5 Things to Know Before Buying a Duplex, Triplex, or Quadplex (Rookie Reply)

Ashley:
Okay, let’s get your questions answered. I’m Ashley Kehr and I’m here with Tony J Robinson

Tony:
And welcome to the Real Estate Rookie Podcast where every week, three times a week, we bring you the inspiration, motivation, and stories you need to hear to kickstart your investing journey. And today we’re diving back into the BiggerPockets forum to get your questions answered. Now, Ricky’s, the forums are the absolute best place for you to go to quickly get all of your real estate investing questions answered by experts like me, Ashley, and so many more. So today we’re going to discuss first what to know before buying a duplex, triplex, or fourplex, what loan options are really best fit for a first time home buyer? And finally, how to pull equity out of your property. So with that, let’s get into today’s rookie reply.

Ashley:
Okay, so our first question today is if you are going to be buying your first ever two to four plex, so a small multifamily, whether to live in or just to invest in, what are some of the concerns and questions on your mind, things specific to two to four plexes? Okay, this is a good question. I like this one. There’s definitely things that are different compared to buying a single family property. Tony, have you ever purchased a property that had more than one unit on it,

Tony:
Just the hotel, but never on the traditional long-term side?

Ashley:
Oh yeah, that’s a great example. So the first thing that comes to mind for me is utilities. So are they separately metered? Are they all on the same meter? So very common near us. The water and sewer is not separately metered, at least water. I don’t even know if they can separately meter sewer, but the water is on the same meter for a lot of the multifamily properties. So the owner pays the water. So I do have one property, it’s a duplex where it’s only one meter for electric and only one meter for the gas too. So I pay those bills so their rent is higher than another property where those utilities are not included. I prefer to have things separately metered because then they’re paying for exactly what they’re using and you don’t have to worry about them sticking an AC unit in their window and every window blasting it all summer long and decorating their house with tons of Christmas lights and having the heat on, but the window is open

Tony:
All at the same time. Right. They’re doing all those things at the same time.

Ashley:
That I would say is I prefer the units to be separately metered.

Tony:
Let me ask Ashley for that situation. You bake it into your rent, but is it ever an option to just kind of bill that back to the clients and just say like, Hey, if there’s four units and the electric bill was a thousand dollars for all four units, then each person’s bill for this month is two 50. Have you ever thought about doing it that way?

Ashley:
Yeah, so there are some rules and laws depending on your state or whatever about that specifically how you can do it. We’ve done it before as a flat rate, so we can’t say, oh, you’re each paying 50%, even though it’s two units, you’re each paying 50% of whatever it is because one tenant could be taking three showers a day and the other person not. So I’ve seen it where we’ve done a flat rate where you just pay an extra $30 per month. So we say your rent is, but now we do it because of tenant landlord laws. You can’t collect rent or evict someone for nonpayment of extra fees. It can only be for rent. So now we include everything into rent income.

Tony:
That is a very good distinction to know about.

Ashley:
And then also I’ve seen it before where people do it based on how many people are in the property too.

Tony:
We got utilities. What else? Ashley is important. I think one thing for me and you and I, we actually, we talked about this on the podcast before as well, but sometimes the inspections that you need to do are slightly different as you get into some bigger properties as well. I don’t know if maybe on the two to four units if this comes into play as much, but I know some of the hotels that we looked at, we had to do environmental testing and I think one of the deals you looked at, you guys had to go into a phase two of environmental test.

Ashley:
Yeah, that was self storage though. Not for small multifamily if you’re under four units as long as you’re getting a residential mortgage on it. So that’s more for commercial side of lending. So four units or more, they may ask for that.

Tony:
But I guess just in general, are there any inspections that you typically do want to complete on a small multifamily that maybe you don’t typically do on a single family home?

Ashley:
No. The biggest thing I would say is at least not in my market, but looking at a zoning for the property, make sure it’s actually zoned for however many units it’s saying that it has and that it wasn’t an illegally made extra unit. So when you go and rent it out, someone can come back and say like, oh, from the county, you’re getting to just be with your tenant. They turn you into the county that this isn’t actually a permitted unit and now you have this property where you can’t rent out that one unit. I was looking at a property in Rochester, New York one time and it was a duplex, but they had a permitted third unit, so it’s listed in the listing as three units or whatever. And then when you came to the property for the showing, the agent said that this property is only permitted for two units, but it has this third back unit.

