When you walk into the back apartment of the tan duplex on the west side of Pocatello, Idaho, the first thing that hits you is the smell: an acrid mixture of stale cigarettes, pet odors and filthy carpet infused with God-knows-what. Two strips of flypaper hang from the ceiling, dotted with prey. In the kitchen is an ancient gas-fired heater that, despite frigid Idaho winters, hasn't worked in over a year. The tenants, Will and Rose, seem unbothered by their home's shabby condition. Will, 22, stands in the living room, playing songs on a huge stereo, while Rose, 21, tends to their 1-year-old son. Will does have one complaint, however. The couple, unemployed and living on government disability checks, has fallen behind on their $365 monthly rent. Their landlord, Will says, is being a little hard-nosed about it. As a NEWSWEEK reporter I've heard no shortage of sad housing tales in the past few years; ordinarily I nod sympathetically and take notes. But my role here is more complicated. Though I've just met Will and Rose, and this is my first visit to their apartment, the landlord to whom they owe the back rent is me.
As America copes with a painful hangover from a decade-long real-estate orgy, I'm dealing with a headache of my own. Four years ago, at the height of the boom, I visited Pocatello to write a story for NEWSWEEK about how out-of-state investors had begun buying cheap rental properties there, drawn by ultralow sales prices and a solid rental market. (At the time, the average Pocatello home sold for just $98,000.) A year later, while writing a book about the housing boom, I decided to dive in myself. In late 2006, after seeing only e-mailed photos, an appraisal and an inspection report, I paid $62,750 for a two-unit rental property in Pocatello, which is 2,450 miles from my Massachusetts home. I didn't expect to get rich; my main motivation was to have a good story for the book. By that measure, the deal was a success; when House Lust came out in 2008, the chapter in which I described my early misadventures as a property magnate (an early tenant went to jail; my first property manager made off with $1,300) helped fuel reviews and interviews. But now, long after the buzz over the book has died down, I'm stuck with a house in Idaho—and friends who call me a long-distance slumlord.
In an economy that's awash with underwater homeowners and families facing foreclosure, my situation is hardly dire. Thanks to an energetic local property manager, my two apartments have never been vacant. Many months the combined rent of $690 covers the $503 mortgage payment and other expenses. Still, I'm frequently hit with repair bills (a broken stove, a leaking underground water line) that send me into the red. And even after the tax write-offs, my costs have exceeded the rental income by more than $2,500 since I purchased it.
While that's a small loss, I worry the red ink could keep growing. Local vacancy rates have been rising, and if one of my apartments falls empty, rerenting it may be difficult. Property values in Pocatello haven't plunged like they have in Nevada or Florida, but the credit crunch has drastically reduced demand for investment properties like mine. As a result, my Idaho duplex has a lot in common with the il-liquid securities languishing on bank balance sheets. Lately, I've come to think of it as my own toxic asset. So I decided to finally see it for myself—and to figure out what to do about it.
Located in southeastern Idaho, Pocatello is a former railroad hub that's today home to 54,000 people and to Idaho State University, which has an enrollment of 14,000. Relative to other places, says Mayor Roger Chase, the city is weathering the recession well. The unemployment rate is only 5.4 percent, and lately alternative-energy companies have begun expanding locally, which should bring an influx of "green jobs." Still, beneath the buoyant statistics lies a large low-income population. "When I grew up in Pocatello, you could not read or write and still get a job at the railroad making $50,000 or $60,000 a year," Chase says. Not anymore: today there's enough poverty in Pocatello that local food banks are often empty due to high demand.
While that's a problem for Mayor Chase, these down-and-out folks are my potential tenants. That's evident as I pull onto a busy one-way street and begin scanning the houses in search of mine. I recognize it by the twin satellite dishes hanging off one corner. On the front porch I meet Bill, who's 66 and has lived with his companion, Sarah, in the front unit of my building for 15 years. Supported by Social Security, they are ideal tenants: never late with a payment, unlikely to move, and when something breaks, Bill often just fixes it himself. Bill wears a T shirt, jeans and an Idaho Fish and Game hat; Sarah, who is in her mid-70s and wears a housecoat, sits on a battered couch on the front porch and repeatedly asks who I am.
The outside of the vinyl-sided house looks the same as in photos, and aside from the peeling paint on the window frames, there are no obvious defects. The roof looks solid. The neighborhood exceeds my expectations; some nearby houses are in good repair. Inside, however, this house is a pit. The floor in Bill and Sarah's apartment feels spongy—the result, Bill says, of previous owners laying new carpets without removing the old ones. In the kitchen, the linoleum is horribly worn. Bugs scurry in the corners. In the bathroom, there's a hole drilled in one corner of the floor. Bill says he put it there so that when the toilet overflows, water can drain into the crawl space below.
