Condado, San Juan - Buy or Rent?

The answer to this questions always depends on the terms of financing and the purchase price of the underlying asset. If you are able to buy a property for less than the cost to build new (replacement cost) financed by a relatively low interest rate, it is probably better to buy than to rent. The worst case scenario in this case is that you have to rent in the event of a move. For example, let's say that properties are yielding 6-8% net returns on average. Any interest rate less than 6% will do the trick. This is not always the case but given the price points to buy and rent are so low all over the island it makes sense in many cases. Of course, it does not make sense in all cases. There are many high rise apartments and houses that are ridiculously priced with outrageous rents but these are the exception and not the rule. The deals are out there if you look for them. An example below helps illustrate the point.

The following is a 1 bedroom, 1 bath condo located in the heart of Condado. It's across the street from the Marriott hotel and generally thought of as being in the heart of Condado. The asking price is $170,000 and the rent estimate is $800-900 per month (We will use $850 per month for our analysis). At current fixed mortgage rates, one can secure a loan for around 4% amortized for 30 years.

The numbers play out as follows:

		Units
Purchase Price (USD)	170,000	USD
Monthly Rent	850	USD
Taxes	2,550	USD
Insurance	1,700	USD
Management Fees	1020	USD
Annual Gross Income	10200	USD
Annual Net Income	4930	USD
Annual Net Cash on Cash Return	2.90	%

As you can see the return here is only 2.9% and we haven't even accounted for the common area fee. This does not meet our hurdle requirement of 4% return. 

We are talking about a cash on cash return and we have not built in leverage. Depending on the downpayment of 0-20%, you may be able to increase your return on equity and meet the 4% hurdle. A quick and dirty calculation just for the sake of discussion as follows (not including tax benefits from interest rate deduction, repairs, etc):

Downpayment of 20%	34,000	USD
Annual Interest Rate	4	%
Gross Return on Equity	14.5	%
Net Return on Equity	10.5	%

After plugging the numbers into a more complex model to include vacancy, repairs, interest expense, depreciation, and tax benefits the number comes out to be 13.96% net return on equity (ROE). Please comment or email me privately and I will share the model with you. 

As you can see in this scenario, leverage is your friend. With a leveraged property, you can afford to rent it out and meet your hurdle of 4%. On a cash basis, it doesn't make sense mathematically. 

We didn't discuss the price to build but in this case the cost is $170,000/800 square ft = $212.50 per square ft. This is relatively cheap for the area but keep in mind you can build for between $80-120 per square foot depending on the design of the property. The real value is in the land. Where would one find land this close to the beach and the heart of the city in the mainland USA? Does the property have appreciation potential? Will rents go up? These are questions you have to repeatedly ask yourself like a broken record given the changing economic landscape.

The above exercise was simplified to make it easier for a lay person to understand. Anyone seeking a more elaborate explanation or model can email me directly with questions. To be continued.