Ashley:
But don’t worry every two years when the inspector comes to do the inspection on the property to give it its rental license for the year, the tenant in the back unit just says that they’re part of the upstairs unit and they rent it together. And that’s one unit. I’m like, wait, what? I would have to rely on having this tenant for the life that I own this property lie to the inspector to say that he’s rents it with the upstairs person and they’re on the same lease and they live together. And it was just like, okay, well what if this person moves out? I got to get someone else based on who’s going to lie the best for me. So obviously we didn’t buy that property, but you want to make sure that it’s actually zoned and permitted for however many units you’re buying the property for.

Tony:
The other downside too of getting something that’s unpermitted is that when you buy it, you now assume responsibility for that and say an inspector does come and they’re like, Hey, this was never permitted. You got to tear this thing down or break open this wall so we can inspect the plumbing, the electrical, or whatever it may be. You assume responsibility for that. So I think that is also part of the challenge when you bicep, that’s unpermitted.

Ashley:
The next thing I would consider is common areas. So if there’s a common hallway, they enter common stairwell being a very specific in your LA as to who is responsible for maintaining those areas. So this could be you, we have a five unit where we have a cleaner that comes in and cleans the stairways in the common area. It could be that you say to the lower tenant, we actually give you a discount of $20 per month or whatever to keep and maintain, or maybe it’s split in half halfway down the stairs is this tenant halfway up the stairs is the other tenant. But it is amazing how people don’t care because it’s not their living area and they don’t want to clean up after someone else. So they literally just refuse to clean a cleaning area. And then you get the other people who just take full responsibility and take care of things. But that would be something is the less common areas the better because it’s just more to maintain, more to oversee. And in the apartment complexes, there’s a rec room, there’s a library, things like that, and just nobody really cares for them because it’s not their apartment and we constantly have to send someone in to put the books back on the shelf and things like that. So I would say less common areas the better because it’s going to be you that has to take care of them.

Tony:
I think actually let’s, lemme talk a little bit about the upside though of the small multifamily. I think that from a house hacking perspective, small multifamily is one of the best investments that you can get into. Have you ever house hacked?

Ashley:
No.

Tony:
Yeah, neither have I. But we’ve interviewed tons of guests on the podcast who have leveraged house hacking as their way to get started as a real estate investor. And the benefit of house hacking, small multifamily is that you use some of these primary residence type loans that are typically better rates, lower down payment percentages, just the cost to acquire and own the property is cheaper. And then once you satisfy the requirements of that loan, you get to replace yourself with a tenant and go repeat that process somewhere else. We interviewed Nancy Rodriguez on the podcast and she’s one of the folks that I know that leveraged the NACA loan NACA, and it was a 0% down zero closing cost loan. So very little cash out of pocket. I actually know someone else who bought a small multifamily using NACA and he got $5,000 back at closing because he was able to negotiate a credit during the closing period. But there are options out there where you can get into a property for very little out of pocket, have a unit for yourself to live in, and then two or three other units that you can rent out to your tenant. So a really low cost way to get started as well.

Ashley:
We actually had someone comment recently on one of the YouTube videos where you talked about that and they said that it was an extremely difficult and grueling process and they said don’t do it. So what is your kind of feedback to that as to you think of there’s the construction loans and things like that where you hear the same kind of advice from people as to it is extremely hard to do. They make you jump through all those hoops. So what would you say to someone who’s maybe never done a deal but this is an option, but then they’re hearing this person say that in their ear.

Tony:
If you never do anything hard, you’ll never accomplish anything of meaning. And it doesn’t make sense to me that people say, I want to be a real estate investor, but I don’t want to do anything hard. How is that going to work? Because if it were easy, everyone would do it. So I guess you’ve got to ask yourself if what’s more important to you is not jumping through hoops, is not going through all of the processes that come along with getting a really cool loan product that’s 0% down, zero closing costs. You can use up to four units. If you would rather just put down 20% then do that. But if you want to be able to save on those costs, then yeah, sometimes you got to do hard things.

