Maybe you’re already aware of the benefits of investing in real estate, the tax benefits and opportunities for appreciation make it a great way to diversify your investment portfolio. Many investors start out investing in single family homes because it feels safer than investing in a large apartment building. However, investing in multifamily doesn’t have to be complicated and there are a number of benefits that make it more appealing than single family.
As always, this post is not intended to be investment or tax advice or advertisement for any specific investment. Always do your own due diligence and consult with your personal finance professionals.
But what exactly is multifamily real estate investing? A multifamily property is any property that contains two or more housing units. This could be anything from a duplex to a large apartment complex.
Benefits of Multifamily Investing
When compared to single family homes, multifamily assets have a number of enticing benefits.
- More Stable Cash Flow: When compared to a single family investment, multifamily offers more stable and predictable cashflow. The impact of a vacancy is offset by all of your other tenants. Multifamily properties also have the ability to generate other streams of income such as from storage, parking or laundry. These investments represent an innovative opportunity to generate additional income from one investment.
- More Control Over Value: Multifamily properties are valued very differently when compared to single family. Single family investments are valued based on sales comps, so the value is dependent upon market demand for the past several months. Multifamily, however, is valued like a business, based off of the net operating income of the property. This means that an investor has the ability to control the value of the property by increasing the net operating income.
- Continued Demand for Rentals: Demographic trends suggest not only ever increasing demand for rentals but also a limited supply. For a number of reasons younger generations are opting out of home ownership and are indicating a preference toward renting. Coupled with the fact that the supply of housing units has not kept pace with demand over the past decade means we anticipate strong demand for many years to come. Of course this is market specific, so make sure you understand the population trends in your specific area.
- Economies of Scale: Believe it or not, its easier to manage an apartment building with 100 units than it is to manage 100 single family homes. When your units are centrally located its much easier to manage than running around to manage scattered properties. A large apartment building should be generating enough income to support onsite maintenance and property management as well which can help streamline operations and ensure then best experience for residents.
- Tax Benefits: Like with other types of real estate investments, multifamily real estate can offer a number of tax benefits, allowing you to create passive income and generational wealth.
- Easier to Finance: This may seem crazy but hear me out! When you’re purchasing a single family home as an investment, your personal credit and balance sheet are used to determine if you qualify for the loan. Generally most lenders will not factor potential rental income into the equation when determining if you qualify for the loan. In contrast, a multifamily property (more than 4 units) is evaluated like a business – which means that lenders are evaluating the income of the property itself to determining the loan amount and terms.
What To Look For When Investing In Multifamily Properties
Multifamily investments require much more due diligence in comparison to investing in a single family property. You are essentially purchasing an income generating business. You are not only evaluating the physical aspects of the property, you must also consider the financial stability or opportunity to generate income. Here are a few general things to start with when evaluating these investments. Of course there are many more…entire books have been written on the topic!
- Location: Investors should look for areas where properties are strategically located. This means you need to understand the overall market, the demand for rentals in the area and the stability and health of the job market. Additional data points to consider include: median income, flood zones, school districts, landlord/tenant laws, insurance and tax rates Understand key data points such as population growth, median income, job growth and job diversity as well as planned developments . Also determine the specific submarket of your investment and the asset class of your specific asset. For example its not a great idea to be an “A” class asset in a C/D neighborhood. On the flip side, there could be tremendous potential buying a C class asset in an A class area.
- Costs and Potential Income: A multifamily property is a business, therefore when evaluating the merits of the investment its important to understand the costs as well as the income potential of the property. Let’s break it down a little bit further:
- Potential Income: Determine whether the property is currently bringing in “market rents” and if it isn’t, what is required to bring rents to market. Often repairs or upgrades need to be made in order to justify rent increases; this type of investment is commonly referred to as a “value add.”
- Costs: Understand how the property currently operates and if there is an opportunity to reduce expenses by being more efficient or implementing cost saving measures. Some costs such as taxes or insurance can significantly impact the health of the deal, and these numbers may be very different than what the current owner is paying, so be sure to factor that into your analysis.
- Partner or Operator: Again, because this type of investment should be thought about like a business its important to understand who is running that business. If you are a passive investor, you are trusting the operator to execute the business plan and generate a return for you. If you are an individual investor, finding the right partners is crucial. You should not try to do it all yourself. An experienced team can turn an ok investment into a home run.
Questions?! Please reach out – we love talking about multi family real estate!