16-Unit Class C Apartment Building

[Travis Dillard]

Investment Info:

Large multi-family (5+ units) buy & hold investment in Goldendale.

Purchase price: $550,000
Cash invested: $40,000

Contributors:
Mitchell England

16-Unit Class C, garden-style apartment building. The complex consists of one 10-unit building, two 2-unit buildings, and two cabins. The units are mostly 1 and 2-bedrooms with one converted 4-bedroom.

What made you interested in investing in this type of deal?

This was off-market with a burned-out mom & pop owner with an incredible amount of upside. We purchased 12 units initially and then purchased (from the same owner) two adjacent duplexes. Initially, we purchased the 12-plex way under replacement value ($380K).

How did you find this deal and how did you negotiate it?

My business partner, Mitchell England, found this property off-market via old-fashion cold-calling.

How did you finance this deal?

Bank with 25% down / 30-year amortization. We put $40K down and had the seller carry back $70K. We financed $170K additional capital into the note for rehab expenses. We spent $130K of that $170K over 6 months upgrading the property. The appraisal after rehab came in at $800K on the initial 12 units. So $380K purchase, plus $170K rehab, we created $250K in added value in 6 months! When adding the 4-plex, we refinanced the seller out and got our initial capital back out.

How did you add value to the deal?

Rehabbed most of the units with paint, cabinets, flooring, etc. Painted the exterior, New name and sign. Evicted problem tenants (drug dealers). Removed failing carport. Added exterior landscaping and lighting. We added additional bedrooms in a few larger units to include converting a now unneeded office into a fourth bedroom. We also converted the one bedroom units in the added 4-plex to 2 bedrooms, allowing us to increase rents.

What was the outcome?

In the end, we were able to create over $300K in additional value and $3000 / monthly cash flow. The best part is that we were able to pull out all our initial capital and add 4 units 6 months later. This one was a home run.

Lessons learned? Challenges?

We always like to buy below replacement cost and for cash flow. Although we came out way ahead, I think we might have underestimated deferred maintenance expenses. The seller was burned out, lived on the property with her tenants, and was in a maintenance spiral. So, when you buy from a distressed seller well below value, factor in a higher amount of deferred maintenance expenses. Also, if vetted correctly, tenants on government housing assistance can be great, especially during this pandemic

[Travis Dillard]

Hi Jason, thanks for the question. We used a larger, regional bank. Essentially, they ordered an appraisal for the "as is" value and the "finished and stabilized" value before we even purchased the property. This is a commercial loan and appropriate for anything over 4 units. The appraisal was based on an income approach which takes the final product proforma NOI and divides it into a trading cap rate indicative for the area to arrive at a future value. We already had proved the income and expense formula because the seller was getting decent rents for the units before we purchased the building. Keep in mind, these were decent rents for pretty run down units. This was due to a general lack of rentals in the area that keeps rents and occupancy strong. They would lend up to 75% of the "finished value". Because we purchased the property for so little, we had plenty of room for the bank to finance the initial acquisition PLUS a decent rehab budget and keep us within our Loan-To-Value (LTV) ratios. In addition to staying within the proper LTV, the bank is also going to need to see an adequate Debt Coverage Service Ratio (DCSR) of at least 1.25. This means the NOI the property generates (all income less vacancy and expenses with the exception of debt service) has to cover the total debt service (including any seller notes) plus 25%. We feel that a debt cover ratio should be closer to 1.5+. We have other properties that operate at a 2.0+ DCSR. We like high cash-flowing properties and feel 1.25 is too skinny. So, in essence, we borrowed all the money to purchase the property and rehab it upfront. Commercial lending, which is usually for properties over 4 units, is generally more creative, especially if you have a proven track record with the bank. Conventional lending, which is usually for 4 units and below, is backed by Fannie / Freddie and less flexible in my experience (although I haven't used conventional lending for rental properties for about 10 years now). Now with COVID-19, commercial lending could get quite a bit tighter. But no hard money / bridge loan required for this project. It worked great. I hope that answers your question.