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Why Apartment Buildings Are Such Popular Investments Today

In recent years, apartment buildings have become quite a popular investment option for real estate investors interested in finding good yields for their money. With mortgage underwriting guidelines tightening up considerably for residential properties (1 to 4 units), more real estate investors have decided to acquire apartment buildings.

As interest rates have fallen dramatically, many apartment and commercial mortgage rates have also dropped to incredibly low ranges somewhere within 3% to 5%+. The lower the rates and the mortgage payments, the higher the monthly cash flow.

Lower Vacancy Rates and Increased Tenant Demand

Ironically, the millions of homes foreclosed in recent years and the tightening up of government-backed or insured residential mortgage loans have forced previous homeowners into apartment units. As a result, apartment vacancy rates have fallen significantly in many regions.

The combination of lower vacancy rates and increased tenant demand has led to higher monthly rental income for apartment owners. The better the apartment owner’s Net Operating Income (NOI) figures, the higher the property valuation at a later date.

Smaller Apartment Buildings Are Easier

small apartment building

It's much easier to purchase and manage a small apartment building.

It is much easier to purchase and manage a small apartment building (10 to 20 units) as opposed to several different rental homes.

There will be less demand in various regions for smaller apartment buildings partly since there should be less competition from larger investment groups such as R.E.I.T.s, Pension Funds, Equity and Hedge Funds, and even wealthy foreign investors.

Annual yields of apartments will offer much higher rates of return than stocks, bonds, or commodities and are attracting more interest from small and large investors, domestic and foreign.

Smaller apartment buildings offer higher cash-on-cash returns to investors than many larger apartment buildings.  They are also much easier to manage by the owner or an onsite property manager. And a small apartment investor will typically earn more money per unit each month when compared to larger apartment buildings.

Since there are more small apartment buildings today for sale, there will be more motivated apartment building sellers who are willing to sell quicker at much lower prices. Accordingly, many sellers are more flexible with their pricing and potential seller financing options.

Since mortgage rates continue to hover near record lows, this will greatly improve the monthly cash flow options for property owners. In addition, the lower the interest rate on a mortgage, the faster the debt will amortize so that it pays off much quicker.

One of the better ways to reach early retirement is to own one, two, three, four, or five plus free and clear apartment buildings.

How to Determine the Apartment’s Value

How do investors and sellers best determine the apartment building’s property value today? First, they may begin with something known as the cap rate (capitalization rate). The cap rate is the ratio of a property’s yearly net operating income as compared to the property purchase price or cost to acquire the building.

The higher the cap rate, the higher the perceived risk due to factors such as location, building quality and design features, and other factors. The short explanation of NOI (Net Operating Income) is that one calculates their most recent year’s gross income and subtracts the annual expenses such as maintenance, utilities, management, property taxes, and insurance.

As rents have increased rapidly in many areas these past few years, then both gross rents and NOIs have increased, too. The increased NOI figures then have led to much higher apartment building values for many property owners today.

Lenders prefer that properties have NOIs that will be greater than the proposed total debt service so that the properties do not have potentially negative cash flow. Some lenders consider and allow a 1.0 (“Breakeven”) Debt Coverage Service Ratio. Other lenders want to see much more positive net annual income levels, so they prefer 1.25, 1.35, or higher DSCR numbers.

Ask These 5 Questions

When purchasing small to large apartment buildings today, an investor should consider first asking themselves these questions:

  • What type of mortgage loan can I qualify for today?
  • Which areas tend to have the most stable vacancy and employment rates?
  • What is my true net cash flow per individual unit?
  • Is this a better investment than residential?
  • Do I want to retire sooner rather than later?

With apartment rates hovering near the 3% to 5% range today, the much improved cash flows will work better than ever for investors looking to find exceptional apartment investment yields with less risk than many other investments today.

Do you want to work for your money, or do you want your money to work for you? Apartment buildings are some of the best ways to generate exceptional monthly cash flow for investors today, especially now that interest rates are near record lows.

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About the Author...

Check out Rick’s new book The Credit Crisis: 10 Years and Counting (August 2017 publishing date) as well as The Credit Crisis Deals: Finding America’s Best Real Estate Bargains.

Rick Tobin has a diversified background in both the Real Estate and Securities fields for the past 25+ years. He has held seven (7) different Real Estate and Securities brokerage licenses to date. He also writes college textbooks and real estate courses in several states for some of the largest educational firms nationwide.

Rick has an extensive background in the financing of residential and commercial properties around the U.S with debt, equity, and mezzanine money. His funding sources have included banks, life insurance companies, REITs (Real Estate Investment Trusts), Equity Funds, and foreign money sources.

You can visit Rick Tobin at RealLoans.com.

Comments

  1. Jim Court says:

    As a small investor, I have always been passionate about real estate, providing housing, helping people, and exercising my creative talents. Starting at 14 years old as a part-time maintenance man who worked 60 hours a week, to later as both head maintenance and property manager of large suburban apartment complexes. The current downturn in real estate has left me in a place I have never been. Many renters lost jobs, multiple painful evictions, destruction of once excellent credit and lack of substantial income seems to have pushed me out of the loop. What can I do to continue to use both my talents and passion for this industry based on the above factors. I know I will eventually recover but I do not want to sit idly by and let all of the opportunities pass me by. I strive to be a very decent, ethical, and caring person who lives life by the golden rule. I just wish I had a little more access to the ‘gold”. Any and all opinions and ideas would be welcome. I truthfully think apartments offer much more focus as mentioned above and are much more efficient to operate.

    Sincerely,

    Jim Court

    • Donna says:

      Jim, if you still own an apartment building with over four units thereby classifying it commercial property, you can submit a cost segregation study to the IRS and recover 5 to 10 percent of property taxes you have paid. Get in touch with me if you want details.

  2. Dasha says:

    I would like to puchase some of those, just it is very difficult to get a loan. hat is a problem.

  3. Financing Apartments can be challenging, including DUE ON DEATH loans. Get a copy of the bank’s “Note” before you even apply for a loan. I have applied for a refi loan with a reputable bank, only to find that MY DEATH would be considered a DEFAULT. All defaults increase the interest rate by 5 percent immediately, and the bank can demand full repayment.

  4. David Frack says:

    What is a cost segregation study?

    • Cheryl says:

      cost segregation is the process of identifying personal property assets that are grouped with real property assets, and separating out personal assets for tax reporting purposes.

  5. valerio pettenuzzo says:

    small time investor for 35 years? Now i think i was a naive landlord.I must say Real Estate is very forgiving as we still made money.We would have made more with more R.E EDUCATION?Thank you for your site.Val.

  6. Joe Panchyshyn says:

    One of the things that I have a problem with when assessing the CAP rate is that listing Agents tend to ignore the fact the if the property is located in the City of Toronto The Buyer is subjected to two land transfer taxes instead of one and on a million $$$ property it inflates the Buyers Purchase price $32,200. Sellers must take this into account and Agents have the responsibility to tell them.

  7. saul schwartz says:

    hi, im a real estate agent, i know some multifamily buildings in brooklyn n.y. that are a 5 cap rate, buyers want a bigger a cap rate, do you think if i target hedge funds i will a greater success rate? they would buy a 5 cap easier? plkease advise, thanks
    saul

  8. Rick Tobin says:

    @ Saul: Since so many hedge funds and investment groups are locating out your way near New York City, then possibly you may find some interested investment groups for these apartment buildings. Best of luck to you with your properties.

  9. Carlos Reyes says:

    I’ve being onsite resident manager for 18 years in a good market closed to LAX airport I feel now that is time for me to doit for my own benefit/retirement. Let me know about your program.

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