Investing in an apartment or a single family home?

[Richard Nix M. Caasi]

Hello, As the title states what's the difference between purchasing an apartment and a single family home for an investment purpose? Pros and cons? Living in SAN Diego by the way! Thank you!

[David Thompson]

Hi Richard,

I own both and favor apts. You will hear arguments on both sides but I think the general consensus is that you get two concepts with apts (especially larger apts) and that is scale and forced appreciation (value add deals only) that you can't really get w/SFRs. For $ per $ spent, you usually get better cash flow from apts than with SFR. Conversely, you usually should expect better appreciation from SFRs than small MFs (duplex, fourplex type) as the latter are usually not owner occupied and hence, pride of ownership can suffer a bit more w/them if owned by investors who are deferring maintenance impacting curb appeal. But w/value add apts of any real size, appreciation takes on a whole new concept.

When we are talking larger apts, commercial property valuation methodology (based on property income) not so much sales comps apply. If you buy a property that clearly you can add value to (i.e renovate interiors, exteriors, perhaps add a carport that you can charge parking fees on, retrofit plumbing to save on utilities, etc) you can exercise more control over creating value. Now, I can do all of the above on a SFR and an Apt. On the SFR, I will only improve the value of the property to what my neighbors of like size, age, rooms, etc have sold their home recently (sales comps). On an apt, I do these same things and increase the NOI of the property thru increased rents, revenue adding and expense saving efficiency improvements. The FMV of the apartment is based on NOI/cap rate. If I improve the NOI say by just 15% by doing this and the cap rate say stays the same then here's what happens to FMV of the apt.

Let's plug an example. Before renovations, apt generated $1M in NOI/cap rate = 7. FMV thus = $14.3M. After renovations, apt generated $1.15M in NOI/cap rate = 7. FMV now = $16.4M. Simply increasing the NOI 15% or $150K/yr increased the property value substantially $2.1M. This is forced appreciation. The beauty of this is: 1) with creativity and ingenuity, you can value engineer the property to increase NOI and have an exponential increase in FMV of the property; 2) as opposed to SFRs, in a sideways market where no appreciation is happening and market forces are determining the value, w/value add apts you are controlling value not so much the market and can "force" appreciation.