Gold and stocks were long considered to be the most solid and lasting investments. Today more Americans lean towards real estate, and with the 34 and under age group choosing to rent instead of buy, apartment buildings, condominiums and student housing can be lucrative investments.
As with any real estate transaction due diligence is important, but more money is at stake when purchasing multifamily real estate than when purchasing a single family home. Mistakes are all the more costly, both short and long term.
That being said, whether you are purchasing 6 units or 60 you should look at them all. Yes, all. Knowing the condition of each unit will circumvent many surprises. Look around. Did the listing indicate “new A/C” or “new A/C in all units”? Do the tenants treat their units with pride, or do they trash them? Take a few moments to ask a sampling of tenants questions about how happy they are living there. What would they improve upon? If it’s a large building, you can also check Yelp to get an idea of what the tenants are saying. Another factor is location. Carefully scrutinize the location of the property you are considering purchasing. Will it be challenging to retain tenants in the long-term?
Finally, do not ever take a seller’s financials for granted. Don’t do it. Double-check the taxes with the county. Review each lease to make sure it matches the rent roll. Request copies of utility bills. Price out the insurance with your carrier. You will be happier with the purchase in the long run for having spent the extra time up front.
How Do I Pay For It?
While properties with up to four units will have a mortgage process similar to that of obtaining a loan for a single-family home, properties with more than four units are considered commercial and utilize a different type of loan process.
When looking at a multifamily investment keep in mind that a vacant building is seen as a greater risk by the lender, due to concern that vacant units will remain that way. A property with a high ratio of tenants is not only seen as less of a risk but rental income will be used to help you qualify for the commercial mortgage. Getting the existing rental agreements in hand before approaching the lender will help solidify this piece of the process.
Note: these 5 key elements you will need in order to obtain a commercial mortgage:
This is partially a subjective call as to whether or not you are sufficiently trustworthy to repay the loan. What is your educational background and business experience? Is your credit history solid? The information from each reporting agency will vary a bit but this still paints an overall picture of how past credit extensions have been managed. While your character is used to determine the level of risk the lender will be taking in granting you the loan, each lender has its own criteria and this is just one of the 5.
Do you have enough cash flow to handle the debt? Can you comfortably manage your payments? The lenders will look for stability with your past and current income and additionally your debt-to-income ratio will be evaluated. For example, if you will be hiring a property manager, this will be taken into consideration as part of your expenses.
The loan is secured by the value of the property you are purchasing. The condition, location, occupancy percentage and income producing potential will all be taken into consideration during the valuation.
Your income will be looked at as the primary source of loan repayment; your net worth will be taken into consideration as well. Do you have the required down payment and cash on hand for closing costs and fees? How about post close – do you have sufficient liquidity for 6-12 months of principal and interest payments? Savings, investments and any other assets that can help repay the loan will be in your favor when the lender is evaluating risk. Think sudden illness or job loss.
How do you plan to use the money? Other factors, such as environmental and economic conditions, will also be considered. In 2020, we were hit with the unexpected COVID pandemic. Make sure to check out our take on the environment here
To Be or Not To Be a Landlord
You found the right property, negotiated through the land of finance and now you are a landlord. Managing a multifamily property involves lots of attention to detail.
For example, it’s best to require that your tenants have renter’s insurance. As for your own insurance, make sure your new property is protected for vandalism caused by the tenant, that you have insurance that covers you for fair rental loss and you have adequate limits of liability.
What about repairs?
Are you a procrastinator at heart? When a minor repair is required in your own home, do you ignore it for as long as possible? As a landlord, you will need to address even minor repairs with a sense of urgency. If the thought of timely repairs, rent collection and background checks don’t make your heart sing, it may be best to hire a property management company. They will keep an eye on your property and handle the many day-to-day tasks that some find less than enjoyable. For example, a property manager knows what turns renters away and will suggest any cosmetic repairs that could delay obtaining a renter at the highest price.
And speaking of price, they will vet out the most competitive rental rate. A manager knows the market and has access to comparables. If your property is priced too high, you risk going without income and too low simply means you are losing money every month.
A property manager is well versed in how to market your property. They know what to say and where advertise in order to generate the largest amount of candidates for your new investment. In addition to everything else, they are sales people and know how to close the deal when the right candidate shows interest. How do they define the right candidate? A property manager is practiced and skillful at tenant screening. Getting the right tenant in is key. Getting a bad tenant out once they are in is a huge headache. A professional screening process identifies tenants that pay on time, rent longer and overall place less wear and tear on the property.
Your property manager will also handle:
- Security deposits
- Lease addendums
- Rent collection
A management company that is competent and trustworthy will help you maximize profit and minimize headaches. Additionally, you will have more time to spend doing things you enjoy.
So whether you are buying a building with multiple units and planning to call one of them home or your new property is strictly an investment, with a good interest rate and affordable monthly payments, a multifamily property can be a lucrative investment.
Updated July, 2020