How to Invest in Multifamily Real Estate

Interested in investing in multifamily real estate? Investing in the multifamily real estate market can be a great way to earn passive income. It’s a popular market, as there are options for every price point. While searching for the best investment, be sure to consider the financing for the type of multifamily property you are pursuing as well as finding the best interest rate.

With the proper cash flow coming from your rental properties, your monthly income can ultimately set you up to live in luxury — and make money while you sleep. By following these steps and conducting thorough due diligence, you can set yourself up for success and grow your wealth through multifamily real estate investments.

What is a Multifamily Property?

A multifamily property is a type of real estate property that is designed and designated for multiple separate housing units within a single building or several buildings within a complex. These units are typically rented out to multiple tenants or families, making it a residential investment property that generates rental income from multiple sources.

Examples of multifamily properties include apartment buildings, townhouses, duplexes and condominiums. Investing in multifamily properties can be a lucrative opportunity for real estate investors looking to diversify their portfolio and generate passive income through rental payments from tenants.

Top Tips For Investing In Multifamily Real Estate

Investing in multifamily real estate can be a lucrative venture, providing you with a stable source of income and potential gains. However, successfully navigating the complexities of this market requires careful consideration and strategic planning. 

Find Your 50%

To find your 50% by calculating the net operating income (NOI) of a multifamily property, you need to follow a few steps. Start by determining the expected income and expenses for the property. This includes rental income, storage fees, parking income and any other revenue sources, as well as expenses such as property taxes, insurance, maintenance costs and property management fees.

Once you have determined the expected income and expenses, halve the expected income to estimate the expenses. This is done by taking the total expected income and dividing it by 2. By halving the income, you are essentially allocating 50% of the income towards expenses.

The difference between the estimated monthly income and expenses is your net operating income (NOI). This is the income that is left over after you have accounted for all the expenses related to the property. It represents the property's profitability before considering any debt or financing costs.

To calculate the net operating income, subtract the estimated expenses from the halved expected income. For example, if the expected income is $6,000 and the estimated expenses are $3,000, the net operating income would be $3,000.

Calculate Cash Flow

To calculate your cash flow, subtract the monthly mortgage payment from the property's NOI. This simple calculation will give you an estimate of the monthly cash flow generated by the investment, allowing you to assess its profitability.

Figure Out the Cap Rate

To figure out the cap rate for a multifamily property, calculate the monthly NOI, multiply it by 12 to get the annual number and then divide that by the property's current market value.

It is important to understand that a higher cap rate generally indicates higher risk and potentially higher returns. This is because properties with higher cap rates are often considered riskier investments, while properties with lower cap rates are considered safer but offer lower returns.

Things to Consider When Investing In Multifamily Properties

Choosing the right multifamily property to invest in requires careful consideration. From location and rental demand to property maintenance and cash flow potential, there are several factors to evaluate. Below are the key aspects to look for when investing in multifamily properties, ensuring that you make informed decisions and maximize your return on investment.

Location

Location plays a crucial role in determining rental demand for a property. Renters are drawn to locations that offer convenience and access to amenities such as schools, shopping centers, public transportation, and recreational facilities. Proximity to employment hubs and major transportation routes is another important factor that makes a location appealing to renters.

High population growth is a key criterion for selecting a multifamily property as it indicates a strong demand for rental housing. Another important factor is high rental yield, which measures the profitability of an investment property. A high rental yield indicates that the rental income generated from the property is significant compared to its overall value.

Well-maintained neighborhoods also play a significant role in attracting renters. Neat and tidy streets, well-manicured lawns and attractive landscaping create a positive impression and make the neighborhood more appealing. Safety and security are also major considerations for renters, so neighborhoods with low crime rates and good lighting are highly desirable.

