First Timer - 4plex Due Diligence

Multi-Family and Apartment Investing
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First Timer - 4plex Due Diligence

Miko Lee
Real Estate Investor · Costa Mesa, CA · Member since 2016 · 21 posts · 2 votes

Hi all,

I came across a 4plex that i am interested in investing. The area seems sketchy. I've been researching and analyzing for months now. I've been focusing on single unit until I came across this multi-family. What kind of due diligence do I need to do before moving forward with a potential offer? This is my first one and really want to make sure that I am on the right track..

Questions:

1. All 4 units are rented out with ridiculous low price. This is not a rent control area. Is it possible to increase rent when take over? Is it possible to evict sketchy tenant(s)?

2. What is the anticipated insurance costs for 4plex? Did some digging and some people here mentioned the average is roughly $50 per door per month? Is this accurate?

3. How do I confirm the monthly expenses such as water/trash? 

4. What other expenses should I consider when it comes to multi?

5. CapEx % and monthly maintenance %?

Again, from the pictures, the place seems sketchy. I would rather not go forward with the property if it comes with horrible tenants.. Any advice is greatly appreciated!! Thank you!

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Andy D.
Investor · Zürich, Zürich · Member since 2016 · 292 posts · 115 votes
9y

If you don't like the area you will most likely not like ANY tenants. You will not be happy then being an owner/landlord. I really do not recommend that you start your landlording career with such parameters. Find a better object, maybe a Condo (or two, whatever you can afford) where some things are taken care of. Yes, less cash flow but typically also less hassle.

Re your questions:

#1 Yes and yes. Consult the leases. You can always get rid of tenants under the rules dictated by the lease and/or law. Doesn't mean it's going to be easy. ;-)

#2 Seems a bit high but not totally unreasonable, but then again I never checked the Costa Mesa area for that.

#3 Good question, actually never had to do that as it was either handled by the HOA fees and/or the tenants paying it. Would be curious myself to hear an answer to that.

#4 I would factor in property management, even if you plan on managing yourself. You should also make sure you have sufficient funds at hand. You have 1 building but you have 4 units. That's 4x potential problems (water heater, hvac, appliances...). Budget for it. Imagine you have 2 water heaters going bust (literally) and the HVAC dying in one unit, and a burst pipe in another one and water damage in the unit below. All that within one month. You need serious money to cover these expenses! Doomsday scenario? Maybe. Totally unlikely? Definitely not! Budget for it. You can't leave the place unfixed for x months till you got the money to fix it...

#5 Run with the usual figures but consider the buildling's age and overall condition, of course. I don't really - generally - budget differently for a 4-plex than for say a Condo. Although typically with a Condo the roof, for instance, is usually the HOA's problem. With a 4-plex it's definitely yours.

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  • Andy D.
    Investor · Zürich, Zürich · Member since 2016 · 292 posts · 115 votes
    9y

    If you don't like the area you will most likely not like ANY tenants. You will not be happy then being an owner/landlord. I really do not recommend that you start your landlording career with such parameters. Find a better object, maybe a Condo (or two, whatever you can afford) where some things are taken care of. Yes, less cash flow but typically also less hassle.

    Re your questions:

    #1 Yes and yes. Consult the leases. You can always get rid of tenants under the rules dictated by the lease and/or law. Doesn't mean it's going to be easy. ;-)

    #2 Seems a bit high but not totally unreasonable, but then again I never checked the Costa Mesa area for that.

    #3 Good question, actually never had to do that as it was either handled by the HOA fees and/or the tenants paying it. Would be curious myself to hear an answer to that.

    #4 I would factor in property management, even if you plan on managing yourself. You should also make sure you have sufficient funds at hand. You have 1 building but you have 4 units. That's 4x potential problems (water heater, hvac, appliances...). Budget for it. Imagine you have 2 water heaters going bust (literally) and the HVAC dying in one unit, and a burst pipe in another one and water damage in the unit below. All that within one month. You need serious money to cover these expenses! Doomsday scenario? Maybe. Totally unlikely? Definitely not! Budget for it. You can't leave the place unfixed for x months till you got the money to fix it...

