There I was. Looking into the eyes of a distraught friend. As he relayed his current financial woes, I couldn’t help but feel sorry for him. He had conveyed that he was duped into believing that a non owner managed single unit real estate investment in a underdeveloped urban area would be a wise investment. He asked my advice on the matter and I instructed him to sell his portion at any cost (even at a loss)

I was utterly shocked when I heard the price he paid for this property. The real estate broker/owner tricked him into believing the property was much more valuable than it’s true value. He led my friend into believing this investment would produce large returns. He took advantage of his ignorance in this matter. I assumed my friend was unique and that I wouldn’t hear the same issue arise from others. I was wrong.

Being that I have been in the business for over 30 years, people generally confide in me and ask advice on real estate. I started hearing this same story however this time from a Yungerman in kollel, a Frum family from Lakewood, a father borrowing from Gemachim, a young married couple looking to invest their wedding money.

This is the reason that I decided to write to YWN. I want to raise awareness to the following items that must be taken into consideration before making these types of investments.

Negative Factors Concerning Investing in Single family Homes in minority neighborhoods in the US

Why will most banks in the US not give a mortgage on ANY single family home that is not owner occupied? Why do all banks require borrowers to sign a document that the buyer of the house himself lives in the house? The answer is because in general, single family homes are risky as an investment property. Often, the house income will not be able to pay the expenses (taxes, water, repair, and heating system maintenance) even without any mortgage on the property. And that is if there is a reliable, good tenant. The vacancy factor is the key risk factor in a single family home investment. Israel does not have a vacancy factor. As a result many people in Israel have been fooled into buying single family homes in the U.S. as an investment.

In the U.S. the value of a single family home traditionally goes up very slowly, as there is so much land and it is not expensive to build. However, home prices can drop dramatically if banks get concerned about lending; if there is no available financing, housing prices drop very quickly. In areas where there has been a price drop, houses can sell for as little as $10,000, with neighborhood values changing sharply within a few small streets. An overseas buyer stands little chance of assessing true value without being on location.

There is relatively little lending to owner occupied housing in minority neighborhoods. The government has tried to force banks to lend in such neighborhoods. A very high percentage of minorities have poor credit. If buyers cannot get a mortgage, the other option is to buy for all cash. Buyers with poor credit tend to not have too much cash on hand. This is why the prices in minority neighborhoods are usually less than half price of houses in middle income neighborhoods.  The hidden vacancy factor is far greater for a minority home than a home in a better neighborhood.

Often, the only way to rent a house in a minority neighborhood is by renting it to a minority tenant. These tenants will rarely pay more than $700 – $800 per month rent. It is not at all uncommon that tenants stop paying the rent altogether and need to be evicted. This is especially common in areas with many vacancies such as Ohio, Michigan, Buffalo NY, Chicago, Tennessee, etc. These are the primary areas that are being sold to unwitting Israeli investors.

Generally landlords don’t begin the eviction proceedings until a month to six weeks have passed without payment. If the lawyer moves quickly, the eviction itself takes about another 4-6 weeks and in some areas cost up to $800 or more for the lawyer and another $500 to the marshal to execute the eviction. Given the above amounts, at a $700 monthly rental, landlord will have a loss close to $3000 at the end of the eviction process, and this only when the landlord has someone that is making sure that the eviction goes quickly. Generally the loss is $4000 or more. Even in a case when a tenant vacates without being evicted, minority tenants always stop paying rent months before they actually vacate. Always.

Once the tenant leaves, more money is required to prepare the house for the next tenant. It is never possible to rent without first putting in money for repairs. Single people or couples generally don’t rent houses as they cost more to maintain. Usually houses are rented by families with children, and damage does occur. Statistically, minorities move once every 14 months!  An overseas investor is at the mercy of the manager to get the repairs done.  Every month lost is more loss of income.

In general the minimum cost for repairs of a vacated house is $2500-$4500, upon finding an inexpensive contractor. The repairs can take two or three weeks to commence and complete if someone is overlooking the job, and the contractor is found on short notice and ready to begin immediately. After all this, it takes another 2-3 weeks to find another tenant, who needs to be interviewed. Generally they don’t move in right away, and rent won’t be paid for at least another 2-3 weeks.  A landlord can expect a rent loss of a minimum of $2800.  Add to that $3000 for repairs and a possible $1,200 in legal fees brings the total to roughly $7,000. These figures are only if the landlord is really on top of the whole procedure. Many minority tenants are not very concerned with eviction, or leaving while owing rent, or leaving the house in terrible disrepair. Most important, how is it possible to have someone responsibly spend your money to do all this? How do you know that he cares about your money? Often, a manager will have his own repair team which he will hire, and neglect to tell the investor that he has hired himself for repairs.

