Multi-family rental: to buy or skip?

Question

Been listening to the podcast a ton and figured I would give the forums a whirl.

Background: I own a separate, successful business and I am looking to diversify and also get some tax benefits from rentals. I grew up around house flipping, am very handy, and feel very comfortable becoming a landlord.  I tend to be a conservative estimator though and I need some thoughts on if I should dive into a deal I am working on or if its a trap worth avoiding.

The house: I am looking into buying my first rental that is a multi-family home with 3 units and only needs minimal cosmetic rehab.  I would likely get it at current market value offer (lower than asking but what I think is fair for the asset).  I was hoping for a distressed property that I could rehab/refi to get my downpayment back out but this house is mostly turnkey.  Its on a busy road which I feel will slow the appreciation of the home but it has a nice sized yard (something I can hopefully monetize at some point) in an otherwise tightly packed suburb and it is not a bad area to live in (not affluent but not impoverished).  Having 3 units is also a bonus because most are illegal 2's or use the basement as a 3rd (which I want to avoid -- this one uses a converted garage space).  Units are all metered for separate utilities which is also a benefit.  The house is pretty turnkey and checks the boxes for what I am looking for.  All units are currently rented and paying.

Now for the numbers: The NOI is about $30k annually and I am calculating a cap rate of around 5.7%.  I have access about 10% of the deal in cash but would need to do the other 90% with a (hopefully traditional) mortgage + a healthy HELOC that would still have reserves if I get into a pinch.  (This deal would not impact my household's personal savings / emergency fund)

Cash on cash, I am looking at very close to a $0/month cash flow (possibly -$100 to +100 depending on a few variables) since I am financing/borrowing so much of the deal.  There is a possibility for a little rent increase and monetizing the yard for maybe a commercial truck to park.  IRR calculators which I assume factors in equity shows a 12.23% over 20 years on the calculator.  Also shows a total profit if sold in 25 years close to $1mil or about 1,310% cash on cash.

My biggest concern (and where I could use some advice) is getting into my first rental deal that locks up my cash, cuts my HELOC in half, and leaves me tight on month to month to stay positive cash-wise at first.  This investment is a buy and hold strategy but has a terrible up front ROI on the downpayment so I would be working as a landlord for pennies.  Long-term and for tax purposes, its amazing though and no rehab headaches up front.... but does the opportunity cost come too high with locking up my warchest in this deal and missing out on others with better #s?  Should I continue to look for a distressed property that has more built in equity potential (but may come with its own issues)?  Or is this a unicorn because it essentially will pay for itsself and just needs to be managed?

Sorry for the long post - I hopefully gave enough to be a little case study for you guys!  Any pro-tips and advice is graciously welcomed.

Mohammed Rahman · Answer

Hey @Ned Marz - your post was really helpful to get a good idea of where your headspace is at, thanks for the detail!

The situation you're running into is pretty common with buy & hold investors in the NYC markets. Most of the properties will not have strong cashflow, but appreciate well (especially in the right neighborhoods). I know your property is in Long Island, but I wanted to let you know it's not uncommmon.

Ultimately, the decision is yours to make; I think you're already aware of this. You have to decide what you value more: getting the tax write offs and other auxiliary benefits from owning the rental or just holding on to your cash and looking for other deals.

Judging by your post and where you're leaning, I would advise against investing into the property since your margins are already pretty thin. There will always be surprise costs that pop up that come with the territory of owning multifamily units. These surprise costs will put you way into the red and might not suit your risk appetite well.

Ben Wagner · Answer

Because evictions are so tough in the NY market, I'd be careful about this one. It's good to see you factoring in a decent vacancy factor, but since you are working on such slim margins, please make sure that if you have a tenant that stops paying and it takes 12+ months to get them out, you will still be able to cover the expenses on the property.

We have tenants that owe over $70k in rent (starting pre-covid) that are still in the home to this day and I'm regularly buying homes from distressed landlords who own a single rental property where the tenant has stopped paying and they have fallen behind on payments (or are about to). It can be very hard for small landlords with 1, 2, 3 properties to handle a non-paying tenant for as long as the eviction process takes in NY.

Jordan B. · Answer

I would agree with @Mohammed Rahman on this one. I would not put that much money into this investment on pure speculation that it will appreciate nicely over time. Long Island is super tough for cash flow but it is possible. Decide what % COC return you want right away and stick to it. Just my 2 cents.

Ned Marz · Answer

@Mohammed Rahman and @Jordan B. I appreciate you for sharing your thoughts on this deal as you guys are pretty familiar with the market here.  It feels like the property does have really nice rental income with a potential for it to go a little higher but I do agree that its not the best on paper with nearly a 0% COC return after all expenses are paid, including cost of borrowed money/HELOC payments.  I do factor in a $340/mo. (7.5%) vacancy rate into that though which does mean I would be a few hundred positive per month as I would technically be collecting that to build up my reserves.

After sitting on it for a few days, believe it or not, I am still considering this deal though.  I cant exactly say why except that I think in 5 years I will look back on this and kick myself for not doing it even though the short-term numbers are really weak.  I still have access to a good chunk of a HELOC in case something terrible happens and I have a hard money lender who I can lean on if a cheap deal comes up.. but those don't really exist around here unless I want to deal with squatters and buying sight-unseen.

The house in question is more of the safe-play for me since I am okay slow-playing into the real estate game... for now!  And of course its only Monday and my thoughts might change again by Wednesday.  I will let you all know if I go into contract though.

Multi-family rental: to buy or skip?

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