Larry Goodman is CEO of HomeVestors of America.
When someone mentions commercial real estate (CRE), it’s common to think of office buildings, retail locations, service centers and even restaurants. But there is another aspect of CRE, and that’s multi-family properties. By definition, a commercial multi-family property must have at least five units. Anything under that is considered a residential property. My analysis of what makes a multi-family property a successful venture will primarily stick to the commercial side of the industry.
In an age where office buildings are becoming more vacant, CRE investors may want to consider that home is where the money is. Let’s look at the different elements that make multi-family properties a wise investment.
More Tenants, More Financial Security
There’s really only one way to put this: Real estate investing can be expensive, especially in the commercial space. Those interested in becoming landlords might be enticed by the ease of renting an in-law apartment already built into their home versus purchasing and refurbishing an entire building. However, there’s a tradeoff to going bigger. More often than not, commercial properties have multiple tenants. This means that even if part of your building is vacant, you still have rent payments coming in from the units that are occupied.
Banks More Willing To Help Finance
A consistent stream of income can make banks more comfortable offering funding to multi-family commercial real estate investors. This not only increases your chances of securing a loan but may even allow you to compare interest rates to find the most affordable option. Plus, financing a multi-family property may be simpler than a single-family rental. A multi-family property requires one loan to finance multiple units. With a single-family home, the loan-to-unit ratio is 1:1, which can make things more complicated to manage as you grow your portfolio.
Stronger Growth Potential
Multi-family properties can allow investors to grow their portfolios faster. If you buy a single-family property, you’re only adding one unit to your investment portfolio. This means that if your goal is to acquire 10 units, you’d have to complete 10 separate transactions (assuming each transaction is for a different single-family property). However, if you acquire a multi-family property, such as an apartment building with 10 spaces, you’re adding multiple units to your portfolio with a single transaction. Consolidating simplifies your path toward growth.
Generate Passive Income Streams
Managing a property is often more involved than most investors realize. Depending on the size of your property, it may make the most economic sense to hire a property management company to handle maintenance requests, lease signings and even evictions on your behalf. With someone else handling day-to-day tasks for you, you have more time to focus on your investment goals. Setting up your properties to be run by real estate professionals can create a passive income stream that can help fund future investments.
The Housing Market Is Still Unpredictable
Multi-family properties are still widely needed. Thanks to low buying inventory, high asking prices and startling mortgage rates, the housing market continues to be quite volatile. As if that wasn’t enough, the Federal Reserve could very well raise the federal funds rate again before 2024. In an effort to combat inflation, the Fed raised the interest rates almost a dozen times, resulting in a rate range of 5.25% to 5.5%—the highest it’s been in more than two decades.
All these factors are likely keeping single adults, newlywed couples and young families away from buying their first home and weathering the housing market storm in a rental.
Best Practices
As someone interested in purchasing a multi-family property, there are a few things you’ll want to consider before making the jump.
• Location: This is critical as it can affect occupancy and, therefore, your income. Properties near amenities and public transportation typically yield higher rents and steady tenant interest.
• Financial Due Diligence: Analyze the property’s finances, rental records and leases to gauge profitability. Know the operating costs, other expenses and rent potential to get accurate income projections. Many investors get into trouble because they don’t fully realize the impact of non-controllable expenses (e.g., taxes, insurance), which can impact their returns.
• Physical Inspection: Thoroughly inspect a property to identify any maintenance issues and necessary improvements and appropriately underwrite any capital costs.
Keep in mind that even the most well-researched investors still face challenges. With renting, you’ll always have the risk of tenant turnover. However, there are a couple of ways to combat vacancies. First, try fostering a strong community atmosphere. Host activities, respond to maintenance requests promptly and consider offering renewal incentives to entice tenants to stay longer.
Second, be sure to regularly compare your rent prices to your competitors. Look at what amenities they’re offering in comparison to yours. You may need to adjust your rent prices to properly align yourself with the market.
Final Thoughts
Real estate investing requires hard work, persistence, and substantial funding. There’s also a lot of moving parts. But those who weigh the pros and cons of different investment types can make things simpler for themselves.
With real estate, you’re playing the long game. You probably won’t see a return on your investment right away. However, as properties appreciate in value, you can subsequently have your rent rates reflect the building’s increased worth.
CRE isn’t just making room for more businesses. Dedicated investors can provide people with opportunities to make homes for themselves and their families. Everyone needs a place to live, and affordable housing is scarce nationwide. Those who want to make a positive impact on their community can certainly do that through commercial investments. There’s nothing wrong with helping others while simultaneously building a strong business. In fact, it’s the best kind of business to build.
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