Buying apartments can be a great way to invest in real estate, build wealth, and realize your financial goals. I personally own several smaller apartment buildings, and they have been some of my best performing properties. But should newbies jump in head first and buy apartment buildings as their first real estate investment? Or should they perhaps start off a bit smaller, with a single family dwelling or a duplex?
Well, the answer is that it depends. It depends on a lot of things, actually. It depends on understanding the pros and cons of apartment investing. It depends on the deal, as well as the newbie’s understanding of the deal. It also depends on the newbie’s personality and risk tolerance level.
The Pros and Cons of Apartments vs. Single Family Dwellings
Apartments and single family homes can both be fantastic real estate investments. Each property type offers both pros and cons to the investor. Determining which property type would be a good fit for the newbie investor should start with an examination of some of those pros and cons.
On the pro side, apartments will generally offer higher and more consistent income to the investor, as there are more tenants to pay rent under one roof. It is also highly unlikely that an apartment building will ever be totally vacant, thus there is always some income coming in. Single family homes, on the other hand, can be vacant for extended periods of time, making the investor write checks rather than cash them. Apartments also contain everything in one place. There may only be one heating system to repair, one roof to patch, and one yard to cut. Single family homes can be widely scattered, each with their own separate systems needing repair from time to time.
Apartments do have a downside, though. First, they are often a lot more expensive. While an investor might be able to purchase a single family home for under $50,000 in some markets, apartments may go for $50,000 per unit. This cost effectively puts apartments out of range for many newbie investors. Apartments are also more difficult to finance and the financing is often much more expensive, with higher interest rates and substantial down payments. Repairs and maintenance are also often more expensive. While everything may be under one roof, that roof is often larger and more complicated, which costs the investor a lot more money.
Finally, it can be much more difficult to sell apartments versus single family homes. A single family home can often be sold on the retail market. There is no retail market for apartments. When you are ready to sell your apartments, only other investors will be interested in buying—and they will most likely be looking for a deal.
Understanding the Deal
Not all apartments and apartment deals are the same. Some are large buildings with hundreds of units; others are small with as little as three or four units. Some are in high rent, highly desirable locations, while others are not. All of these apartments can and do make money for their owners, but the dynamics of how they do that can be quite different.
Basically, what it comes down to with apartments is the tenant base. Tenants are where the rubber meets the road in apartment investing. An investor has to understand who the prospective tenants are and how to serve them. If you can get good, stable tenants and cater to them, you will likely do well. But finding and keeping good tenants is not as easy as it sounds. It can be quite difficult depending on where the apartments are located and what population they serve.
Most newbies simply do not understand this fact of apartment investing, have no experience with it, and hold a false belief that it will be easy. It is not. Differing tenant bases will require differing levels of service.
Your Personality and Level of Risk Tolerance
The investor’s personality and level of risk tolerance also play large roles. Does the investor want a truly passive investment? Do they want to be completely hands-off and simply collect checks at the end of the month? If so, then apartment investing is not likely going to work for them, and they should perhaps look to invest somewhere else.
Apartment investing simply takes a lot of oversight. Even if the investor decides to go with a management company, there is still a lot of oversight of the management company to be done. You still have to closely examine income and expense reports to ensure your property is being managed properly. Never visiting your property and completely trusting a management company is generally a recipe for disaster. In short, apartments are something you just have to stay on top of.
Risk tolerance is another key factor. Apartments can cost a lot of money, not only at the point of initial investment, but also over the course of ownership. Things will break, and management is expensive. Can the investor handle a major expense if it should arise? In other words, do they have reserves or have they put all of their eggs into one basket?
To Sum it Up
Apartments are great real estate investments and may be great investments for the first time investor. But as with any investment, the first time investor should proceed with caution and know themselves. Many newbies, in my experience, have the false impression that apartment investing is easy. But they have no experience and little knowledge. Thus, to me, it makes sense to start off small and build up over time. See if you even like real estate investing—you may find out very quickly that it is not for you.
What do you think—is investing in apartments as a first deal a savvy strategy or recipe for disaster?
Weigh in with a comment!
Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.