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Multifamily Property Investing

An apartment project, or multifamily property, is a collection of individual apartments (or “units”) that have all amenities within them that can support an occupant independently. This typically includes a kitchen, one or more bedrooms and bathrooms and a general living area, that may provide space for a dining area and entertaining space. Units also typically are rented to occupants (or “tenants”) and are collectively owned by an owner (or “landlord”), who collects income from the tenants in return for maintaining the property’s condition (both the interior of the units as well as exterior), paying property taxes and various other expenses related to ownership. Although in some projects residents own their own units (such as “condominiums”, “co-operative apartments”, or TICs/ Tenant in Common Interests”), typically multifamily properties offered as investments are structured entirely as rented units.

Why multifamily is currently a strong investment target:

  1. The growth in the U.S. rental population over the next 15 years will be high. Generation Y will soon be the largest demographic block in U.S. history. Approximately 4MM Americans will turn 22 every year for the next 12 years. Newly independent from parents or college, most will rent their first home. There is also more than 1MM immigrants projected to become New Americans every year for the next 15 years; 85% start as renters. Multifamily Investment Property, RealRite's Investor Network & Information Tools give you the power to grow. People over 55 and those renting generally rather than buying add another 500K or more to the nation’s rent rolls.
  2. U.S. rental property vacancy is at a 12 year low. There are approximately 40MM rental units nationwide. The U.S. vacancy factor is under 5% currently, or about 2MM vacant units. With 5MM new renters every year as noted in #1, rents will increase for the foreseeable future.
  3. Apartments are priced far below replacement cost currently, limiting competition from newly constructed units. This discount provides a hedge against competition from new units as well as downside protection against the erosion of general market values. Depending on location and state in the U.S., the cost of constructing an apartment unit ranges between $125K and $150K or more, including hard construction costs (material and labor), land costs,permit and entitlement fees and more. Consequently new units must obtain rents that are much higher than that of older, less expensive properties.
  4. Interest rates for multifamily financing are at 50+ year lows. By financing in today’s interest rate environment one can enjoy cash returns higher than customary in typical interest rate environments. Long term financing – with due dates that are 7, 10 or 12 years from now – can also protect your investment against near- to mid-term refinancing risk. Further, properties with assumable loans with low interest rates in place add value upon resale.
  5. TAs a commercial real estate investment, multifamily returns are historically more stable than most other classes. This is because the population cycle, consisting of tenants that need a place to live, is more stable than the economic cycle, which drives the use and rental of office, retail or industrial assets. Notably, however, returns on other asset classes can be higher in strong economic environments.

What factors should you consider when contemplating a multifamily investment?

Investing in a multifamily property can offer strong returns and stability if structured well and underwritten based on fundamental criteria. Further, investing in multiple properties can offer greater stability and diversity, foundations of a strong investment strategy. Although not a comprehensive list, following is an outline of factors one should consider when evaluating a multifamily investment.

  1. Multifamily investment property tips, Investment Property StrategiesLocation: Carefully consider the value drivers of the neighborhood, city and state within which the property is located. Is the neighborhood considered stable and mature, without likelihood of improvement or decline? Or is there demonstrable potential for change for the better (or worse)? Factors to consider here are the investment’s proximity to significant employers, metro downtown areas or major redevelopments, values and velocity of nearby single family home sales and general demographics – who lives nearby? Also, is the city economically diverse, or is the local economy overwhelmingly dependent on one employer? If so, is it clear that the employer is stable? Is the city large or small? And is the economy of the state trending in the right direction, or stagnant?
  2. Building age and quality: The age of the property and its condition should be evaluated. If the property needs upgrades, is the cost of those upgrades factored into the purchase cost and related return on investment? Older properties tend to be much less expensive than newer properties, but may require greater maintenance or remodel cost. Be sure that this is considered as part of your underwriting. Further, a property with either existing or potential for an amenities package – pool, recreation areas or other property improvements – adds value to tenants as well as the property in general.
  3. Operating history: Review the property’s income and expense history as part of your evaluation. Older properties in sub-par condition can still have strong operating histories if they are in a desirable location. Conversely, an investment that has performed poorly over the two or so years prior to your investment may represent an opportunity if it’s priced appropriately and you or your team has the experience in repositioning such a property. Also important are whether the historical expenses are in line with what is typical in the area for similar properties. This tends to vary depending on geography and age of the property. If the historical expenses seem low, then the current investment should factor future expense assumptions that are in line with the market.
  4. The nearby rental market: A comprehensive rent survey, or review of comparable rental properties nearby, should be an integral part of the investment decision. If the rents in place at the property you are considering are high compared to other properties that could represent risk if your tenants move. The need to re-rent units at a lower level will mean less income for you.
  5. Comparable sales: Be sure to review what other similar properties are selling for in the market within which your investment is located. This will measure whether one is overpaying for the property or getting it at a fair price. Factors here are comparable prices per unit, per foot, capitalization rates (net operating income divided by purchase price) as well as age and condition of the comparable sales.
  6. Financing to be assumed or new financing: A relatively high interest rate is not necessarily bad if the property is priced to provide market rate returns on your investment. However, regardless of whether the rate is high or low, the term of the loan must be taken into consideration. If the property is encumbered by a relatively short term loan, then ensure that the investment strategy contemplates a refinance and the potential of a higher interest rate at that time. Conversely, a relatively long term loan can provide a hedge against future interest rate and refinance risk and add value to the property upon sale if assumable.
  7. Management: If your investment is in a partnership or LLC (limited liability company), experienced management is critical. Factors to consider here are longevity in the management business, experience in managing partnerships, creativity or problem-solving skills and assets currently under management.

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