    #5 Run with the usual figures but consider the buildling's age and overall condition, of course. I don't really - generally - budget differently for a 4-plex than for say a Condo. Although typically with a Condo the roof, for instance, is usually the HOA's problem. With a 4-plex it's definitely yours.

    2Reply
  • Miko Lee
    OP
    Real Estate Investor · Costa Mesa, CA · Member since 2016 · 21 posts · 2 votes
    9y
    Thank you Andy D. This is really helpful. It's been tough finding a single unit that is actually cash flow in SoCal. So I figure the best bet is multifamily.. thank you again!
    0Reply
  • Andy D.
    Investor · Zürich, Zürich · Member since 2016 · 292 posts · 115 votes
    9y

    I'm surprised you say you can't find something that - after costs etc, of course - doesn't cash flow. Considering the high rents in SoCal (yes, even Costa Mesa, all things considered) you are maybe looking at the wrong area or, more likely, focusing too much on the MLS? Should you find a partner who is experienced in doing a rehab then you should really be able to find an interesting property, i.e. one that leads to "proper" figures when doing the math. Check local REI meetings etc or look at a different area (further away from the ocean!) to find cheaper properties that still get you a decent rent. I'm not saying you should not look at a multiplex but I want to caution you. They can be a different beast, really, and I would highly recommend to use a property manager in such a case. The property then could also be further away from where you live, possibly making it a better deal. Good luck.

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  • Jim Costa
    Investor · Washougal, WA · Member since 2016 · 86 posts · 52 votes
    9y

    Miko,

    Look at the numbers and know your market.  Some of the best deals are properties that have been mismanaged or owner/managers that have been lazy and not raised rents in years.   Their are some great advantages with 2-4 unit complexes.  I am biased I own 7.  Multi units are a great way to spread your risk.  Financing is also favorable treating 2-4 units almost the same as a sfr.  Easier to qualify with leases in place.   If I was young starting out again, my first house would be a 4-plex and buy as owner occupy.   More to consider.  Depending on the layout, assuming 2 up 2 down.  You have half the roof as 4 units.   You will still have 4 of everything else so plan your capex accordingly.  The advantage is if you have a vacancy you can still make your mortgage with the other units. The adage is by single family for growth and multi unit for cash flow,  if you can get both you struck gold.   As far as insurance is concerned, it varies for building costs in your area.  The quickest and easiest way is to call your insurance agent (car insurance agent) and ask him to give you a quote.  It will take him 10 minutes to put together and won't cost you a dime to get an accurate number.   Review your leases.  This will tell you a lot.  How long have tenants been in place.  How often have rents been raised.  Deposits and fees collected.  Ask what improvements have been done over the last 5 years.  Ask for a copy of the tax returns for the property.  This will give you actual numbers for the property.  Be leery of proforma's (numbers aren't real) If property is listed, agent should already have all this.  Check with your financing and see what the add ons for non owner occupied are.  It is hard to use cap rate for just 4 units but see what other 4 unit complexes are selling for and what the rental rates are.  Review several and this will give you an idea of current rents and what value could be if you raise rents.   A rent increase could be a way to get rid of trouble tenants.   Ask for copies of the water/sewer garbage bill. Who takes care of the yard.  Watch the water bill.  This can be over $100 a unit.   Check and see if units are on individual meters.  A lot of things to consider but could be great investment.  With that said...remember...location...location...location.  If you don't like the area or are uncomfortable with the area it might not be the right property for you.  Research area on Trulia.  Go to Trulia and scroll to the bottom of the page.  On the very bottom you will see "For Professionals".  Click stats and trends.  Click your state, then click your city.  This will tell you all kinds of information about the area.  This will tell you the Crime, best school, Rent, income, Age ETC.  Good way to research area.  Hope this helps.

    Happy investing and buy right!