Total Number of Units

The total number of units in a property plays a crucial role, especially when considering the cost-effectiveness and risk associated with their investment. For beginner investors, it is advisable to focus on properties with a smaller number of units such as duplexes, triplexes, and four-plexes. These types of properties offer several advantages, primarily their affordability and lower risk. As compared to larger apartment complexes or commercial properties, duplexes, triplexes, and four-plexes often have lower purchase prices and require less capital to invest.

Additionally, smaller properties offer better control and management. With fewer tenants, it becomes easier to oversee the property's maintenance and attend to any tenant concerns promptly. This leads to a lower risk of vacancies and potential damage to the property, thereby safeguarding the investor's financial interests.

Potential Income

Potential income analysis for a multifamily property involves evaluating various factors such as current market rental rates, the area's vacancy risk, comparable properties' rental rates, the property's net operating income, market demand, location and amenities. This analysis helps assess the property's revenue potential and its ability to generate income.

To begin, research and understand the local market conditions regarding rental rates. This can be done by studying online listings, talking to local real estate professionals and consulting rental market reports. Comparing these rates to the property in question provides an idea of its revenue potential.

Costs

Investing in multifamily properties can come with significant costs that you should be aware of as a potential investor. The cost of entry for purchasing a multifamily property is typically higher compared to investing in single-family homes. This is because multifamily properties tend to be larger in size and require a higher investment upfront.

When applying for a mortgage for a multifamily property, lenders take various factors into consideration. They assess the borrower's creditworthiness, income and financial stability. Lenders also evaluate the property itself, looking at its income potential, location, and condition. These factors influence the interest rates and terms offered by lenders.

In addition to the mortgage expenses, there are other costs associated with investing in multifamily properties. Renovations and repairs may be needed to make the property more attractive to potential tenants and maintain its value. Taxes, insurance, and other fees related to owning a multifamily property can also add up over time.

The Seller

The seller's motivation can have a direct impact on the purchase price of the property. Understanding the seller's motivations can help you negotiate a better deal. If a seller is motivated to sell quickly, they may be more willing to accept a lower offer.

Understanding the seller's history with the property is crucial in assessing its value and condition. If the property has been poorly maintained by the seller, it may require significant repairs and renovations, which can affect its value.

How To Start Investing In Multifamily Real Estate

When searching for a multifamily home, there are several factors to consider in order to find the most suitable property.

Step 1: Find A Multifamily Property

A desirable location is key, as it can greatly impact the success of renting out the units. A location with good school districts is especially important for families with children, as it increases the property's appeal to potential renters. In addition, being situated near public transportation is also advantageous, as it provides convenience for tenants who rely on public transit for their daily commute.

Another factor to consider is the availability of a variety of shops and amenities in the vicinity. Renters often seek convenience and proximity to grocery stores, restaurants, shopping centers and recreational facilities. Being able to offer these amenities near the property can make it more desirable to potential tenants.

Step 2: Choose A Mortgage Loan

Start by determining the types of mortgages available for multifamily properties. These typically include conventional mortgages, FHA loans, and VA loans.

• Conventional mortgages: Conventional mortgages are offered by private lenders and are not backed by any government agency. They often require a higher down payment and have stricter eligibility requirements. However, they offer more flexibility in terms of loan amounts and property types.
• FHA loans: This type of loan is insured by the Federal Housing Administration and are designed for low to moderate-income borrowers. These loans have lower down payment requirements and more lenient credit guidelines. They are a popular option for first-time homebuyers and owner-occupied multifamily properties.
• VA loans: These loans are available to veterans, service members, and their eligible spouses. These loans are backed by the Department of Veterans Affairs and offer low or no down payment options. VA loans are only available for multifamily properties if the borrower intends to live in one of the rental units.

When choosing a loan program and provider, it is important to consider the interest rate, loan terms, closing costs and fees associated with the loan. Borrowers should consider their credit score, debt-to-income ratio, income level, assets and any ownership of other investment properties. It is crucial to shop around for lenders to compare interest rates and loan terms. Different lenders may offer different rates and fees, so it is important to get multiple quotes. 

