Are you thinking of buying your first multifamily rental property? Congratulations! You're about to embark on one of the best financial decisions you can possibly make. In this video, you'll discover why you should invest in multifamily real estate and the five steps that will help you acquire your first multifamily rental property.
Why Invest in Multifamily Real Estate?
Multifamily real estate is the best investment that you can be a part of. It’s not crypto, stocks, your company's 401k plan or Roth IRA. You should be investing in multifamily real estate right now and here’s why:
#1. It's a Hedge Against Inflation
As property values increase, rents tend to increase as well. So if you own multifamily real estate, you can start charging even more for rent as the impact of inflation continues to climb. Also, material and labor costs tend to keep up with the rate of inflation, which makes things more expensive to buy and renovate, meaning more people will continue to rent, which is good for you when you own multifamily real estate.
#2. There are Huge Tax Benefits
One of the major tax benefits from owning multifamily is cost segregation depreciation. This allows you to accelerate the depreciation on the asset and make more money from your rental income, offset that cost through cross segregation appreciation, allowing you to pay less taxes. This is a very powerful method.
#3. The Demand for Housing
Right now demand for housing is high and inventory is limited so people are continuing to rent. They're also sitting on the sidelines because interest rates are high and they don’t want to pay a 6- 7% interest rate. In addition, college grads have high student loan debt, which affects their debt-to-income ratio. That makes it hard for them to qualify for a loan, especially just coming right out of college. So they will continue to rent. Moving forward, as school becomes more expensive, they will continue to be more of a renting economy.
#4. Economies of Scale
For those of you that are trying to buy one house at a time, it is difficult to hit economies of scale because most likely that property is not cash flowing enough to begin to think about putting property management in place.
The reason why you got into real estate is to create time freedom and create passive income. But if you're handling all the phone calls and all the text messages from your tenants, you're not getting to the economies of scale. So that's why we love multifamily real estate. Plus it makes it easier to scale because all your doors are under one roof: one mortgage policy, one insurance policy.
#5. It Creates Passive Income
At some point, if you're thinking about leaving your job or creating more income, you must figure out how to make money when you're not working. One of the most successful investors, Warren Buffett said, “if you do not learn how to make money when you sleep, you will work until you die”. This is what real estate allows us to do, is to create passive income.
How to Buy Multifamily Property
Step 1 - Where to Buy
Step one is to determine where you will buy your multifamily property. There are 3 factors to consider when buying multifamily:
Target a Location
Now, when you talk to other investors or maybe other people in your sphere of influence, they'll say, “Oh, I'll buy a deal anywhere in the country”. The problem with that approach is that you're not focused and you're missing out on opportunities because you're spread out too thin. You don't know where you're looking, which brings me to my second point.
You want to focus on three to five markets, where you can be hyper focused in, where you want to buy that multifamily. That way you won't miss out on the opportunities.
Look at Local Market Trends
There three market trends that I focus on when buying multifamily real estate.
- The first is population size. And a great site to be able to discover the population size of the areas you're considering is citydata. com.
- The second metric is job growth. Are there job opportunities there? What companies are coming there? Because if there's job growth people are moving there. And if people are moving there, they need a place to rent.
- The third thing to look at is the crime rate.
Step 2 - How to Find a Multifamily Deal
Now that we know where we want to buy that multifamily, how do we find the deal? If you're looking for multifamily deals online, using an agent or using the multiple listing service (MLS), look for any deals that have been sitting on the market for 100 days or more. If a deal has been sitting on the market for 100 days or more, there's probably a few issues with that property. Either it's overpriced or it needs work, and it could mean an opportunity for you.
The second way you can find these deals is for sale by owners; using sites like forsalebyowner.com, Zillow, or Craigslist could give you an opportunity to get the right deal, you approach the seller directly by them marketing on one of those platforms.
The third way is direct to seller marketing and we at Freedom Mentor think this is the best way to get the best deals. We market direct to seller before it goes to MLS with an agent or before they list on one of the conglomerate sites. By going direct to the seller we get to structure the best deals, not only from a price standpoint, but also a creative standpoint as well.
Step 3 - How to Analyze the Deal
Once you find a property, how do you know if it’s a good deal? This is the biggest mistake beginners make when getting into multifamily real estate. And there are plenty of “real estate gurus” online that saying you can never lose money doing multifamily deals. Unfortunately, that is the furthest thing from the truth if you don't know how to analyze the deal. Anybody can go out and buy a deal if they have the money to buy a property, but does it cash flow? That's why we're getting into real estate, to cash flow the multifamily property.
Market Cap Rate vs Deal Cap Rate
So the first thing that you need to look for is the market cap vs the deal cap. The rule of thumb that we live by, and it’s not always true, but the deal cap should be at or greater than, or at least equal to the market cap rate. This will allow you to put your property in its best position.
ROI (Return on Investment)
The second thing you want to focus on is what is your ROI. And to know how to do that, you need to be able to look at the actual financials vs. the proforma financials. However, to get to the proforma financials, you need to know what improvements need to be made to get to the proforma numbers that you have outlined. If you're looking for coaching on how to get these numbers, this is exactly what we do.
Income and Expenses
The last thing to do is analyze your income and expense report. To know whether you have a good deal you need to understand the expenses for your specific area and know the market rents and how you can drive them to your pro forma numbers. One site that is a great surface level site is Rent-O-Meter. This is a good place to start, but the best way to get the actual comps is direct comps. Comps that have been rented out, one and two bedroom’s that have been rented out, as close to the asset that you're looking at buying.
