{"id":42772,"date":"2013-05-07T08:33:01","date_gmt":"2013-05-07T14:33:01","guid":{"rendered":"https:\/\/www.biggerpockets.com\/renewsblog\/?p=42772"},"modified":"2021-03-16T10:06:22","modified_gmt":"2021-03-16T16:06:22","slug":"2013-05-07-10-plex-case-study","status":"publish","type":"post","link":"https:\/\/www.biggerpockets.com\/blog\/2013-05-07-10-plex-case-study","title":{"rendered":"How I Bought a 10-plex with 1.5% Down \u2013 Case Study"},"content":{"rendered":"

I\u2019ve discussed the concept of Expandability <\/i>in several of my past articles<\/a>.\u00a0 I also discussed in BiggerPockets Podcast 14<\/a>.\u00a0 Just to recap:<\/p>\n

Expandability – any tool, technique, term, or approach implementation of which allows an investor to either improve upon the investment returns on a given investment or portfolio of investments, or to facilitate a transaction which would otherwise not be possible.\u00a0 <\/i><\/p>\n

Since I would rather not to speak in hypothetical terms, in this article I will provide you with an example \u2013 let\u2019s call it the Symphony Drive Deal <\/i>(this is the transaction I mentioned in Podcast 14<\/a>).<\/p>\n

The principals and application of expandability cover everything from financing clauses, to physical repairs, closing dates, income expandability and management efficiencies.\u00a0 However, within the confines of this article I will only focus on two aspects: down-payment requirement, and the income potential.<\/p>\n

Why the Down Payment<\/h2>\n

As I indicated in the above definition, aspects of expandability serve two main purposes, one of which is to enhance returns, and the other is two facilitate transactions.\u00a0 I think everyone reading this would agree that the down-payment requirement is one of, if not the most debilitating requirement in any transaction.\u00a0 We would all do more deals and attempt bigger transactions if access to capital was unlimited. \u00a0In fact, if you could finance every deal 100%, then in principal you could do an unlimited number of deals \u2013 wouldn\u2019t you agree?<\/p>\n

Thus, any circumstance which limits our exposure to the down-payment requirement can and should be seen as an expandability item since it facilitates the deal which might otherwise be out of reach.\u00a0 Furthermore, although this should not be relied upon as the definitive metric of worth in any transaction, the math does indeed bear out the reality that the less the down-payment the higher the cash on cash return.<\/p>\n

Related<\/strong>: To Leverage or Not to Leverage \u2013 This Is the Question<\/a><\/em><\/p>\n

Why the Income Expandability<\/h2>\n

Those of us who buy income-producing real estate do so for one reason \u2013 income<\/strong>.\u00a0 Income is ultimately what creates worth and establishes value in an income-producing acquisition; we are buying a revenue stream represented by the real estate.\u00a0 Income and capacity to expand income is what this is all about for me and many of you.\u00a0 Therefore, any conversation relative to expandability has to address income.<\/p>\n

Additionally, although in a distant second place, one fortunate side-effect of expandability as it relates to income is that by improving the NOI we effectively back into a higher valuation, which has great implications for our investment returns.\u00a0 Therefore, in context of a fairly short article which requires that I isolate the most pertinent points, it seems appropriate to discuss expandability as it relates to income.<\/p>\n

Related<\/strong>: Why Forced Appreciation Makes Multi-Family Investing Better, Hands Down<\/a><\/p>\n

A Bit of Background <\/h2>\n

The Symphony Deal is a 10-unit apartment building, actually two 5-units sitting next to one another.\u00a0 I closed on this deal on February 4th<\/sup>, 2013.\u00a0 The buildings were built in 1980.\u00a0 They are situated in a desirable area \u2013 I will not discuss the definition of \u201cdesirable\u201d <\/i>here since I addressed this in some detail in an earlier article entitled It\u2019s Not My Fault They Keep Trashing My Unit \u2013 Actually It Is<\/a>.<\/p>\n