    2Reply
  • Miko Lee
    OP
    Real Estate Investor · Costa Mesa, CA · Member since 2016 · 21 posts · 2 votes
    9y
    Thank you all for the inputs! The agent that I found through Craigslist. He said it's typical to make an offer first, then review all the documents related to the multifamily during escrow. Is this true? I am slightly uncomfortable of making an offer when I don't know how bad is the condition inside the multi. It's a fairly small multi-family with an average of 500-600 square feet per unit. Owner lived in one of the units there for 30 years, earned enough equities and looking to sell. Rent 50% lower than market. How do you go about getting over with the fact that the multifamily has been in market more than a month? If it's such a good deal, wouldn't all investors jump right into the deal already? I felt like I am overlooking something here. Agent requires 3% to open escrow. It is then i can see the inside and review all documents.
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  • Andy D.
    Investor · Zürich, Zürich · Member since 2016 · 292 posts · 115 votes
    9y

    Get yourself a proper real estate agent who will get you the relevant information. Why would you look for an agent on Craigslist??

    If it has hit the MLS and has been sitting there for over a month then this definitely means one thing: not a good deal (at that price).

    If you feel you really want that buildling then you could always place an offer 30% or so below asking. Simply the amount where you feel the place would be a good deal for you.

    Also, 4-plexes are measured by comps. Have your agent run a few recent sales of comparable (!) 4-plexes. That will get you a feel for what should be reasonable "for the market". Still doesn't mean that it's going to be a good deal for you.

    My gut tells me: skip this one. Not to mention that ~550 sq ft seems almost like a prison cell size... who do you expect to move in there when it comes to the kind of tenants.

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  • Steve Bracero
    Real Estate Agent · Westboro, MA · Member since 2016 · 1k+ posts · 471 votes
    9y

    @Jim Costa Awesome advice! 

    @Miko Lee 550 sq feet is very small. Also think about who your renters will be? I would look at comparable rentals via craigslist to see what current rents should be- 

    4 fam is best since you get 3 units of income plus the 4th one once you move out. 

    Offers really are not that tough to make, your agent should be helpful in helping you decide your offer price 

    Not necessarily. If the property has been on market over 30 days- i would still give it a look. Over 90 or 180 is a much longer time to sit on the MLS and you may find a motivated seller from those listings...

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  • Jim Costa
    Investor · Washougal, WA · Member since 2016 · 86 posts · 52 votes
    9y

    It is common to not view the actual units until offer is accepted.  With that said it is very important that the offer be written properly to protect you.  Definitely need to have your own agent if listed.  You need to give yourself outs with financing, inspections, review of leases.  Watch your time lines.  You should be able to get some documentation prior to offer.  Get actual numbers to do your evaluation.  You can't always judge by time on the market.  It is very likely in hot market they could have had an offer and went into escrow in days.  Escrow can take 30 to 60 days.  Many times while in escrow status changes to pending and property wont't show up on searches or potential buyeers won't look at because it is pending.  3 or 4 weeks later they fall out of escrow for many reasons.  Buyer didn't qualify or inspection found something.  They put back on active status and accept offers again.  If this happens 2 or 3 times you can have a property that seems like it has been for sale for 2-3 months when in reality it has had 2-3 buyers not follow through while being on the market for 2-3 days each time.  The good news is the longer it goes the more open the seller is and willing to close with qualified buyer.  Many small units like this have identical units.  If the owner is living in one he should be able to show his unit.  This should at least give you an idea of layout.  The income that the units generate will affect your qualifying.  The banks are only going to allow you to use a percentage of the income usually max of 70%. If rents are truly at 50% (know your market) you could have a huge buying opportunity.   Many smaller units (2-4) the "commercial investors" don't want to bother with.  A lot of beginning investors and agents strictly look at the numbers for what they are and don't  price accordingly.  Your value added (raised rents) is where your potential is.  It is very hard to take someone who has been renting for years and double their rent in any given month.  This is another topic about raising rents that much.  I just bought a unit in similar situation.   Replaced some tenants and have a 2-3 year plan for the rest of the tenants.  Vacancy and turnover is expensive.  Be sure you have the reserves and plan accordingly.

    1Reply
  • Christian Clark
    New to Real Estate · Los Angeles, CA · Member since 2016 · 23 posts · 16 votes
    9y

    @Miko Lee I'm in the same boat as you. Looking for my first 2/3/4 in the LA area so I'm sure we can swop war stories at some point. I just wanted to point out that you should not have to open escrow to see the properties. It is almost a rule that you can't see an occupied property until you put an offer out, but once the offer is accepted, they will show you the property (possibly simultaneously with other buyers at one time arranged for all of you). Then if you don't like the tenants you meet or the conditions of the units, you can back out.

