I bought a deal with negative leverage. Here's why...

Indianapolis, Indiana
Multi-Family and Apartment Investing
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I bought a deal with negative leverage. Here's why...

Justin Goodin
Investor · Indianapolis, IN · Member since 2018 · 1k+ posts · 756 votes

I bought this townhome community with NEGATIVE leverage going-in. And don't regret it...

What's negative leverage?

When your cap rate < interest rate.

In this case, we bought this property at a 5.5% cap and locked in an interest rate of 6.7%.

Some would argue it would be cheaper to buy the property in cash.

So why the heck would anyone buy a deal with negative going in leverage?

✅ Future Upside Potential

In our case, we were willing to accept a lower yield in the beginning, in exchange for a higher return at stabilization.

Our stabilized cap rate is projected to be close to 10%. With a yield on cost at 8%.

I could care less what the going-in cap rate is, as long as I see a path to substantially add value to the property.

Many value-add investors do exactly the same thing.

What are your thoughts about buying deals with negative leverage going in?

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Robert Rixer
Investor · Miami, FL · Member since 2015 · 355 posts · 268 votes
2y

With interest rates today, a lot of deals are negative leverage. Upside is key whether forced appreciation or speculation that the area is going up. The other reason is if you think rates will go back down historic lows. 5.5% cap looks like a no-brainer if you refinance to a 3.5% rate later down the road. 

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  • Chris SeveneyBusiness Member
    Moderator
    Investor · VA · Member since 2015 · 21k+ posts · 19k+ votes
    2y
    Quote from @Justin Goodin:

    I bought this townhome community with NEGATIVE leverage going-in. And don't regret it...

    What's negative leverage?

    When your cap rate < interest rate.

    In this case, we bought this property at a 5.5% cap and locked in an interest rate of 6.7%.

    Some would argue it would be cheaper to buy the property in cash.

    So why the heck would anyone buy a deal with negative going in leverage?

    ✅ Future Upside Potential

    In our case, we were willing to accept a lower yield in the beginning, in exchange for a higher return at stabilization.

    Our stabilized cap rate is projected to be close to 10%. With a yield on cost at 8%.

    I could care less what the going-in cap rate is, as long as I see a path to substantially add value to the property.

    Many value-add investors do exactly the same thing.

    What are your thoughts about buying deals with negative leverage going in?


     It depends. The proverbial proof is in the pudding where it will come down to how conservative the assumptions were. People on paper can always make a deal pencil out, but its the "garbage in, garbage out" in your model. 

    Getting leverage to not give up additional equity is not a bad play at all, its actually the better play as long as you can get the value add you anticipate. 

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  • Robert Rixer
    Investor · Miami, FL · Member since 2015 · 355 posts · 268 votes
    2y

    With interest rates today, a lot of deals are negative leverage. Upside is key whether forced appreciation or speculation that the area is going up. The other reason is if you think rates will go back down historic lows. 5.5% cap looks like a no-brainer if you refinance to a 3.5% rate later down the road. 

    1Reply
  • Dimitrius Kiritsis
    Investor · Carmel, IN · Member since 2024 · 55 posts · 22 votes
    2y

    Many LP's become skittish when they see that an acquisition is negatively leveraged. However if they invest with a GP that has a great track record in value-add deals, they will often find that the investment is quite lucrative if the GP's business plan is executed efficiently. 

    The most important metric an investor should look at is the stabilized yield on cost vs going in cap rate which takes into account the increased or stabilized NOI.

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