being sold out of probate. Out-of-state heirs,
as often is the case, just wanted fast cash. They were not concerned
about the sale price.
Not on the market
This property appeared not to be on the market yet. There was no
for-sale sign and had been no advertising. Fletcher, who has a number of
real estate agent relatives, suspects the agent kept this listing "in
her pocket" to avoid having to share the commission.
Offered $50,000
Fletcher and his sister offered $50,000 all cash. The estate accepted.
Water damage
In Grosse Pointe, MI, vacant houses must be winterized. But the
terminally-ill owner did not take care of such things. The pipes had
frozen and burst and done much damage to the house. Fletcher ultimately
had to replace most of the house's galvanized plumbing with copper
tubing.
Lower property taxes
Fletcher took photos of the before house and took them to the tax
assessor. Annual property taxes were about $3,600. Fletcher got them
reduced via an informal appeal to about $1,800.
Converted house
893 St. Clair was converted from a former four-bedroom house to a
duplex. Fletcher initially was going to convert it back to a
single-family house, but changed his mind. He left it as a duplex with a
two-bedroom flat upstairs and a one-bedroom flat downstairs.
Grosse Pointe, MI
Grosse Pointe, MI, is famous for being a wealthy community, but there
are actually different economic strata there. This is in a middle-class
neighborhood where houses were selling for about $125,000 when Fletcher
bought.
Upstairs rental
Fletcher and his new bride moved into the upstairs apartment shortly
after he bought it. They did much of the rehab themselves with help from
his sister, niece and nephew. After two years, they were ready to rent
the upstairs two-bedroom flat and moved into the downstairs apartment.
They got $600 a month and it was rented for one year leading up to the
1998 sale.
Owner pays heat
The building had a single steam heat system, so Fletcher had to pay the
heat for the tenant. I told him my book How to Manage Residential
Property. lists many submetering sytems for such situations.
New bathrooms and electric
Fletcher gutted all the bathrooms. I aske, "Why replace the tubs?" He
said he wanted to replace one standard five-foot tub with a four-foot
tub so he could put a linen closet and access panel behind the shower
valve. The tenant never complained about the short tub.
In general, you should avoid replacing bathroom fixtures unless
absolutely necessary. The rehab you want to do is surface coverings like
paint and carpet, not fixtures.See the rehab chapter in my book How to
Increase the Value of Real Estate for details.
Refinished the floors
Fletcher refinished both the downstairs and upstairs floors. In the
markets I have invested in, carpeting would generally be a better
choice.
He also moved walls, made oak woodwork to match the original woodwork,
painted the entire building inside and out, put up a chain link fence,
built a pond, planted ten trees, replaced the kitchens, finished the
basement, and replaced the lawn.
Murphy's Laws
I asked Fletcher if there were any surprises during the project. He
said, "I took longer than I thought and it cost more than I thought."
Those happen to be two of Murphy's lesser-known laws. His best known law
is that if anything can go wrong, it will and at the worst possible
time.
Speed = profit
Speaking more clinically, Fletcher needed to do a better job of
estimating and forecasting. This was his fourth rehab deal.
In any vacant-property real estate deal, time is of the essence. The
speed with which you get the space generating rent or sale proceeds
determines how much profit you make, or even whether you make any profit
at all. Three years is hardly the proper time to take to get two
apartments ready to rent.
No mortgage
Fletcher had no mortgage and therefore no mortgage payment. I once wrote
an article called "Positive cash flow makes you lazy." (I cannot sell
you the article because it was for a newsletter that I did not own.)
Positive cash flow generally comes from having an extraordinary
percentage of equity in a property. That was the case here. Fletcher's
equity percentage was 100%.
Fletcher was not lazy. He was working at a full-time job and going to
graduate school at night. An owner with a mortgage payment to make would
feel more pressure to contract out some of the work so the rent could
start coming in sooner.
Fletcher also did more things and to a higher standard than would be
justified strictly for profit. He gets a therapeutic, pride-of-ownership
benefit from the work.
