What makes multifamily the best game in town.

Question

Can anyone tell me why they think multifamily apartment buildings or complexes are the best game in town when it comes to investing in real estate. Could it be that a larger building of say 50 units plus has only one roof and one lawn to keep as opposed to 12 fourplexes or 25 duplexes.
Could it be that it is easier to manage? What about the cash/flow? I would love to hear any thoughts from all you multifamily investors out there.

Brian Burke · Answer

I prefer 50 units and up, and over 75 is even better.  The reason, for me, is that the quality of the third party management companies operating in this space is superior to the smaller firms, and when you get over 75-100 units you can afford to hire better quality on-site employees.  Those two things will make your life easier because they can resolve minor issues on their own.

I also have complexes smaller than 20 units, and managing them takes more of my time than the larger properties.

Don't fall for the "one roof" example...most garden style complexes are comprised of many buildings with a few units each.  Replacing the roof can cost hundreds of thousands.  The scale of larger properties magnifies the income, but also the expenses, and most "surprises" are very expensive.  I have to replace a boiler at one of my properties soon.  It will cost somewhere between $20K and $40K.  Ouch.

Al Williamson · Answer

I agree with Dennis Tierney one roof is a big plus. The down side is the quality of tenant. IMO better tenants chose less dense complexes. Personally, if I were a tenant, I would chose a duplex over living in a megaplex.

Jerry Jones · Answer

Thanks a lot for your explanation, Brian!

Brian Burke · Answer

Jerry Jones, I think I addressed your question about short-term financing in another thread where you asked about financing.  If that didn't clear it up a little, let me know.

I haven't applied for the FNMA product yet, they weren't lending where I was buying...but that has changed so I'm sure I'll be going down that road in the next few months.  Appraisals for larger multifamily properties start around the $4,000 range and go up from there.  The 3rd party costs on my most recent loan were around $25,000.  That included appraisal, property condition report, survey, legal, applicaton fees, etc.  This depends somewhat on how large you are going.  If you are looking at a 4-plex, it's much different than 100 units.

Jerry Jones · Answer

Brian,
Thanks for answering my questions. And congrats on those fantastic deals you have done. Very cool!

I guess I should really ask what's the typical cap rate you are buying at, since it will take the finance cost out.

From your assumption for 5 year hold, it looks like you plan to hold the properties for a short term? This is one of my other questions regarding the larger scale apt investing: with the short mortgage term, is multifamily apt a good  investment for buy and hold investor whose goal is long term stable cash flow?

Now with super low mortgage interest rate, the cash flow may be very good. But what happens if the rate shoots sky high after 5 year mortgage term? What possible exit strategy do I have for such case?

Also with the short mortgage term amortized into 25 or shorter years, most of the mortgage payment goes to the interest with little equity build up, I suspect it would take much longer time to pay off the loan than conventional residential loan?

Regarding it's easier to get larger size loan, my broker told me exactly the same thing. He even mentioned that Fannie Mae could even offer similar 30 year fixed mortgage for apt building if I can afford the top dollar appraisal fee, which is in 10K~30K range to evaluate if the property is qualified for such program. Have you ever applied for such loan?

Brian Burke · Answer

Jerry, the return is all over the place. It depends on where it is and how long I've owned it.  ROI can be expressed a couple different ways...cash-on-cash or total return after appreciation from resale.  I'll give a couple examples from some recent deals:

On one of them, I'm seeing cash-on-cash in the low teens.  Using conservative projections on a five year hold, I'm forecasting the total return in the twenties.

On another deal, the cash-on-cash is in the low single digits.  My forecast on conservative 5 year projections was in the mid twenties.  Instead, it did so well that I'm selling it now after about 22 months and the total return will exceed 40% annualized.  Seems contradictory to have such low cash-on-cash result in such a high IRR, but it serves as an example of how there are a lot of variables in this business that effect the IRR.  This was a rehab/value-add deal.

The first deal was financed by Citigroup on a CMBS loan, the second one was hard money (which helps to explain the low cash-on-cash).

It is true that your lending options change as the size of the loan changes.  In my experience, the larger the loan, the easier it is to get.  As an example, last year I was doing two multifamily loans at the same time. One was $350,000 and the other was $4.35 million.  The smaller loan took twice as much of my time, and I could only find one lender to do it, a small local bank.  The larger one had about a dozen lenders bidding to do the loan.

Jerry Jones · Answer

Brian and Jason, may I ask what's the ROI you are seeing on your multifamily apartment? And how much do you pay for the third party property management company?
My loan broker told me that many lenders exit from the apt lending with loan amount lower than half or one Million. Is that true? How you guys finance your properties?

Mike McKinzie · Answer

Multi family investments are stringently tied, in value, to their income.  It is rare to get an "emotional appreciation" for a multi unit property. SFH, on the other hand, achieve appreciation through many other factors.  I bought a SFR for $130,000 and sold it in 2 years for $200,000 and did NOTHING to it, ZIP.  The demand for houses in that market went through the roof.  If I had bought a duplex for $130,000 in that town, in two years, it would have sold for $130,000.  The monthly income from the duplex would have been greater, but the appreciation would have been nil.

For cash flow purposes only, Multi Family is THE WAY to go, and usually the bigger the better.  And the 50% rule works almost like magic on a large multi family investment.  Brian posted a chart with over 1 million multi family units and the expenses came to 49.98% of "Scheduled Market Income."

But if you want to gain income from appreciation as well, unless you are able to substantially raise rents on your units, SFR is a better investment.

As for tenant quality, right after my divorce, I had to live in a very large apartment complex for six months.  It was a very nice place with hundreds of units, 3 swimming pools, workout facility and more.  Everything rented from $1,200 to $2,000 a month, so the quality of tenants was really good.  The place was owned by a Pension Fund and had a minimum of 12 onsite, full time employees.  High Income, High Expenses, but a set monthly cash flow.

It all comes down to "different strokes for different folks."

Jason A. · Answer

Well Dave, just as in most real estate deals, you make your money when you purchase an apartment complex. I was able to find a complex with below market rents and high vacancy rates. I've gradually made improvements and raised the rents and have been running them at a 96% vacancy rate. I've also cut the tax assessment by 30% by challenging the assessment thus cutting expenses by about $8000 per year. I'm also a hands-on landlord, cutting expenses by doing much of the work myself. The beautiful thing about commercial and multi-family deals is that they are valued by the amount of revenue they generate.  I interact with my tenants regularly and all they're needs are met. I truly enjoy what I do and my tenants appreciate having a down to earth landlord. 
As far as financing....I was able to get a loan about 6 years ago through pnc putting 10% down at the time. Things have since changed and most require 20% now. Honestly pnc is too big and has been a nightmare to deal with and I will never do business with the again. Perhaps that's just my experience.

David Beard · Answer

Jason A. thanks for chiming in, we need more complex owners on the site.  Do you mind sharing your top tips for improving apartment complex profitability?  Would also be interested in how you manage a 35-unit property, what mix of BR's you like in a complex, and what you've found to be the best sources for institutional financing.

What makes multifamily the best game in town.

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