These are 2-story buildings.\u00a0 The units are all-electric.\u00a0 Both electric and water services are separately metered.\u00a0 Both buildings showed some amount of delayed maintenance, but most of it was cosmetic.\u00a0 However, there were a few plumbing issues to be addressed right away as well as the shingles on one of the buildings were original and needed to be replaced in short order.<\/p>\n

How it Came to Be<\/h2>\n

I first became aware of this opportunity about nine months prior to closing when a local Realtor brought me the deal.\u00a0 This was not a listed property \u2013 the realtor was trying to help out a friend who needed out.\u00a0 At that time, the asking price was about $475,000.\u00a0 The three of us met to discuss options.<\/p>\n

Food for Thought<\/i><\/b>:\u00a0 The simple reality is that in order to cater a solution to the seller\u2019s problem I have to discover what that problem is.\u00a0 Some sellers need equity, while others want income; some want out, while others desire to maximize their returns; some have emotional trauma associated with the property which may need to be addressed, while others have no emotional attachments whatsoever.\u00a0 Bottom line is that in order to cater a solution I have to be face to face with the seller.\u00a0 This can be difficult to accomplish when working with sales agents, but it is virtually a must in my version of real estate investing!\u00a0 <\/i><\/p>\n

Having discussed options with the seller, we were unable to come up with a workable solution.\u00a0 But, we did manage to establish a good working relationship of mutual respect.<\/p>\n

Nine months later the same realtor mentioned to me that the seller was ready to sell at a lower price than originally discussed \u2013 he wanted out!\u00a0 I told her that at around $350,000 I would be interested to discuss options.<\/p>\n

At around noon, or about an hour following this conversation, the three of us met one more time.\u00a0 I made the seller a verbal offer of $350,000.\u00a0 I knew that he had paid $400,000 a decade ago and that accepting my offer would mean walking away from equity.\u00a0 However, $35,000\/unit was a respectable place to start based on the current income structure, condition, and tenant base and knowing that the underlying mortgage on this building would have had to have been a 20-year amortized loan, I projected by working the numbers backwards that the outstanding balance on the seller\u2019s underlying was low enough to enable him to take my offer if he chose to do so.\u00a0 As you know by now, in the end I met him half way at $373,500.<\/p>\n

Food for Thought:\u00a0 <\/i><\/b>When structuring a deal it is usually advantageous to allow your counterpart to feel as though you have done absolutely everything that you could do in order to accommodate them. \u00a0This makes it more palatable for them to accept the outcome.\u00a0There are numerous ways to structure offers in ways which ensure that the forthcoming negotiation will be perceived in this way.\u00a0 In the Symphony Deal, I \u201cgave in\u201d considerably on the price, but my capacity to do so was teed up by my original offer being low enough.\u00a0 I am never afraid to make the offer too low \u2013 and this is saying a lot from a guy who on occasion has paid more for property than I knew it to be worth.<\/i><\/p>\n

If you\u00a0ask for more upfront, you’ll have more to give back throughout the negotiation.<\/i><\/b><\/p>\n

Financing Package<\/h2>\n

The financing package on this acquisition showcases my ever-present desire to achieve as close to 100% financing as possible.\u00a0 As I mentioned earlier, not having a requirement of a down-payment, or at least not a large down-payment, enables me to do more and bigger deals than I otherwise could, which makes it an expandability item.\u00a0 It is important to mention as well, because a lot of you may wonder, that even though the acquisition was practically fully financed, this was not to the detriment of the cash flow.<\/p>\n

Most seasoned investors would agree that in a multiplex long-term hold situation the measuring stick is $100\/door of cash flow \u2013 this is the level where most investors will pull the trigger.\u00a0 However, while in stipulating this guideline a lot of investors assume a substantial down-payment, usually 20% – 25%, this is much too generous for my taste.\u00a0 In my opinion and based on my experience a solid acquisition should cash flow minimum of $100\/door under 100% financing<\/strong>, with expandability options to improve upon that, which, as you will see, I achieved here.<\/p>\n