Even if this place had "good bones"—and it doesn't—they'd be hidden beneath clutter. The living-room furniture appears scavenged; strangely, the room is equipped with four televisions. (Bill likes to find and repair old TVs.) By the front door are several dressers filled with tools, which Bill uses to maintain the place. Taped to the front of one bureau are four postcard-size pornographic photos. I point at them and raise an eyebrow. "What, don't you like naked ladies?" Bill asks. The other unit, where Will and Rose live, is slightly cleaner, but its state of disrepair is the same.
The conditions don't entirely surprise me, since I'd seen photos before I signed the contract. The pictures, however, didn't fully convey the seediness of the place—nor had I given much thought to the financial hardships facing its occupants. Bill, a thrice-divorced Vietnam veteran who worked in a copper mine before retiring, has just four teeth—he opens wide to show them to me, bragging how he removed most of the rest himself with pliers. Will's cell phone and satellite TV have been disconnected for lack of payment, and it's possible that the apartment's heater isn't working because the gas company shut off service because of unpaid bills. (They got through the winter using a small electric space heater.) While they have a few -luxuries—Bill has a 33-year-old Chevy camper and a satellite dish that gets 250 channels; Will has a $380 Sony PlayStation 3—there's clearly little slack in their finances.
My reaction to seeing my property and my tenants for the first time is common among out-of-state landlords who've visited their property. "When somebody is paying $300 a month in rent, in general they aren't the Rothschilds," says a 47-year-old Los Angeles schoolteacher who visited his own Pocatello duplex for the first time in December. "You're getting somebody who that's all they can afford." Although he'd seen photos of his property before he purchased it, this investor—who declined to be named because he's embarrassed to have made such a "boneheaded" investment—was surprised by its poor condition, citing holes in the walls, an awkward layout and general dinginess. "It was an eye-opener," he says.
After touring my duplex with my property manager, Ryan Olsen, we promise the tenants we'll fix the heater and hire an exterminator. Bill also complains about the worn carpeting and linoleum, and asks me to replace it. I'm noncommittal. Afterward, I walk Olsen to his truck. He tells me that five of the 60 local apartments he's managing are now vacant, and he's seeing more signs of economic distress. "I've gone from chasing five or six tenants a month [for rent money] to chasing 15," he says—including Will, whom he's been pressuring to find work and catch up on the rent. If Will and Rose move out—they've talked of moving to a trailer home with a separate bedroom for their son—Olsen estimates I'll need to spend $800 to clean, repaint and recarpet their unit before he could rerent it, draining more profits. What about Bill's request for new carpeting and linoleum? Skip it, Olsen says. The tenants aren't going to move if I don't replace it, and newer carpet won't let us increase their rent. It would be a bad investment.
Finally, I ask him the question that's brought me 2,450 miles: what's the place worth? If I needed to sell it today, he says, he'd suggest listing it at $50,000. That's less than the $55,000 I currently owe on the mortgage—and if I sold at that price, after commissions I'd suffer an $18,000 loss. It's not the answer I'd hoped to hear.
Olsen, thankfully, is a property manager, not a real-estate agent. So the next morning, I set out to find a more authoritative—and hopefully, higher—appraisal. Realtor Greg Johnston, a six-foot-six 31-year-old, is one of the city's most active agents. Johnston first showed me around Pocatello in 2005; the following year he sold me the duplex. As we sit in his Main Street office, he consults a chart of local housing data.
By most measures, Pocatello's market is holding up well. Its average home price fell less than 1 percent in 2008, far less than the national average. That resiliency is largely due to its tepid growth during the boom years: prices in Pocatello only rose by an average of 6 percent between 2000 and 2006. Johnston says most boom-era investors are doing just fine. "The people who were stretching or got in over their heads [with multiple properties], they're the ones who are in trouble right now," Johnston says.
Still, that doesn't mean buyers would line up to buy my house. The main problem: lack of financing. Since the credit crisis broke, lenders have radically altered how they underwrite mortgages for investment properties. When I bought my property in 2006, I put 10 percent down (including closing costs, I paid about $7,500) and was charged an interest rate only slightly higher than the rate on my primary residence. Today, banks require a down payment of 20 or 30 percent, and rates for investment properties are far higher. As a result, the market for investment properties "is almost nonexistent," says Ryan Ward, senior VP at Pocatello's Citizens Community Bank. "You might get a phone call [from a prospective buyer], but once they hear the rate it's 'OK, we're not going to waste our time'." Johnston cites numbers showing the decline: in 2006, when I bought my property, 116 multi-unit properties changed hands, but in 2008 only 47 sold.