Step 3: Make an Offer

Once you have identified a property and determined its market value, it's time to make an offer. Your real estate agent will play a crucial role in this process, as they have the knowledge and expertise to guide you through the negotiation phase. Communicate your budget and expectations clearly to your agent, so they can help you determine the highest offer you can make.

It is common for sellers to respond with a counteroffer, which could include a different price, terms or conditions. Your agent will inform you of the counteroffer and guide you on whether to accept, reject or counter back. Be prepared for this back-and-forth negotiation process until both parties agree on a final sale price.

Once all parties reach an agreement, your agent will help you finalize the offer by completing the necessary paperwork and formalities. It is essential to stay in close communication with your agent throughout this process, as they will ensure that all the terms and conditions are met.

Step 4: Renovate and Prepare for Tenants

Renovating and addressing repairs is crucial in creating a desirable living environment for tenants in preparation for renting out a multifamily property. Neglecting necessary repairs can lead to tenant dissatisfaction, increased turnover rates and potential legal liabilities. Cosmetic renovations can also enhance the appeal of the property, attracting quality tenants and potentially commanding higher rental rates.

To ensure a successful renovation process, it is important to prioritize repairs outlined in the inspection report and focus on ensuring compliance with local building codes. This includes fixing structural issues, addressing plumbing and electrical problems, repairing leaky roofs and ensuring proper ventilation. These repairs are essential for providing a safe and functional living environment for tenants.

Once the necessary repairs have been completed, attention can be turned to cosmetic renovations. Upgrading light fixtures, paint colors, and kitchen improvements can greatly enhance the visual appeal of the property. By choosing modern and neutral colors for the walls, installing energy-efficient lighting fixtures and updating kitchen appliances, the property can attract tenants looking for a modern and stylish living space.

Multifamily Property Styles

Within these classes of multifamily real estate properties is the style of the buildings. How many floors and apartments will help determine what kind of investment property you are interested in working with.

• Low-rise and garden-style are typically three or fewer floors with anywhere from 5-50 apartments. These usually do not have elevators and are considered a “walk-up”, though some may accommodate an elevator.
• Mid-rise range from 4 to 10 floors with some as high as 12, with elevator access. There can be 50 to 200 apartments in these buildings, with amenities offered.
• High-rise buildings range in size depending on zoning laws. They are more than 12 floors and up to 40 stories. There may be a mix of apartment sizes and layouts as well as up to 20 apartments per floor. Many amenities are offered at these buildings because the sheer size allows the space for extras, and the amenities draw tenants.

Multifamily vs. Single-Family Properties

There are a few pros and cons to be aware of when it comes to investing in multifamily properties vs. single-family properties:

Multifamily Investment Properties

Pros:

• When committing to an investment opportunity, you think about the time and effort that you need to put in. Investing in a multifamily property means just one property to manage, service and care for. If you have 10 apartments versus 10 single-family homes, your 10 apartments are in one place. You replace one roof and hire one landscaper for one yard. Your drive to take care of business takes maybe one hour instead of 10. Even better, you can live in one of the apartments and potentially live rent-free while staying on top of maintenance.
• Cash flow — the reason you are in this business — has a higher likelihood with a multifamily residence. Multifamily means multiple checks coming in each month. Even with a vacancy or two, you are earning money. If you have only a single-family home and it’s vacant, you’re getting nothing at all.
• Your portfolio will be more impressive. Growing your investment portfolio can be faster if dealing with a multifamily property. The number of units you obtain per transaction will increase much faster than with purchasing single-family properties. It’s also easier to sell them when the time comes because multifamily properties have many eager and willing investors ready to take over when you’re done.