Better off with a mortgage
In some deals, like new construction, I actually believe that investors
are better off getting a mortgage even if they have the cash to do
without a mortgage. In a construction situation, the construction loan
gets you the mechanics- and materialmens-lien-avoiding skills of the
construction lender. In Fletcher's deal, a mortgage would have served as
a monthly reminder that he needed to get his butt in gear and get this
place rented out.
Those of you who are in rehab need to go over your previous estimates
and see exactly where you made an error or omission so that you do not
make that error or omission on future projects. Furthermore, either get
a real mortgage or at least attribute some cost of funds to the amount
you have tied up in the building to remind yourself that time is money.
The apparent $89,000 profit Fletcher made in this deal needs to be
diminished by the opportunity cost of having $50,000 to $100,0000 tied
up in the property during the three-year rehab to get a more accurate
picture of his profit.
Did it himself
Fletcher and his wife did a ton of work on the property themselves. They
also had relatives helping them. This is a common patter among real
estate investors. Rehabbers typically comment about their wives
complaining about thhe time consumption and about exhaustion and no time
for anything else during the rehab.
I once wrote an article about various forms of what I call the "Binge
Strategy." Medical school is a form of binge strategy. Others include
going to work in some extreme location like Antarctica, the Middle East,
or an oil drilling rig where you get extra pay for the isolation and you
have few opportunities to spend the money. Real estate rehabs are often
binge strategies. Many high-tech startups operate on a binge basis.
Bingers work their butts off for long hours for months or years at a
time pursuing some pot of gold" at the end of the "rainbow."
A binge strategy might be appropriate for a single person over a couple
of years right after college, but I do not recommend it for married
people or for longer periods. Life is too short. Other things are too
important.
Resale
Fletcher sold the property as a for-sale-by-owner. He stuck a for-sale
sign on the property and instantly sold it to the next-door neighbor, a
"party" store. Fletcher explains that "party" store is a Michigan term
for a combination liquor store and deli. OK. Here in California a party
store is where you buy funny hats, pinatas, paper plates and cups, and
so forth.
Fletcher said the party store owner needed his property to increase his
parking.
Like my first property
This is extremely similar to my first property. I bought a duplex which
was a converted 2 1/2-story house, rehabbed it, and put a for-sale sign
on the lawn. It instantly sold to a man who claimed he wanted it for
himself but, oddly, did not want to inspect the inside.
I later learned he was fronting for a savings and loan whose property
adjoined my property. They needed my property in order to have room for
a drive-through window. Unlike Fletcher, I stupidly listed the property
with the agency that I worked for at the time. The agent who got the
selling commmission did not even have to show it!
I never made that mistake again. Before I list them with an agent, I
always try to sell properties myself to make sure there are no easy
sales out there, like to a neighbor.
Income taxes
When Fletcher sold, he paid taxes on the upper apartment and excluded
the gain on the lower by using the $500,000 homeowners exemption
(married filing jointly). So he appears to be following the serial
homeowenr strategy at least in part.
He bought another rental property so he could have, and should have,
used an exchange on the upper unit to make the whole deal tax-free.
'You'll never get $189,000'
The agent who sold Fletcher, Shirley Kennedy, wanted the listing on the
resale. She told him, "You'll never get $189,000 for that house." It
closed on 8/10/98 for $189,000. Fletcher paid no commission.
Combination strategy
In the beef industry, they pride themselves on selling everything but
the "moo." That's a good policy for real estate investors as well.
Indeed, the more successful investors I interview, the more I hear such
combination strategies.
In this deal, Fletcher bought a neglected property. See the "Cosmetic
renovation" chapter of my book How to Increase the Value of Real Estate.
It was uninhabitable. See the "Condemned property" chapter in my book
How to Buy Real Estate for at Least 20% Below Market Value. It was a
probate. See the "Probate" chapter in that same book. He appealed the
property taxes. See the "Property taxes" chapter in my book How to
Manage Residential Property for Maximum Cash Flow and Resale Value.
He should have read about exchanging in my Aggressive Tax Avoidance for
Real Estate Investors and my How to Do a Delayed Exchange books. |
