Looking into out of town Real Estate Investing

[Marcus Nickson]

Hello Fellow BP Members,

I'm currently working on the Midwest and I'm saving the capital to start investing in Multi-Family properties as early as 2017. I'm originally from Texas so i would feel more comfortable purchasing my first property in Texas. I have been spending a lot of time educating myself through books,podcasts and online REI forums. I'm seeking feedback on how to cut down risk in investing in Texas when I'm currently living in the Midwest. I'm looking for at least a triplex the largest property I would consider purchasing would be an 8-10 unit complex.

I welcome all opinions and feedback.

Thanks in advance.

Marcus Nickson

[Joel Owens]

I agree that 8 to 20 units out of your area can be a disaster especially what investors tend to buy which is C class properties in C class areas because they want to buy at 40k or 50k a door.

If you were buying 10 units at 100k a door on almost a new product in an affluent area that is a different animal to own from afar.

Affluent tenants income tends to be less unstable than tenants you will deal with in lower income type units. They tend to rely on multiple streams of income to try and pay the rent to get by. When one of those streams is reduced or eliminated they have trouble paying the rent and can fall back on previous life issues that got them in trouble in the first place. They can almost be like children having to manage them constantly. If you live far away you will be depending more on a PM company for the success of your property.

Those smaller type units are best owning locally as far away class A assets that are smaller can work or larger less class that have more units such as 70 or 80 where you can have proper infrastructure from a distance with onsite maintenance and staff.

Multifamily in my view is heavily overvalued right now. 4 to 5 years ago it was coming off the bottom. Rents were low, property taxes were low, cap rates were high, and vacancy was high  so you had many avenues to increase upside yield going forward.

Today sellers are selling at crap pricing. Historically and this is not all markets but in general over the last 30 years vacancy runs about 10%, opex runs about 50%, and rent growth is about 1.5% to 2.0% for multifamily.

Sellers today are pushing bubble numbers for the last 12 to 24 months of 4 to 5% rent growth, 3% vacancy, 30 to 35% opex from their lipstick renovations, etc. When you take their 6.5% cap rate sell price and crap pro-forma projections the brokers and agents are pushing you really get a cap rate in the 5's. Unlike commercial real estate for example retail where tenants pay your property taxes on a NNN lease you have to eat any rise in cost on multifamily. The counties and cities are coming out in force and jacking up taxes like crazy trying to bring more revenue into their coffers as they went neutral to negative so long on budgets with the recession.

Additionally water companies that kept water and sewer usage rate per gallon the same during the recession are now making big jumps. This runs up a landlords costs per unit when they pay water for a tenant which is this case on a lot of older buildings. You can in some case do bill backs but even then some tenants do not pay.

The lower income tenants currently get section 8 assistance. With the current administration coming in there is uncertainty how the subsidies programs will be run and affected. The middle income are being hit hard by Obamacare costs and rent growth is set to flatten with rents already reaching for families about 35 to 45% of their annual income.

The class A properties developers want to build because the cost per unit can be justified by the high per door rents they could not get with lower income or middle income. Additionally the Class A high income earners tend to only be at 10 to 30% of their income to rent ratio. There is some overbuilding now and it's like a game of musical chairs in that some developers will lose if they did not plan correctly for a long horizon to wait to the next cycle. They needed to make sure they had a very high cap rate to cost on completion and not doing the development banking on a low cap rate to cost such as a 6 and then rent growth pushing them into an acceptable position. If the economy down cycles again and they have vacancy and low cash flow margins they might not have holding power until the next up cycle.

I saw all of this happen on the last down cycle. Inexperienced investors tend to have blinders on and look at all the growth and potential doing projects. Experienced investors are excited about the upside but plan to still do good for the downside if it occurs.

Texas you have to be careful as it is a no income tax state and property taxes are higher than many other states. A good combo in some states is where property taxes and income tax are both very low but you still have growth and good demographics.

Multifamily can still make sense with conservative underwriting and there are occasionally deals today where a seller has to sell. I would rather grow small with great properties then grow big to a net neutral because the few great properties I do have with cash flow are being sucked down to zero by the money losers in the portfolio.