When you should or shouldn't add units to a property

[Scott Harlow]

I have a 4-unit property on a large double lot in an area of town that is seeing excellent growth. I see this is a long term investment, but plans can always change. The back 1/2 of my property is undeveloped. I have plenty of room and the correct zoning to add 3-5 more units depending on the size of each individual unit. 

My only concern is this would take the property out of the conventional mortgage realm (more than 4 units) should I ever want to sell the property. Adding the units, based on my current cost estimates would make this property a cash flow machine, especially considering I would be building without adding any additional monthly debt - I will be self building/contracting a few units at a time with cash savings. 

Has anyone ever been in a similar situation? Did you regret turning your 4 unit into a 4+ unit property? Is there anything else I should be weighing here aside from cash flow and resale potentials? 

[Michael Boyer]

Scott, funny you mention this.. I have commented on this before... It probably depends on the facts and circumstances (like the exact numbers, the market, etc) but I have always been against the classic situation... That is, a person with a fourplex and (usually) a laundry or storage want to do an easy conversion to a fifth efficiency for another unit. This, I feel, is seldom worth the cost when you look at the fact you lose fairly large percentage of buyers. In fact, I have seen two five plexes remodeled to make them fourplex to tap the much larger pool of buyer with residential (1-4 unit) financing). It can be a big factor. Consider the difference in a low (or even no down, like VA etc) down payment, low rate and 30 year am loan federally agency backed versus a commercial loan with 20% down, higher rate, and often shorter term (like 10 year balloon, even if am is 30)... you can find linger terms on commercial, but still less favorable.

That said, you have a unique situation if you can double your units (not just add one)....the economy of scale with  adding 3-5 units could make this a bona fide small apartment and may be worth it provided the costs are not exorbitant, you have the zoning, parking, permits, etc... And, of course, the rental market is strong for these efficiencies. So run the numbers..

Short answer: if you are holding this long term (I would say ten years plus), it may make sense to convert and hold this as a cash flow property... But if you are selling anytime soon (3-5 years or less), I would recommend retaining the 4 plex to tap the larger pool of buyers, easy financing and better marketability.