Ashley:
So I think the last thing I’ll add to this question to kind of wrap it up is the parking, the garage situation and storage. Just make sure when you’re doing a lease agreements, like who’s getting the parking spot if there’s more than one or two, especially when you’re doing your due diligence, having parking for enough of your at tenant or knowing which unit because if you don’t have a parking spot, that could significantly decrease the amount of rent that you could actually charge for a unit to and shared parking can cause problems. You just have a skinny driveway even though it could fit three cars of, I think of so many college houses when I was in college it was like, okay, so-and-so’s got to get up so so-and-so can move their car so they can get out. And then at night trying to determine what order everyone’s going to park in based on who has to leave the next day.

Ashley:
But those are friends that live together and not two people that don’t know each other that have to kind of coexist. And so we’ve definitely had problems with that before with having a shared driveway where it’s really small and skinny. So I think setting expectations upfront has definitely made it a lot easier. Assigning the garage to only one person. Storage areas, where are you allowed to store things like not out in the common area hallways, who has access to the basement, who can store stuff there, things like that. Be as specific as possible as to who is responsible for what and who gets access to what or who gets priority to whatever.

Tony:
I think just one last thing that I’ll add, Ashley. If someone is thinking about, especially on the house hacking side, like house hacking, a small multifamily, there’s a chance you may not cashflow when you’re living in one of the units, right? Maybe you’re just subsidizing a good chunk of your rental or your living expenses, but I think you do want to make sure that you’re cash longer at least breaking even if you were to move out and have someone else move into that unit. But the last thing you want is that you’re now renting out all four units and you’re still putting in money every single month. So just one thing to call out on the analysis piece is make sure that your breakeven or cashflow and once you move out of that unit.

Ashley:
Okay, so before we jump into our second question rookies, we want to thank you guys so much for being here and listening to the podcast. As you may know, we air every episode of this podcast on YouTube as well as original content like my new series rookie resource. We want to hit 100,000 subscribers and we’re so close. So we need your help. If you aren’t already, make sure you are subscribed to our YouTube channel at Real Estate Rookie. Okay, welcome back Tony. What is our second question from the BiggerPockets forums.

Tony:
Alright, so this question says let’s say you have a good credit, you have the 20% to make a down payment, you have sufficient income to qualify for the home and you want to purchase. Would you choose either A to use the first time home buyer type mortgage or BA conventional mortgage? Which one would you pick and why? Now I think before we answer this, Ashley, lemme get your thoughts on this, but my understanding, I don’t know if there’s any blanket first time home buyer. Every state kind of has different options. Sometimes local counties have different options for first time home buyers. The first time home buyer I think kind of varies from location to location. Are you aware of a national first time home buyer mortgage?

Ashley:
Well first I think there’s a huge misconception and honestly I probably thought this for a long time too, but I think a lot of people think that FHA is first home. And I think that is a huge misconception and it is confusing. It is FH and I could I 100% see and I probably thought that for a long time too, so I’m thinking maybe that’s what they think. But yeah, there’s the first time home buyer loans, which even can vary from small local banks too, where they have programs where you deposit X amount of money into their bank account every single month at their bank for six months. And then if you complete that goal, they will match that and then you use that for the down payment to close on a property using them as the lender and then you have to live there for five years. So I’ve seen a program like that for first time home buyers, but it has to be your first home. As far as a nationwide one, I haven’t, but maybe we could talk about the FHA little bit in case that’s maybe what they were accidentally comparing is the FHA loan to a conventional loan.

Tony:
And just real quick, I did do a quick search here and I just Googled federal fair star home buyer and I’m not necessarily seeing anything that pops up for that. So again, what I’ve seen is that there are state, like California has certain first time home buyers has actually said local banks, credit unions, counties, things like that. So I’m glad we clarified that because yeah, maybe there are a lot of people, I never even thought about making that connection that people think that FHA is first time home buyer. But the good news is, is that FHA doesn’t only apply to first time home buyers and that you can, even if it’s your second home or your second purchase of a home, you can still leverage FHA. But I guess let’s just kind of break down some of the differences. FHA has basically federal backing. It means the government’s ensuring the mortgage that you’re getting, so there’s more certainty that the loan will actually get covered in the event that you’re unable to step up and do what you need to do with the mortgage.