    If anything I've said is incorrect, please someone correct me. Trying to help but have only been at this since beginning of December!

    0Reply
  • Christian Clark
    New to Real Estate · Los Angeles, CA · Member since 2016 · 23 posts · 16 votes
    9y

    @Jim Costa I'm not sure if Miko has this problem in the OC, but in Los Angeles County, we have rent control so a lot of 2/3/4 deals appear to be dead once you learn the ten year old rents. The building will lose money unless you spend $10-20k per tenant to evict them. Plus you have to be morally okay evicting a perfectly good tenant who pays on time and whose only strike against them is their previous landlord didn't increase the rent each year when he had the opportunity. Sorry if hijacking your thread, Miko!

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  • Arjav Parikh
    Real Estate Investor · Watchung, NJ · Member since 2016 · 52 posts · 13 votes
    9y

    In terms of rents, when I owned a few multifamily buildings (3 buildings - 18 units in total) in Jersey City, NJ,  I increased my registered rents with town every year in line with allowed rent control increase. The rent registration form included registered rent and actual rent for the unit. Due to market condition (bad economy during that time), my actual rents were lower (10% lower than registered in many units).


    Following proper paperwork allowed me to charge market rent (registered rent) when tenants change and economy got better.

    Although, I didn't try, not sure if this allows to increase rent at lease renewal time for an existing tenant to market rent.

    0Reply
  • Miko Lee
    OP
    Real Estate Investor · Costa Mesa, CA · Member since 2016 · 21 posts · 2 votes
    9y

    Thank you @Andy D. @Jim Costa @Christian Clark @Arjav Parikh for the inputs. Decided to skip the deal. Mainly it's because I have a day job and it would be hard for me to manage a fourplex on a not so great area. Also, it would cost me a lot if I have to evict the tenants.

    How do you go about estimating the property tax? Is this the same as single family? In orange country, the average tax is roughly 1% of the appraised value. 

    Also, in terms of financing, if I qualify for both conventional 25% down and FHA owner occupied 3.5% down, which one should I go with? Conventional loan gives a higher cash flow, but low cash on cash and total ROI. FHA gives a lower cash flow due to owner-occupied, but higher cash on cash and ROI. Cap rate at around 6% which seems low, but appears to be standard in orange county. Thoughts?

    0Reply
  • Tim Puffer
    Lansing, MI · Member since 2015 · 301 posts · 149 votes
    9y

    @Miko Lee - It all depends on who you are looking to do. The FHA option would allow you to have more csh in the bank for reserves and to possibly find another deal. I just completed an FHA House Hack and it is going great. Not having to put a ton of cash into a first deal is huge. Please be sure to properly run your numbers!! PM me if you have any questions - happy to help!

    0Reply
  • Michael M.
    Rental Property Investor · Tustin, CA · Member since 2015 · 67 posts · 19 votes
    9y

    @Miko Lee

    I know I'm jumping into the thread half way in but here are my advice regarding the following:

    Water / sewer bill: I would google the water district, call them and simply state that your looking into buying the home and want to get a rough idea on how much expenses will be. They wont give you the exactly amount, but they will give you the average of what that property has been doing. 

    Property Tax: I use Zillow / Trulia for these, when you search the property and scroll down the page they show you how much the mortage will be along with the property tax value, if they estimate it to be $172 / month ($ 2064 / year) I just put $2500 as a cushion on that value. 

    Location: I'm in the same situation as you are regarding property since I also live in Orange County where everything is insanely priced and COC returns are 5% if your lucky. I've started looking outside the area in places like Rialto, Fontana, Rancho etc where the prices are a little more affordable and I can pull in 10% for properties.

    Hope this helps!

    0Reply
  • Matt H.
    Real Estate Broker · CA · Member since 2016 · 243 posts · 226 votes
    9y

    6 cap is actually high for Orange County. But you can get your COC well above 5 that's not a problem. If you tell me the street in OC I will let you know if you should buy it or not. I would buy here, you get what you pay for. You will make more money here than most anywhere else, assuming you buy intelligently..

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