BiggerPockets

Say, I purchase a small distressed apartment complex for 500k that is valued at 600k. I renovate the apartment using an equity line (Is this a good idea, in terms of the source of funds?) My goal is to renovate the apartment and get it to 100% occupancy and sell it. What could go wrong with this transaction? What are the hidden costs? Assuming it takes me six months to turn it around, what sort of return would I be looking at? Or what factors would determine my return? What other strategy could I employ? How do I mitigate what could go wrong? Any thoughts welcome.

Thanks @Prashant P.It is a 24 unit apartment, so it is a commercial property. It is vacant so it is a complete rehab. So what would be my funding options?

Here are just a couple things to think about, but to sum it up, a lot can go wrong:

- you said the 24 unit apartment is vacant...why? What happens if even after you make some renovations/repairs it is still not easy to rent out? How long will you be able to hold it?

- $100K is nothing in terms of renovations for a structure of that size...what does it need done to get it in shape to rent? Will you have access to additional funds if the equity line is used up?

- Again, I do not know what the property needs in terms of renovations but a complex of that size could take a long time. Do you know reliable contractors that can get it done on time and on budget?

Basically, problems can happen at several stages.

1) During renovations: you could come across major problems not uncovered during the inspection and use up all your money before all the units are renovated...how then will you finish the project?

2) After renovations are completed: your next step is going to be to get the units rented out...that is a lot of units to get rented. How long do you expect it to take to get to a normal vacancy rate? How will you fund the holding costs during this time?

3) Selling the property: Have you run all the numbers to make sure that once the units are rented it would make sense for an investor to buy at a price right to make you a nice profit.

Overall, this seems rather risky and will need a lot of reserves to cover potential problems and holding time. Hopefully that helps in your analysis.

@Prashant P. Thanks I will look further into using a bridge loan.

@James Vermillion Thanks for your questions it really helps my analysis. It seems then a better approach for now given my starting point would be to purchase an already functioning 24 unit apartment complex and upgrade the building the complex. How does the rehab work if it already occupied? Do you have to wait till each occupant vacates or is there some other work around?

@Marc Bodinger Thanks. The best part is that I am just looking at this scenario of action. I think a different approach is required.

If a properties value is based off of the NOI and CAP rate then if the apartment building is empty weouldnt its value be 0?

Here are the most basic questions you need to answer:

- What is the full-occupancy NOI after repairs?
- How much will rehab cost?
- What is a reasonable guess at your local cap rate?
- How much are you paying for financing and how long will you hold?

Basically, to determine if this is a good deal, the formula is:

Profit = ARV - Purchase Price - Rehab Costs - Fixed Costs

The after repair NOI and cap rate will help you determine ARV, you'll need to tell us the rehab costs and the bulk of your fixed costs will likely be financing and sales costs.

Once you have that information, you'll be able to plug it into the formula, determine your profit, and if you have an idea of how long you will have held the property, you can determine ROI/yield.

Then it's up to you to determine if the deal looks good based on those numbers.

You've received some excellent advice here -- just want to underscore what has been implied in several of the comments:

Discard the idea that the property is "valued at 600k" and think about finding a purchase price that will allow you to earn an acceptable profit. Start with a realistic estimate of the property's value after it is repaired and rented: Gross potential income, minues allowance for vacancy and credit loss, minus operating expenses to give you the NOI. Find out what is a conservative cap rate for apartment buildings in your area and apply that to the NOI for your estimate of value after repair

Then make a realistic estimate of what it costs you to get the building to the point where it is re-habbed and at stabilized occupancy. Don't forget to include all of your carrying costs while working on the actual construction (real estate taxes, insurance, electricity, leasing commissions, debt service, etc.). This is the total you have into the deal, not counting the purchase price.

What the property is ultimately worth (per cap rate and NOI), minus your total costs above is the most you could pay for the property just to break even. Of course, breaking even is not what you want to do, so --as in the post before last -- to achieve a desired profit of $X you have to purchase the property at $X less than this break-even amount.

Roselynn, this book provides a fantastic overview of the due diligence needed to analyze properties such as your multifamily deal.

"What Every Real Estate Investor Needs to Know about Cash Flow... And 36 Other Key Financial Measures" by Frank Gallinelli.

The details definitely matter for any property. But when one takes on a large project, the details could be the reason it turns out badly. I'd be extra cautious in underwriting the project because it'll likely take a considerable amount of effort and capital to renovate the units and get fully absorbed. But if it's done at the right price, then it could be a great project.

Good luck!

Talk about sweat equity! Awesome story @Brandon Turner!

For me, $500k seems like way to much of an entry price especially for your first deal (I assume it's your first since you're posting in the starting out forum). If you have access to that kind of capital, why don't you start with something much smaller?

@Frank Gallinelli I didn't know you were on BP. Your book is a great resource and guide (keep it on my desk)!