Tony:
But because there is more certainty with that debt, it is also a more stringent process to get approved through FHA. And there are inspections you have to do, and I’ve seen certain deals fall apart or heard of investors who have had deals fall apart because they are using FHA and sellers know like, man, yeah, you’re offering me at full price, but maybe I’ll take the offer that’s 10 K less because it’s not FHA and I won’t have to jump through all these hoops in the inspections and fix all these silly things that the typical buyer won’t ask for. And then conventional is just the normal mortgage that most people think about. A lot of people think that conventional automatically means 20% down, but I have seen conventional loans at less than 20%. For example, we bought our first primary residence with a conventional loan at 5% down. So there are options within the conventional space. Now you do get PMI when you go less than 20%, but a lot of people assume that conventional always means 20%, but that’s not always the case.

Ashley:
Yeah, that’s a great call out and I think that’s what my sister did too, was when she went to get pre-approved, she already had an FHA loan and she went and got pre-approved for her next house that she was looking for and she was able to do the 5% down just for a conventional loan, which if you’re comparing those two, I would go the conventional route because you’re not having to do that extra inspection that the FHA does. So looking to make sure there’s handrails put up different little things that they’re going to nitpick during the inspection that the FHA loans will do compared to conventional where you don’t have to do that. And this is an inspection that’s completely separate from you doing your due diligence and hiring a housing inspector to actually come in and look at your property.

Tony:
One other point here too, Ashley, because I see a lot of people who get kind of caught up in this, but they’re like, yeah, I want to put down 20% just so I can avoid the PMI. And not that I disagree with that, but I don’t know if it’s always the best option because if you can get into a property for 5% down, you got to ask yourself, well how much PMI will you be paying on a monthly basis and is it worth the extra 15% down to avoid paying that PMI? Because sometimes your PMI isn’t all that much, but people would just say, oh PM, I don’t want to pay P-M-I-P-M-I is a bad thing. But just what are your thoughts on, does it always make sense if you have the cash to avoid the PMI or just what are your thoughts on how to navigate that?

Ashley:
Well, I think look at the amount of cash that you would be putting down. So say you did 20% instead of 5%, that extra 15%, what else could you do with that money? How else could you make that money work for you? Okay, so if you could put that in. There’s my savings account right now I think pays 4%. So if you could put that into a savings account, make 4% off of it, is that more than what your PMI would actually cost you every single month? Would you be able to make more money? So say your PMI ended up being you were paying 2% or something, you’re still making 2% in your savings with paying not PMI. So I would kind of compare or could you take that money and purchase another property, use that as the down payment. So I think you have to really compare it as to what else could you do with that money and would you make more money than you would be paying the PMI ON

Tony:
And Freddie Mac has a PMI calculator and again, I think the best place to know your PMI calculations is talking to your lender, but I just punched in really quickly and at a $500,000 purchase price 30 year term, 7% interest rate PMI is about 450 bucks per month. Now 5% on a $500,000 home. What is that? $25,000, right? 20% down on a $500,000 home is $100,000. So you have to ask yourself, it’s a difference of $75,000 out of pocket to acquire that property. What makes more sense to you? Is it paying 450 extra dollars per month or just shelling out an additional $75,000 of closing? You’ve got to answer that question to yourself. And I think the point Ashley made about like, Hey, where else can you deploy that capital was super important, but I just want more people to think about it mathematically and not just immediately be turned off to the idea of PMI because they think it’s not the right thing to do.

Ashley:
Well, if you guys haven’t noticed, we love talking about real estate and we love answering your questions and we’d love if you’d hit the follow button on your favorite podcast app or wherever you’re listening. We have to take one final ad break, but we’ll be right back after this. Alright, let’s jump back into your questions. We have our last question today and is, I have a rental in Denver that I’ve owned since 2013, quite a bit of equity built up good rent, good longer term tenant, should I 10 31 or is there a better strategy to keep it and borrow against the equity for another rental? So 3.75% and 30 year fixed. Okay, so let’s first go into a 10 31 exchange. Tony, you did a 10 31 exchange. You want to give us a little example of what that was like for you?