At an average, unless the house is new, at least one major repair, costing between $1000 and $3000, is required per year. These repairs many times involve the heating and cooling system in the house. No tenant will pay rent if the heating system does not work. Heating systems are complicated and expensive. Painting a rented house is needed every 3 years at a rough cost of $2,500. Real estate taxes and water costs average $5500 for the year. The tenants have no incentive to save water costs. If the tenants have access to the thermostat, then when they leave, they leave an open fuel and electric bill for the landlord to pay. This can be thousands of dollars. Even without an eviction, a simple change of tenant will also result in loss of rent, turn over cost, and down time until someone new moves in. Many minorities take the landlord’s appliances with them when they move. At least this has been my experience, and the experiences of my colleagues.The above figures do not include a management fee. The average yearly costs for a non owner managed single family home in a minority area considering the vacancy factor, is at the very least $10,000 per year, and usually much more.

Taxes/water                $5500

Repairs                        $1500

Bad Debt                     $1400

Turn over repair cost  $2500

Turnover down time   $1400

Downtime while looking

         for new tenant   $  700

Management fee        $  600

Insurance                    $2500

                                   $18,100

These figures do not include a cost for appliances, painting every 3 years, and the costs of an eviction if needed. A monthly rental income of $700 yields $8400 total. Do the math.

Homes in the US are constructed of wood, and they are highly flammable. Homes in minority areas are prone to fires, especially if they become vacant. Additionally, minorities are known for “getting hurt ” and suing the landlord. The tenant’s lawyer is free, as the lawyer takes a percentage of the settlement. Without insurance they take the house. This adds another yearly expense to the investment. Most important, if the person presenting the investment does not mention the cost of insurance, worry a lot about what else he is not telling you.

An easy way to know if a real estate investment is being presented honestly is whether or not the seller tells the investor about the vacancy factor, which is the single biggest expense, and the expense that is easiest to hide. (This information is especially important for an investor from a country which has no vacancy factor.)

Houses in middle income neighborhoods have substantially less expenses and down time but it’s not politically correct to state this. Houses in good areas can often be good investments, not from an income point of view, but if they are bought wisely, right before a sharp rise in property value. These middle income neighborhood statistics are the statistics shown to Israeli investors. Additionally, if an individual buys on the cheap, and is totally hands on, it is actually possible to make a small amount of money, if you buy really cheap and are willing to invest the time needed to make it work.

Since a non owner managed  single family home in a minority area is a poor investment from an income standpoint, there are practically no investors to buy these homes. As a result, they can only be sold vacant and unoccupied to people who intend to live in them. This means that the seller needs to fix the house and maintain the house vacant until sold. Vacant homes in minority areas are very often vandalized within weeks of being vacant. Vandals break the walls floors and ceilings to steal the copper piping inside the walls, completely trashing the kitchens and bathrooms. They steal fixtures, and often damage for the fun. Sometimes homeless people move in. Besides the costs of a lawyer and broker, a contract of sale is usually for the duration of 60 days. (A house for sale in a minority area takes an average of 5 months on the market to sell. During this entire period the house must remain vacant. The contracts have a mortgage clause that the seller must maintain the house during this period, and that in the event the buyer cannot get a mortgage the sale is void and the buyer gets back his deposit forcing the owner to pay his lawyer, and put the vacant house back on the market.)

Section 8 The government has a program in which they pay for a portion of the tenants’ rent called section 8. The rents are always more than the going rental rate. These tenants are low income tenants and are very low quality people, almost always unemployed and on welfare. They often damage property, and often there is violence. The government requires that the section 8 housing be in perfect condition; if there is even a crack in the paint, or a drip in the faucet, the government stops paying their rent. You can see these rules and requirements online. Before the rent will be resumed, the inspectors need to return and inspect the house again. If they find anything else wrong they will not resume paying the rent. In some places, there are restrictions on evicting section 8 tenants whose homes are not first fixed to the government standard thereby allowing tenants to live there rent free!! Someone has to meet the inspectors and many a time the tenant will not let contractors in the house to even do the repairs.

I have this article translated in Hebrew. Anyone that wants a copy of the Hebrew version, or anyone that knows someone who has been duped should  contact me, as a Din torah may be getting underway in Israel:  [email protected]