Cons:

• Multifamily investments may not be for everyone. Dealing with many tenants and the upkeep of a multifamily building can be stressful, expensive and hard and sometimes should be reserved for seasoned investors. A single-family investment may make it easier to get your feet wet and see how you like it, while not putting too much money into it right away. It’s expensive to invest in multifamily properties.
• More wear and tear is also a fact of life for multifamily investors. Sometimes in these buildings, you get tenants who are less concerned with keeping up the apartment building to your standards. So, you will be responsible for a lot of cleaning and maintenance when the property turns over, which is usually more often than with single-family rentals.

Single-Family Investment Properties

Pros:

• It’s much less expensive to invest in a single-family home than multifamily real estate. With a lower loan amount, you can take on less risk and still add to your portfolio and see how you like having a rental property. Starting with one single-family rental is more manageable for someone new to real estate investing and still enables an investor to achieve passive income.
• Your buyer pool is always ready. Single-family homes can be sold to buyers or investors, leaving many people willing and able to purchase if you choose to sell. The rental market for single-family homes is also great — many people would prefer to have a whole house and yard to themselves instead of risking loud, rowdy neighbors upstairs or downstairs like in a multifamily dwelling.
• In a single-family investment, you can save time and money with the right tenant. It’s easier to feel like a single-family home is their home, so they take better care of it and stay longer. A good long-standing tenant will keep giving you a reliable monthly income from your investment property for years to come.

Cons:

• If you have a vacancy in your single-family investment, you are losing money. You still have to pay the mortgage and taxes. You still have to maintain it for potential showings and renters. You are still putting money into it and getting nothing in return until you get a signed lease.
• If you have several single-family investment homes, maintenance can add up. If they all need new roofs or a new air conditioner, a furnace or anything else, it can get expensive. You are taking care of each property separately instead of just one of many things like in a multifamily property.

Multifamily vs. Commercial Properties

While multifamily real estate is considered commercial real estate because it’s an investment, there are still notable differences between multifamily properties and other types of commercial properties. For example, office, retail and industrial may have different lease terms and owner responsibilities.

As far as lease terms for multifamily real estate, they generally are one-year leases with the tenant paying for utilities and the property owner paying for the mortgage and taxes. Retail and industrial leases can be for 5 or 10 years, giving a much longer and more dependable monthly income to the owner. More options for the lease terms are available for office, retail and industrial properties. These are more commonly known as gross leases or net leases. A gross lease is similar to a residential lease, which has a base rent and the landlord covers taxes and maintenance. In a net lease, the tenant is responsible for the rent as well as a portion of the taxes, insurance, maintenance and some operating expenses.

Ways to Invest 

• Purchase a building: Purchasing a building is the most direct form of investment. It’s your money and you have the most control — and the most risk. But it can also give you a great return on your investment and lead to a great portfolio.
• Apartment REITs: With less risk, investing in a REIT can be a great way to get into the multifamily real estate market. Here, you are among a pool of numerous investors and don’t need to worry about managing or buying the properties yourself. You receive a steady stream of investment income.
• Crowdfunding: Raising money through real estate crowdfunding is a seemingly easy enough way to get into investing. You fund your investment through alternative finance — raising the money in small amounts from several different sources. You can see Benzinga picks’s of the top real estate crowdfunding platforms for multifamily real estate below.

With this information on investing in multifamily real estate, you should be well on your way to planning how you're going to invest and what type of property you’d like to invest in.

Unlocking Passive Income

Investing in multifamily real estate offers passive income and portfolio growth. Understanding property classes, styles and financing options is important. Challenges like tenant management and maintenance exist, but there is potential for reliable cash flow and portfolio expansion. Single-family investments and alternative options like apartment REITs and crowdfunding allow for diversification without direct property management. The multifamily real estate market is expected to recover and see increased demand, offering the potential for impressive returns.

With all of this information on investing in multifamily real estate, you should be well on your way to planning how you're going to invest and what type of property you’d like to invest in. Go increase that portfolio and start earning some impressive passive income now. 

Frequently Asked Questions