These were the numbers at the time of acquisition (rounded down to the nearest 10):<\/p>\n

Purchase Price: $373,500<\/p>\n

1st<\/sup> Mortgage (commercial portfolio loan): 70%<\/p>\n

2nd<\/sup> Mortgage (private loan): 25%<\/p>\n

Cash Down-payment: 5%<\/p>\n

Monthly Gross Income: $5,800<\/p>\n

Monthly Operating Costs: $2,400<\/p>\n

Monthly NOI: $3,400<\/p>\n

CASH FLOW:\u00a0\u00a0 $1,000<\/h2>\n

As you can see above, contractually I was required to contribute a cash down-payment in the amount of 5% of the purchase price, which would have been $18,675.\u00a0 You should agree that this would have been a rather attractive proposition such as it was, considering that a more typical down-payment requirement for a deal like this is 25%, or $93,375.\u00a0 Frankly, if you can not concede that bringing $18,675 to closing is a whole lot better than having to bring $93,375, then there is something very wrong with your thinking process\u2026<\/p>\n

However, as good as 5% down would have been, what you need to realize is that after proration of rents and transfer of security deposits, both of which were applied to the closing statement, all I needed was about $5,300<\/strong> of cash to close. \u00a0If my math is correct, this is a bit under 1.5% of the purchase price!<\/p>\n

About the Private Money<\/h2>\n

As you can see above, the integral piece of the financing package on the Symphony Deal, and what made it possible for me to achieve such a low down-payment, was the presence of private financing in the amount of 25% of the purchase price.\u00a0 Although now is neither the time nor place to discuss private money in-depth, here are several interesting aspects that need to be addressed briefly in order to put this into context.<\/p>\n

Process and Securitization<\/h3>\n

Bringing private money into a transaction can be accomplished in several different ways, which can include a partnership, an LLC, C-chapter Corporation, a real estate investment trust, a private or public offering REIT or another type of syndication, etc.\u00a0 There are benefits and drawbacks to all.<\/p>\n

I chose to utilize a blanket note and mortgage on this transaction, whereby in exchange for money I gave a Promissory Note which sighted 2 properties as collateral and upon which the attorney generated an \u201cumbrella mortgage\u201d which was entered into public record.<\/p>\n

Why the Private Lender Went Along and Why the Bank Allowed It<\/h3>\n

It took years to establish these relationships \u2013 GET IT?<\/p>\n

Related<\/strong>: I am 37 Years Old and I Love My Blanket<\/a><\/em><\/p>\n

Expandability of Income<\/h2>\n

$1,000 of monthly passive cash flow that was there at closing was certainly good.\u00a0 This amount of money makes a substantive difference in my life and likely most of your lives as well.<\/p>\n

However, this was not why I agreed to pay $373,500 for this building.\u00a0 Instead, I bought this building because I could clearly envision ways to grow the Net Operating Income from the then $3,400\/moth to $4,100\/month, or more \u2013 a difference to the upside of $700\/month+.\u00a0 Furthermore, as you will se in a moment, while in order to accomplish this I will need to re-invest some cash flow into upgrades, doing so will not create any additional on-going expense, which means that any increase of NOI will flow to the cash flow.<\/p>\n

My purchase price of $373,500 relative to the NOI of $3,400\/month represented a 10.9% CAP Rate:<\/p>\n

