What to know before buying a 5+ unit apartment building?

Question

Hello, I am considering buying a 6 unit apartment building so I'll need a commercial loan and this is my first building. My question to all experienced investors is what should I know when seeking a loan and the process. I am a full time residentail real estate agent and I own a home possibly looking to pull equity from, I have around $50k cash and plan on pulling money from a 401k for a down payment. I also have a co-signer if need be. The building Im looking to acquire makes $6150.00 a month. Just looking for advice and guidance. Thanks

Kyle Ransom · Answer

I would also suggest getting an excel modeler that will crunch the numbers and give you some important metrics to access the deal. for example, for us, it is the Cap Rate, 7-8%, IRR at least 15%, AAR at least 15% cash on cash returns at least 9% and the debt service ratio of 1.20 or higher. These metrics are what we look for in a deal. I would suggest that you consider what works to determine what make a property a good investment for you.

Marcia Maynard · Answer

@Tedros Fremichael  Welcome to Bigger Pockets! If this is your first foray into the residential rental business, please delve deeply into the educational information available to you through Bigger Pockets. Look under the Education tab. The forums, podcasts, and blogs have a bounty of information for you. Use the search tool to narrow your focus.

Where is the subject property located? That will make a difference since the landlord/tenant laws and ordinances that apply to your situation will vary from that of others who may chime in to share advice.

Are all 6 units on the same tax lot or split onto two tax lots? If they happen to be split on two tax lots, you could go with conventional loans. We did so with an 8-plex we purchased. If they're situated on one tax lot then you may indeed be limited to a commercial loan.

We prefer working with lenders who service their own loans, such as regional credit unions or banks. Be up front with the lender about what you are aiming to do. Make sure your credit score (and that of your spouse) is at least 740 for the best rates. Don't apply for new credit cards or close old ones at this juncture, as it could negatively affect your credit score. Begin collecting the documents you will need to prove your credit worthiness.

I advise against pulling money out of a 401K. That's a nest sacred nest egg intended for your retirement and you could face penalties if you dip into those funds prematurely.

Do you own your primary home free and clear? Pulling money from the equity of your primary home is okay if you have solid finances and are well disciplined. Just be sure not to pull too much. If you take out a home equity loan you will be able to get better rates than with either a conventional loan or commercial loan tied to the subject property. We've done this to be able to go in all cash to purchase a property in a competitive market. Then refinanced later to attach a loan to the subject property.

Be keenly aware of the loan to value ratio, as well as your debt to income ratio.

Find a loan officer or loan broker who has high integrity. Ask to meet with them to discuss reasonable options.

Good luck!

Todd Dexheimer · Answer

If you're loan amount is over $1mm you may be able to qualify for a Freddie Mac small balance loan that you can get fixed for 12 years. If it is less than that, then you will need to go with a local bank. Most of those loans are going to be 5 year fixed, but at times you can find 7-10 year fixed.

Calvin Lipscomb · Answer

Congratulations.  The purchase makes a difference.  How are you going to hold the property (in your personal name or some sort of business entity)?  Start reaching out to local lenders in the area.  Since this is your first rental property they may require that you have the property professionally managed.  Knowing that now would help a great deal.

Kyle Ransom · Answer

@stevevaughan here is the text book definition if AAR

https://www.investopedia.com/ask/answers/060415/wh...

Steve Vaughan · Answer

Thank you for sharing your criteria, Kyle. I wrote it down!  If you don't mind, could you explain AAR please?  Don't think I know that one.

Tedros, I know the first thing my lender asks for is the current rent roll.  The majority of my commercial loans have been 5/20 with 25% down.  Mine have been adjustable and callable at yr 5 , not expire.  I wouldn't accept if I had to refi every 5. Too risky and costly. There always a chance the bank won't renew at yr 5 but some flat out end then.

Richard Sherman · Answer

What is the cost on the property?  What do you think the value is after repairs etc if any are needed?  Are rents at or below market?

Kyle Ransom · Answer

I bought one from Michael Blank

Todd Dexheimer · Answer

Talk to 20-30 more local banks/Credit unions as well to get an idea of what they would do. You can always ask for better terms. There have been many times that I have gotten pricing from 2-3 banks and talked with them to change the terms to be more favorable. Give them the options you want.

Maybe a 20 year Amortization is ok if they go with a 5% interest and 8 year fixed or a 5 year fixed is ok if they go down to 4.75%. Play around with some of the terms and always ask for a little more than what you think they will be ok with.

What to know before buying a 5+ unit apartment building?

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