I ask Johnston what I could sell my property for today. He suggests listing it at $74,900—nearly 20 percent more than I'd paid for it. I'm skeptical. He explains his rationale: rents on my property have risen since I bought it, and it would still be one of the cheapest multifamilies on the market. "You have no competition when you get into that price range," he says. Still, he says I'd be smarter to hold onto it, since demand should get stronger as credit markets calm.
His assessment seems extremely optimistic, but as I ask around town, other pros suggest I'm not in as bad shape as I'd assumed. Unlike speculators who were intent on flipping properties in Miami or Phoenix, nearly everyone who invested in Pocatello was focused on "cash flow": renting the property for more than its carrying costs and hoping the property appreciates over time. While there have been some foreclosures, they've often been caused by divorce, a bad business partnership or other circumstances unrelated to the housing bust. "Clients I sold to who bought and held, nobody has lost money," says broker Todd Bohn. "If they'd put that money in the stock market, they'd be stuck." Like my property manager, Bohn figures if I was forced to sell quickly, I'd take a big loss. However, he outlines a scheme in which I could offer financing to a prospective buyer and conceivably ask $75,000 for it. Paul Smith, who's been appraising Pocatello homes for 46 years, agrees with the brokers that prices here have hardly dipped and offers reassurance. "You might have experienced a little decline from what you paid for it, but if you're in no hurry to sell it, you're going to get it back," he says.
The next morning at 6:30 I'm at Lowe's, haggling over the price of carpet remnants. By 7 a.m. I'm securing 12-foot rolls of carpet and linoleum to the top of a rented Hyundai. At 10 a.m. I knock on the door of my property. Dogs bark, and after a few minutes Bill comes to the door, rubbing his eyes. "Didn't I tell you I'd be here?" I ask. Yes, he says, but for years land--lords had making promises they didn't keep, so he didn't expect me to show up. After he dresses, we haul the flooring onto the porch.
Financially speaking, this $213 purchase is pure stupidity: it doesn't add to the property value and will hurt this month's cash flow. But it seems a small price to pay to improve the life of a rock-solid, longtime tenant—and, of course, to assuage my guilt over owning such a run-down property. My discomfort grows stronger as I spend the morning with Bill, Sarah, Will and Rose. It's easier being a landlord from 2,450 miles away, delegating to my property manager all the tough decisions about rent increases, late-payment penalties and potential evictions, and relating to the tenants only as faceless names on leases.
Standing in Will and Rose's living room, I hold their baby as Will plays the song they'll dance to at their wedding this summer. Standing on the front lawn, Bill outlines all the time and expense he's put into repairs over 15 years—and subtly suggests that, on the basis of this sweat equity, he should be the owner by now. (Before my visit I'd actually thought about trying to sell the place to Bill, particularly in light of the current $8,000 tax credit for first-time home buyers, but this idea ended when he said he thought the place was only worth $40,000 or so; he also lacks a down payment.) I change the subject and ask him why he's stayed here so long. He shrugs. "It's home," he says.
Taking a final look around, I can't help but compare the dingy bathrooms to mine at home, with dual sinks in a granite counter and a deep whirlpool tub. Earlier I'd joked to a friend that my visit to Pocatello felt a bit like Robert Kennedy's tour of impoverished Appalachia. But after watching Will and Rose's son crawl across the foul carpet, I'm reminded instead of a JFK quote: life is unfair.
As I drive out of Pocatello, I'm still not exactly sure what my property is worth. I am relieved that, for the moment, it seems a less disastrous purchase than so many made during a decade of speculation. I still hope to make money here, but I'm more aware that no matter how much I try to be the benevolent landlord, my profits are based partly on exploitation; what I've thought of as "cash flow" comes by allowing some discomfort in the lives of others. Having met Will and Rose, I hope they can move into a trailer-park home with a separate bedroom for their son—but as a landlord, I have to hope they get caught up on their rent and stay right where they are, sending their checks to me. Likewise, I hope Bill keeps on making minor repairs that are really my responsibility. And when these current tenants move out, I'll be relying on Ryan Olsen to find another set whose lack of savings, poor credit or crummy jobs prevent them from living someplace nicer. It's a set of concerns I gave little thought to back at the height of the property boom. But this deal, like so many can't-miss propositions struck in better times, is turning out to be more complicated than I'd imagined.