Moving from owning single family to multifamily

[Nicholas Pelham-Clarke]

So I'm in the process of selling a few single family homes and am trying to prepare for my next investment in a multifamily. I should have about $1.5 Million to invest and am trying to consider all the options. At this investment level, I feel like I have a lot of options, but I don't want to complicate the scenario overthinking. I'm hoping the responses to this post will help narrow my focus and develop a plan.

I have rented out single family home for several years now. Thanks to the booming market in Denver, Colorado and Sydney, Australia, I have gained significant capital. I want to simplify multiple single family homes to one, or multiple multiplexes.

Denver (or Colorado) is too expensive so I'm researching other areas. I have heard mixed opinions on whether to invest out of state if you aren't familiar with the area. My first question is am I crazy to invest this amount in an outside state? I currently handle my own tenants, but I plan to have a property management company handle the tenants with a multiplex.  

$1.5Million is a large amount for myself, but I understand that it's relative. Would it be smarter to invest in a 3 multiplexes in different areas, or would it be wiser to invest all of it in to a single location?

With my single family homes I shopped many places by myself before involving my realtor. Should I be involved with a realtor early, or another party, to help with my shopping?

I'm trying to cram my brain full of information, so come August, I can move things along quickly.

Thanks for your input

Nick

Denver, CO

[Jonathan Twombly]

@Nicholas Pelham-Clarke, Congratulations on your success so far!  

We are in a similar situation.  We're based in New York, where investing simply makes no sense.  For $1.5 million, you could buy a three-unit deal in a marginal neighborhood that probably barely cash flows if its full all the time.   So, investing out of state makes the most sense, and we followed the population growth to South Carolina, where deals were not as expensive.

The incredibly important factor that cannot be overstated is to find a very qualified PM company.  Fortunately, at the level of funds you have, you are into a higher quality of PMs.  But you still must be wary.  On our first deal, we hired a large regional company with thousands of units under management, and they proceeded to put the wrong people in charge of our asset, which nearly destroyed the deal.  Do extreme vetting with any PM company, and then make sure that when they staff your property, the onsite manager and everyone he/she reports to has extensive experience managing exactly the kind of asset you own.  (This advice really applies regardless of how far away your property is.)

As for the size of asset you can buy, it will be limited by your net worth.  In my experience, commercial lenders will not lend you any more than your net worth, and the money you put into the deal does not count, because if that goes to zero along with the mortgage, they cannot collect anything from you.  This situation applies even if the debt you get is non-recourse, because even non-recourse debt comes with "good guy" guarantees, which make the debt become full recourse if you commit certain enumerated bad acts.  So, unlike residential, just because you have X dollars on hand for the equity downpayment doesn't mean that you can purchase a property worth 4X, unless you have 3X in other assets, with 10% of that liquid.  (And the closing costs are also significantly higher with commercial debt, so you will probably need to put in about 30% of the purchase price all together.)

The workaround here is to buy 3-4 smaller assets, deploying ¼ of your equity funds in each deal, which allows you to count the equity you have in the other deals as part of your net worth when you are applying for the mortgage for any particular deal.

This, of course, will make it harder to do a 1031 exchange.

Another workaround is to put up a higher percentage of equity. The "good guy" guarantees often go away if you get below 55% LTV, so there is no possibility of recourse against you and the lender may not care about your net worth as much in that case.

Hope this helps!  Feel free to reach out by PM if you want to discuss more.