Tony:
Yeah, absolutely. So section 10 31 of the IRS tax code allows us to basically sell a piece of real estate and defer the taxes that are owed on that sale if we use it to purchase another piece of real estate. Right now there’s a more technical definition, but in layman’s terms, that’s what it is because if I just sold a property and I pocketed that money, I would then have to pay capital gains taxes on the proceeds from that sale. But if I put it into another piece of real estate, I can defer those taxes and use all of that money that I earned on the sale of that property. Now, just for anyone that’s thinking about doing a 10 31 exchange, it is critically important that you get a 10 31 exchange intermediary, like a company that actually handles 10 31 exchanges because the money can actually not go into your account when you sell the property. It has to go into the account of that 10 31 exchange company and then they handle distributing that money to help facilitate the purchase of your next deal. But the second any of those funds from the sale hits your personal account, you can no longer use those funds for 10 31. It’s just a really big disclaimer for people who are thinking about doing that.

Ashley:
Okay, so their question is, should they actually do the 10 31 exchange or is there a better strategy to borrow against the equity for another rental? So besides selling the property and doing a 10 31 exchange, I would recommend looking into a commercial line of credit on your property so that way you can still keep your amazing interest rate of 3.75% 30 year fixed rate loan and you can still tap into the equity and use that line of credit to make purchases pay for rehab, things like that. So that would be my recommendation instead of going and refinancing into a higher rated interest rate loan product.

Tony:
Yeah, I actually really, really like that strategy. I mean, we don’t know how much equity they have in the property, but I think the bigger question is, or maybe not a bigger question, but a secondary question or a good follow-up question that is, what’s your goal here? Is your goal, why are you looking to even purchase this next deal? Are you doing it for more cashflow? Are you doing it because you want a commercial deal? Are you doing it because you want just another appreciating asset? What’s your goal in doing this? And I think once you’ve got your goal, you’ve got to ask yourself, well, what serves that purpose better? Is it maybe slightly reducing the cashflow on this property in Denver but then having two cash flowing properties so maybe you get more overall cashflow, what actually serves it a little bit better? Because Ashley’s point, you can’t tap into the equity without necessarily refinancing.

Tony:
And I love the idea of the commercial line of credit, but say that maybe you’ve got a property that you already have in mind and it’s maybe like a bigger commercial deal. You’re going to get better appreciation, better tax benefits, more cashflow, but maybe you need all of your equity and really the only way that you’ll potentially tap into all of it is if you sail, right? So you’ve got to ask yourself what amount of funds do you need? And then what makes the most sense to actually use and deploy those funds? So a little bit more context would be helpful here, but that’s what kind of comes to mind for me initially.

Ashley:
Yeah, and the option for the line of credit too is that you’re not refinancing where you have this higher mortgage payment now because you’re pulling out the equity where the line of credit, you only pay interest only on most of it when you’re using it, and then if you’re not using it, it’s just sitting there and you’re not paying anything more. So I feel like it’s a kind of a safety net in a sense that you’re not increasing your mortgage payment that you have to pay every single month. So maybe the market does take a downturn. Well then you don’t use your line of credit and you let it sit there, but you still have all that equity in your property so that you could 10 31 exchange it, or you could sell the property and just pocket the cash if you needed to. So I like the option of being able to keep the property and still having the equity to tap into it.

Ashley:
If it becomes a situation where you’re not getting that great of cashflow, you’re dealing with having a lot of tenant headaches, it’s not maybe has a lot of capital expenses coming up that you don’t want to pull out of pocket to pay for and you just don’t want to deal with it, then maybe that’s the time that you actually go and do the 10th or new one exchange to get out of the property while you can and then use that money to purchase something else that will maybe be a easier management for you or have a greater return. Okay. Well, thank you guys so much for listening to this week’s Real Estate rookie reply. If you want to get involved in the community like all these other investors, go to biggerpockets.com/forums. If you are a new member and have not gone to the new member introductions, I highly recommend you do so. I just highlighted someone on my Instagram the other day who went and made an introduction telling them about themselves, what they were trying to do in real estate and what kind of connections they made. There’s also a great post by a CEO of BiggerPockets, Scott Trench of to do a great introduction to make sure you check that out and connect with other like-minded investors in the BiggerPockets community. I’m Ashley, and he’s Tony. Thank you guys so much for listening to this episode, a real estate rookie, and we’ll see you guys on the next episode.