Step 4 - Financing Options for Multifamily
The next step when buying a multifamily property is to determine how you will finance your deal.
Traditional Method with a Lender
There are a lot of different lending options for multifamily.
We have a great video called How to Live Rent Free by House Hacking you can watch to find out more about these traditional lending options.
Hard Money Lenders
The next thing that you can think about is developing relationships with hard money lenders. As you go towards more deals that have been sitting on the market for a long time, or you're going direct to seller, hard money may be a great tool in your tool belt to help you get a deal done.
Now, keep in mind, if you're going to use hard money, you need to make sure you're buying the property below market value and able to fix it up so you can refinance out of that loan, pay off your hard money lender and then put a traditional loan onto the property.
Another funding option is raising capital. When you are relying on your own ability to fund deals, it limits what you can buy. The benefit of raising capital is it expands your ability to buy larger deals and buy more often. You want to think about developing those relationships and understand how to raise capital so that you can buy bigger and bigger deals and more deals at a faster pace.
The fourth option is creative financing. This is our preferred technique; structuring deals that win not only for us and our students but win for the seller. These creative strategies allow us to move into deals without worrying about our credit or worrying about getting financing and moving into something creative so that we can get the deal done.
Step 5 - Optimize Profits
There's two areas that we focus on when optimizing profits: increasing income and decreasing expenses.
When you're looking at increasing the income, you are looking for opportunities. Opportunities to think about are:
- Onsite laundry
- Adding storage (if you have a basement, clearing out that basement and adding storage to create additional income from your tenants)
- Increase rents to match the proforma and market value.
- Cosmetic Upgrades – possible unit upgrades are paint, redo the floors, add new kitchen countertops, add new cabinets, redo the bathroom, add laminate vinyl plank, and new vanities. All these things can help you push that rental income higher.
Next, you want to look at decreasing expenses. One of the ways you can decrease expenses is implementing RUBS, which is a ratio utility billing system. And all that is doing is looking at, as the new landlord, what utilities you're responsible for versus what the tenants are responsible for and decreasing your expenses by giving those utilities back to the tenants.
You also need to look at your vendor contracts. These are very important because it can save you thousands of dollars per month. Looking at the landscaping contract, the pest control contract, and most importantly, your management contract. If there's management on the property, what are they charging you on a percentage each month of your gross revenue? What are their upcharges for their labor costs, material costs? You want to look through that with a fine tooth comb to make sure you are not overpaying the management. These two items will absolutely help you optimize your profits when buying a multifamily property.
Case Study: 6-Unit Multifamily Investment
I implemented these exact same strategies when I purchased my own multifamily property. It’s a 6-unit property, which does fall within the category of commercial real estate, but I followed the same 5 steps outlined above.
The first thing we focused on was the market. This is a very niche market, and we knew we wanted to own real estate within this market. Now we focused on this market because it's very desirable, properties like this never really hit the market, nor are there a lot of properties like this available within this market. This is a very tourist driven area. So it goes from $30,000 people in the winter to $100,000 people in the summer.
How Did We Find the Deal?
We found this deal going direct to the seller with the techniques that we teach our students. Now, I purchased this multifamily property for $850, 000 and the value of the deal if it was listed would have been around 1.2 million. That gave us $350,000 instant equity when we closed on this deal. There were things we had to do on the property to fix up, to bring it up to the level we have it now, but that's how you get the best deals done.
The next question is, how did I fund this deal? Well, I funded this deal from a client of mine who I had a relationship with. So I raised the capital, and I own 40% of this building and did not put a dollar of my own money into the deal to purchase it. And this needs to be your mindset; you can buy deals without using your own money. I found the deal, raised the money, brought the deal together and now I'm a 40% owner of this property.
Optimize the Property
This 6-unit multifamily is in a great location. The homes in the neighborhood can range anywhere from $800,000 to $1.2 million, so the location is desirable. And it's close to the beaches and parks so I knew the rental demand would be significant. Another important thing I considered when looking at this deal was the condition of the building on the outside. The outside cedar shake and and the roof were in good shape, but the inside needed work.
The units were about 50% occupied when I purchased this building, and they were about 60% below market rent. So we took all the tenants out of the building and began to go through the building and clean it up. One unit was a complete disaster, so we did a gut renovation there, but with the other units we made cosmetic improvements like the floors, we painted, and upgraded some countertops. All these upgrades allowed us to increase the building's value.
Other Capital Improvements:
- A new fire system.
- New gas heating systems.
- Converted the back yard into parking lot, which allowed more parking for the tenants. The yard was nice, but we found more value in adding parking for our tenants.
- We insulated the entire outside of this building using a local subsidized energy program. Using that program we paid one third of what it would cost to insulate the building.
- We installed coin laundry in the basement so we can collect more revenue and increase the NOI of the asset.
Our rental income right now is $13,250 a month and it throws off a ton of capital for us. This is just one example of the type of deal you could be doing when you know how to do this. And when you have the right process, you can own multifamily real estate too.
Every Successful Real Estate Investor Has a Mentor
If you're looking to take your real estate to the next level, apply to our mentorship program. Get your mentor here: Freedom Mentor Apprentice Program.
Questions or comments? Text FREEDOM to 305-315-8030.