CAP = Annual NOI \/ PURCHASE PRICE = $40,800 \/ $373,500 = 10.9%<\/p>\n

Here are some of the aspects I knew I could improve upon:<\/p>\n

    \n
  1. Based on my knowledge of the marketplace I was aware that the rent-roll of $5,800 was too low.\u00a0 The apartments were rented for between $550 and $595 per month, while I believe that having been cleaned up these units can bring-in $625 \u2013 $650 per month.\u00a0 This may take a few years, and will require re-investment of realized cash flow into upgrades, however I am certain that I can add $500\/month to the monthly NOI of the building by improving rents, may be more!\n<\/li>\n
  2. Even though the water service is separately metered to each apartment, the previous owner was paying it with the rent.\u00a0 As I restructure leases and pass the expense of the water on to the tenants, which I\u2019ve been able to do with 2 out of 10 units thus far, this will create a savings of about $150\/month that will go directly to the NOI and flow through the CF.\n<\/li>\n
  3. The base value upon which the property taxes are being assessed is entirely too high, resulting in an annual tax bill that is $600 – $1,000 too much.\u00a0 I have filed an application with the county to reduce property taxes and I am currently waiting on a response.\u00a0 I have good reason to believe that I\u2019ll be able to recover $50\/month, which will go directly to the NOI and flow through to my cash flow.\n<\/li>\n<\/ol>\n

    Progress Report<\/b><\/p>\n

    As of April, 2013 I\u2019ve turned over 2 of the units.\u00a0 One, as you can see in the pictures, was a complete facelift which included new flooring, new paint, new appliance package, new countertop, and updated plumbing and lighting fixtures.\u00a0 The rent on this unit went from $575\/month to $685\/month.\u00a0 And of course, the tenant now has the privilege of paying for the water they use.\u00a0 Cumulatively, this constitutes a monthly NOI increase of $125!<\/p>\n

    The other unit, which happened to be in much better condition, only received a cleaning job with a few odds and ends at a total cost of under $500.\u00a0 The rent went from $575\/month to $625 + water, resulting in an increase of NOI of $65\/month!<\/p>\n

    \"DSC00599\"<\/a> \"DSC00596\"<\/a><\/p>\n

    \"DSC00602\"<\/a> \"DSC00594\"<\/a><\/p>\n

    All together, with just 2 out of the 10 units turned over, I\u2019ve been able to add $190\/month to the monthly NOI of the Symphony Deal.\u00a0 Thus, I am very much on track to achieve $700+ increase in NOI and cash flow.<\/p>\n

    Let\u2019s Put This in Perspective\u2026<\/p>\n

    I\u2019ve bought an asset which cash flowed $1,000\/month for $373,500 by financing all but $5,300, and within 2 to 3 years I will improve the monthly NOI from $3,400\/month to $4,100\/month.\u00a0 This will improve the valuation of this building to close to half a million at 10 CAP, which is the going rate in my neck of the woods for a building such as this:<\/p>\n

    Value = Annual NOI \/ CAP\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 Value = $49,200 \/ 10% = $492,00<\/p>\n

    And oh yeah, almost forgot \u2013 in the process I will push the cash flow up from $1,000\/month to $1,700\/month, which is the kind of stuff that allows a guy to retire financially free after a few years…<\/p>\n

    <\/b>Food for thought:<\/i><\/b> This transaction necessitated an investment of $5,300 of cash, which is easily an amount of money many people spend on coffee and lunch 5 times per week \u2013 think about this\u2026<\/i><\/p>\n

    Life is all about choices!!!<\/i><\/b><\/p>\n

    Thoughts?<\/p>\n","protected":false},"excerpt":{"rendered":"

    I\u2019ve discussed the concept of Expandability in several of my past articles.\u00a0 I also discussed in BiggerPockets Podcast 14.\u00a0 Just to recap: Expandability – any tool, technique, term, or approach […]<\/p>\n","protected":false},"author":810,"featured_media":42821,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[5528],"tags":[],"class_list":["post-42772","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-real-estate-news"],"acf":[],"comment_count":0,"_links":{"self":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts\/42772","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/users\/810"}],"replies":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/comments?post=42772"}],"version-history":[{"count":0,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts\/42772\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/media\/42821"}],"wp:attachment":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/media?parent=42772"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/categories?post=42772"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/tags?post=42772"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}