Is SFR investing worth the return? An IRR analysis

[Dave Vona]

Hi, I'm trying to decide whether I continue to actively invest in single-family (or small multifamily) long-term rentals or invest with a multifamily syndication. I decided to run IRR (Internal Rate of Return) calculations for the SFR (single-family residence) investing in order compare with the IRR targets I see proposed by syndication operators.

The target rate I often see on syndication sites is around 15-18% IRR (and sometimes higher for new development projects). This includes some amount of cash flow and then a larger payout once the property is sold or refinanced after X number of years. My intention was to see how this rate compared to the IRR of a SFR investment using several property assumptions and different purchase models.

Based on my calculation, I was surprised to find that the IRR on a SFR was not as high as I expected, especially if held for the longer-term.

I realize there is more to an investment than just the return. Most investors will also take into consideration risk, time invested, control over the asset, the ability to do a cash-out refinance, and other factors. However, I wanted to focus on just IRR for this analysis.

Please note, I did not include the tax benefits from deprecation. From my understanding the 15-18% IRR promoted by syndicators generally does not include these tax benefits either, so it is still a fair comparison.

Assumptions
I had to make a few assumptions about the property and mortgage interest rate:
Property value = $180,000
Rent = $1680
Mortgage Interest Rate = 6%

I also made assumptions related to other costs such insurance, taxes, property management, maintenance, capital expenses and vacancy. Both rent and expense growth was set at 2%. For simplicity, I did not include closing costs or loan points in the purchase price numbers, but did include a fee of 10% of the sale price to cover closing costs, commissions, and minor repairs.

Models
Below are two tables showing the IRR for the traditional rental, using a 20% down payment, and the BRRRR models using a 75% LTV loan. My models only go down to 80% market value (i.e. a 20% discount) since this seems like a reasonable goal for the "average" investor in 2024. I compared a 2.5% and 5% property appreciation rate at 5-, 10-, 15- and 20-year intervals. The IRR is assuming there was an initial investment amount, some cash flow each year, and then a sale of the property in the year indicated.

Traditional SFR rental using 20% down

BRRRR using 75% LTV loan

Observations:

1. In nearly every case, the IRR continues to decrease the longer the property is held even though the cash flow is increasing. This is because the earlier years see a large jump in IRR due to the leverage used, however this effect diminishes in later years.

2. After 20 years, the 5% appreciation rate use-cases only make a difference of roughly 2-2.5% in the IRR.

3. After 20 years, only the 80% BRRRR use-cases offer greater than a 20% IRR.

Questions

1. Is it worth investing in SFRs for a part-time, non-professional investor? Unless you're able to consistently purchase properties at a 20% or more discount using the BRRRR strategy, the longer-term IRR is going to be under 20%. A consistently higher appreciation can make up for a lower purchase price discount, but 5%+ appreciation for 5-10 years is typically not the case in markets that offer some amount of cash flow.

2. If you do invest in SFRs, is it better to hold the properties for a shorter period (less than 10 years) to increase your IRR?

3. If the IRR is not greater than 20-25%, which applies to most of the above models over the long-term, are you better off investing in a syndication which is much more passive than buying and managing a portfolio of SFRs?

Please let me know your thoughts on my analysis and any comments you have on the SFR vs syndication investing questions. Thank you.