Should You Invest in a Multifamily Home?
For an investor, multifamily homes can equal more income and a faster track to financial freedom. But they’re not without their challenges.
Whether it’s a massive apartment complex in a downtown hotspot or a simple duplex or triplex in the suburbs, a multifamily property requires careful consideration—not to mention serious financial preparation — before diving in.
Average Costs of a Multifamily Home
Like any real estate, the costs of a multifamily home depend on a number of factors — location, condition, age of the property and more. Generally, a multifamily unit (one rentable section of the property) is on par with other nearby single-family homes, at least from a price-per-square-foot standpoint.
Up front, you’ll need to budget for expenses like the:
- Down payment
- Closing costs
- Property inspections
- Renovation and repair costs
One way to save cash — at least on the front-end of your investment — is to live in one of the units and utilize owner-occupied financing for the property. This allows you to take advantage of low down payment requirements that aren’t typically offered to investors.
On a regular basis, you’ll need to cover things like:
- Property insurance
- Ongoing repairs and maintenance
- Management of the property (if you choose to outsource that)
- On-site security
- Landscaping and common area upkeep
You’ll want to estimate these costs as accurately as possible before deciding to purchase a multifamily home (and before setting your rents); however, keep in mind that they can and will change over time. Insurance premiums fluctuate, and repairs may be light one year and extremely costly the next. Be sure you have a healthy financial cushion to cover these unexpected costs just in case.
Multifamily Red Flags
Choosing the right property is the first step in ensuring a successful multifamily investment — and that’s harder than it seems. Multifamily properties are at a premium, and you may have to sacrifice on location or condition of the property if you’re particularly tight on budget.
Here are some red flags to steer clear of when looking for your investment property:
- Slim margins: Look at the full financial picture: the costs of the property, the expenses to operate and maintain it, and all the other costs that come with it. Compare that to your potential income. Keep in mind you might not be at full capacity immediately (or ever). If margins between costs and profits are small, it might not be the best fit. One unexpected repair or high-vacancy month could send you into the red. Make sure to calculate your potential cash flow and ensure there’s a healthy cushion in case of emergency.
- Bad repair jobs: Always have a qualified building inspector check out the property before you make a move. If there are deficiencies, get a contractor to estimate the costs to repair them. If repairs have already been made, ask the inspector to look at the quality of those repairs. Shoddy work could indicate more problems to come.
- Unusually high existing rents: Just because a property has high rents now doesn’t mean it will always command those. Remember that the housing market is cyclical, and make sure you’ll still have healthy margins if those rents come down in a recession.
You can also look at the property’s building class to get a sense of what’s in store. Class C and D are older, lower-quality properties that likely have some neglect or maintenance issues at hand. Their location might also be less-than-ideal, indicating potential crime or trouble collecting on rents.
Having the right team can help you steer clear of some of these red flags and home in on the best property for your investment goals. This should include a local real estate agent with experience in multifamily, an investor-friendly mortgage lender and, in most cases, a real estate attorney.
You’ll also want to:
- Consider hiring a property manager: A property manager can help take the day-to-day hassle and headache out of your multifamily investment. They’ll collect the rent, manage any repairs and communicate with tenants on your behalf. Property managers can be particularly helpful if you’ve invested in an area you’re unfamiliar with, as they come with distinct local knowledge and expertise.
- Get to know your property’s history: Request copies of all existing leases, expense and income statements, utility bills, rent payments, service contracts and more. Make sure it all aligns with your expectations of the property, and investigate any inaccuracies or suspicious activity. You should also talk to longtime tenants for honest feedback on the property and its previous management.
- Have a financial cushion: Ample cash reserves are vital in multifamily investing, especially if you have a large property with dozens of tenants. Assume you will always have some vacancies and that some tenants will fail to pay their rent on time or even consistently. Make sure you still have plenty of funds to cover the mortgage, maintenance, insurance and other costs of the property should something go awry.
Multifamily properties are harder to come by than single-family ones, so finding one that meets your needs and is in your price range might take some time. Be thorough in your search, check reputable investment property websites and vet each property you consider carefully. Due diligence is crucial if you want to ensure a profitable and successful investment.