Mistakes To Avoid When Investing In Apartments

[Grant Cardone]

1) Not investing - Not investing in this asset class is the ultimate, biggest mistake you will make with your finances. While it may seem difficult right now, due to limited funds, credit, experience and confidence, you owe it to yourself to figure this out.

Whether you buy deals on your own, or with others, get involved. When done right, apartments can produce passive income for generations and mind boggling returns, without the risks of other investments. 

2) Buying Too Small - Anything under 16 units will not produce enough free cash flow to warrant doing the deal. 2 units, 4 units, 6 units, and 8 units are not enough scale to make sense of the deal, unless you are buying to merely flip the property, but now you are speculating not investing.

3) Single-Family Home Rentals - This is an issue because you are dependent upon one tenant. Never invest in one door. Live where there is one door and own where there are many.

NEVER INVEST IN ONE DOOR.

Single-family homes are bad investments for the most part and have proven to be for the last 30 years, earning about 1% per year when adjusted for inflation. Millions of people found this out in 2008 when they lost their homes.

Single-family homes are terrible investments for rental income but they are easy to purchase. Remember, easy to purchase means hard to keep.

4) Using Too Much Debt - Using too much debt will resort in the property being unable to service the debt at some point in the economic cycle. If you can buy it with 95% financing, that means other people can too, and the more people, the fewer barriers to purchase, the less valuable the property will be in the future. 

I watched so many real estate guys love everything in 2008 because they over-leveraged and speculated. I only use 50% to 75% debt on my deals. So, if a deal is $50 million, I expect to put down up to $25 million to buy the deal. 

This kind of commitment to capital investment excludes a lot of buyers and becomes a built-in barrier to entry. This is what the big guys know that little investors don't and why the bug guys get the great deals and the little guys get the left overs. 

This is the simple economics of supply and demand. I now own something most people can't buy which will make this asset more valuable in 5 to 10 years, or more, when I go to sell. Now, that being said, too much money down may mean the product is overpriced.

5) Buying on Price and Cap Rate - If you only buy deals based on the lowest prices or the highest cap rates, you will never get great deals. The great deals always come at a premium price and a lower cap rate. As crazy as it seems, my best deals have been the ones I paid the most for. 

The old adage, "Buy low and sell high" is true, until it's not. I have made my best deals, and best returns, on buying high and selling higher. 

The lowest price in apartments is not an indication of a great deal. It is an indication that something is wrong. I can buy property at cheaper prices and higher cap rates in suburban Detroit than I can in the Galleria of Houston. 

CHEAPER IS NOT BETTER. I HAVE MADE MY BEST DEALS, AND BEST RETURNS, ON BUYING HIGH AND SELLING HIGHER.

I once bought a deal in Austin, paid the asking price, didn't negotiate a penny, and closed quickly. I knew when I bought it someone else would pay me more. I sold the deal for a 115% return in 6 months. 

6) Not Using a Broker - Trying to buy the deal without a commercial broker is a pure rookie mistake. The broker is your friend in this game. I use a broker on every deal and prefer to only use the listing broker moving forward/I hope he or she makes a bunch of money.

I recently bought a deal that was not on the market (off - market) and I had a broker in another city represent my offer only because he knew the seller. I paid him $250,000 to do this for me when I could have probably done it for myself. Why?

Because, I need a buffer between me and the seller. We did the deal and I assumed an unbelievable loan of $63 million on 500+ units in the heart of one of America's great cities. 60 yards away is Amazon's office, Whole Foods, Starbucks is walking distance, there are $800,000 townhomes across the street and you have to drive past $2 million homes to get to the property where the average tenant is a professional making five times what they pay in rent. (Income to rent ratio is a very important metric.) 

7) Not Looking at Enough Deals - I look at 100 deals to buy one, so unless you are smarter than me or luckier than me, be prepared to look at that many deals. 

I have friends who are financially very successful and could buy deals on their own but quickly realize they don't have time to look at enough deals to know the right deal. Because they are successful they have their hands full operating their successful businesses and their families. 

To find great deals, you have to be in the market everyday looking at deals, sometimes it takes years before the market is even ready to invest in. 

My formula requires we use tremendous discipline and research, looking at some 100+ deals for each one we close. 

8) Unable to Move to Other Markets - I have bought in eight different markets. I knew when I started I would only be able to do so much in the one market where I lived. 

In the beginning, as a real estate investor you should stay local. But, what if where you live the market sucks or is already overbuilt or even dying? People in Canada for instance, don't have a lot of apartments to buy. There is very little of this stock, so not a lot of trading going on.

People in European countries don't have this asset class to invest in the way we do in America. 

Remember, not everyone makes money in real estate because not all markets are good. If you had invested anywhere around Detroit in the last 20 years, you had dead money unless you were in downtown where money recently started being invested; and that play is still up in the air as to whether it will work out or not. 

9) Financing - Buying apartments without using debt makes no sense. If it wasn't for the debt, I wouldn't be able to do the big deals max out returns. 

On my first deal, I had to go to 3 lenders and the first two told me no. I took "No's" personally, only to find out later these banks didn't lend on apartments and that is why they told me no. But, the banks almost never say, "We aren't lending on apartments at this time." They will give you some other lame reason why they won't do the deal. 

You need to know who is lending on deals, and who is not, and you also need to know their underwriting criteria for approving the loan. Understanding debt component is vital to deal-making as it will provide you with the confidence in your financing to give the seller assurance you can close the deal. 

I have been borrowing money and creating relationships with the biggest apartment lenders in the world for 30 years. Fannie Mae, Freddie Mac, life insurance companies and banks, all know me now, and assist me understanding and underwriting my deals. They are partners with me in helping me make my deals work. The lender is not an adversary, it's your partner. I did not understand this early on.

IN SUMMARY 

Buy apartments. Don't go small. Don't buy the junk, buy the best product in the market place, make sure you have cash flow, and take care of the property and the tenants. When you find that deal, MOVE FAST.
 
-GC