The 5% Cap Rate Trap
A turnkey duplex looks great at 6% cap rate — until you add property management. With PM, it drops to 5%. Do you buy, pass, or lowball?
You find a turnkey duplex listed at $310,000 in a B+ neighborhood. Both units are occupied — good tenants, no deferred maintenance. Gross rent: $2,600/month. The seller's proforma shows monthly expenses of $1,050 (taxes, insurance, repairs reserve, vacancy). That puts your NOI at $18,600/year and your cap rate at 6.0%. Not spectacular, but solid for a turnkey deal in this market.
Then you run the numbers yourself. The seller's expense sheet doesn't include property management — because they self-managed for 11 years. You plan to self-manage too, at least for now. But you've read enough to know: what happens when you scale to 3, 5, 10 units? You won't be fixing toilets at midnight forever. Adding a 10% PM fee ($260/month) drops your NOI to $15,480 and your cap rate to 5.0%. The "solid" deal just got thin.
Buy it at asking price — self-manage at the 6% cap. You'll cross the PM bridge when you get there.
Pass entirely — always underwrite with PM costs, even if you plan to self-manage. A 5% cap doesn't clear your hurdle rate.
Offer $260,000 — the price that makes the deal work at 5.95% cap WITH property management baked in.
Martin's Take
Option B is the right framework, but Option C is the right action.
Here's the thing about self-managing: it's not free. You're trading your time for that 10% PM fee. When you run a deal at 6% cap because "I'll just manage it myself," you're not running a better deal — you're hiding a cost. And hidden costs have a way of showing up at the worst possible moment. Like when you get a job transfer. Or buy property #4. Or just get tired of 3 AM toilet calls from a duplex that earns you $18,600 a year.
The underwriting rule is simple. Always include 8-10% property management in your expense projections. If the deal still works with PM fees baked in, you've got a real asset. If it only works because you're donating your weekends to it, you've got an expensive part-time job.
Now, does that mean you pass on this duplex? Not necessarily.
Option C is where the money is. The seller listed at $310,000 based on their expenses — which don't include PM because they never paid it. You're not being unfair by offering $260,000. You're being accurate. Your offer reflects the actual operating cost for a professional investor who wants a scalable portfolio, not a second job.
At $260,000 with PM included, your cap rate comes back to ~5.95% — right where the seller's proforma originally had it. You're not lowballing. You're adjusting for reality.
Will the seller take $260K? Maybe not. Maybe they get full price from someone who plans to self-manage and hasn't thought three properties ahead. That's fine — there will be another duplex next month.
The real question isn't "can I afford this deal?" It's "does this deal still work when I stop being the cheapest employee in my own portfolio?"
Run every deal through that filter. Your future self — the one managing 10 doors from a beach somewhere — will thank you. And if you want to see how cash-on-cash return shifts when you toggle PM on and off, the math is worth understanding deeply.
- Always underwrite rental deals with property management costs — even if you self-manage today
- A 1% cap rate swing on a $310,000 property costs you $3,100 per year in real cash flow
- The right offer price is the one where YOUR numbers work, not the seller's proforma
- Self-management is a job, not a savings — price it at 8-10% of gross rent when analyzing deals
