Underwriting 16 units (four 4plex's)

8 Replies

I'm underwriting a deal right now, trying to determine a generic rule of thumb people use for expenses. 

The deal includes: 

- Four 4-plex's totaling 16 units

- 100% occupied (although I like running my numbers at 89%)

- $600/door = $9,600 Gross Monthly rents || Yearly $115,200 Gross rental income

- Hard cost include: 

- $10k Taxes/insurance yearly

- $11k Property Management yearly 

Total Income [MINUS] hard cost = $94,200. 

I've been told to multiply your total Gross rental income by 50% to account for expenses so

($115,200 x .50) = $57,600 as a NOI. Then calculate your loan payments in from your NOI.

I just have a hard time believing expenses are going to turn out to be that high. Would I then subtract my hard cost of Taxes/Insurance from the $57,600 or is that factored into the 50% we cut back? 

This deal will be a value add deal where we can add about $2.5k per unit in upgrades and raise rents $50-100. The rent as it is, is hard to beat in this area. 

Located in a city with a University Population of 30,000+ enrolled. Excellent job growth and voted top 5 places to live 2 years in a row. 

I have factored in my loan amount to be $52,300 yearly (with renovation cost added in)

The payout to private money will amount to $11,400 a year. 

Please let me know your thoughts after seeing some of the skinny numbers on the property. Would love to hear your insight and if I could possibly get better terms than a 25 year 5.75% on a $733k loan balance.

Hi Cody,

I generally don't like "rules of thumb" as situations differ based on several factors, such as age/condition of the building.  However, a 50% of income number for total operating expenses is not out of line.  We have 46 units that are 125 years old where operating expenses (including professional management) are about 41%.  This is at 98% occupancy and several recent rent increases.  We also have an older, smaller three family where it is a little higher due to higher maintenance costs and no efficiencies of scale.  In your numbers above, the $10K per year for taxes and insurance combined seems light for 16 units.  I never like lumping major cost categories either.  I like to state them separately.  Helps me see if something doesn't look right.  I don't see power utilities, water, sewer, maintenance or repair costs in your numbers?  Also, why 89% occupancy?  Is that typical for your market? Seems low to me.  In my two markets I use 95% occupancy, and actuals are a little better.  Your market maybe different, but you're at 100%.  Is that 100% physical occupancy or 100% economic occupancy?  Are all rents up to date?

Hope this helps.

I'm looking at very similar deal in a different city. The numbers are nearly identical. My expenses including taxes and insurance are coming in at about 43% but my total tax and insurance is about $20,000 versus your $10,000.

@Ed Matson
Hey Ed,

Yes I didn’t itemize in there sewer, water, etc. Due to me adding that within the 50%. The taxes and insurance came straight from the owner.

I run 89% as a conservative number. Even though my above numbers are based on current. I leave room in there for people either getting behind, or moving out etc..

The market it is in is about a 95% average occupancy rate. Although with this being a mile down the road from a major university, will be more closer to 100% year over year.

And just found out today the same seller is selling 20 more units (five 4-plexes) that’s all on this same street.

With that, you could have more control as far as rent rates and completely controlling that whole street.

Cody,  Be very careful when looking at seller's maintenance and repair numbers.  Sometimes they defer maintenance to save $ knowing they will sell.  This understates their costs and you will be paying disproportionately more in the first year or two of operations.

Cody all the best and I hope this works out for you. I am a big time supporter of the 50% rule; also any numbers a seller or agent gives you are typically wrong; it is not that they are lying the numbers are out of date or incorrect. Get your own numbers by calling the city, utility or vendor. Until you get real financial statements those can be relied upon pretty much. Give the financials to your CPA for his opinion and get a professional inspection regardless of who says what! Inspections will help justify any last minute price adjustments For you.

@Cody Dover I have a number of properties in the 12-22 unit range of various ages and my experience is that 50% is about right and for older properties it can often run much higher. The only real exceptions are if the property is new or almost new or if you experience no tenant turnover. 

Especially if you're going to start raising rents and rehabbing in a value-add you will turn-over some or all of your tenant base which is very expensive.

You mention a $2500/unit upgrade cost. What does that consist of? I just got a quote to put in LVT flooring for a 2 br apartment that was $3500. And that was just the flooring. Appliances, counters, painting, light fixtures, faucets. That stuff all adds up pretty quickly.

If I understood your post correctly you will owe $52,300 to the bank and another $11,400 to a private investor. So $63,700 financing cost on a conservative NOI of $57,600? I hope if you have plenty of reserves to float the property until it becomes profitable.

When I look at the 50% rule, I always assumed it included the vacancy allowance, but I'm still learning like you.  So if your taxes and insurance are 5% each, and PM is 10%, vacancy is 5%, minor repairs could be 5%, and capex another 5%. Utilities could be 0 or could be sky high if they're all paid by the owner.  

You might also consider that the taxes could go up as soon as your purchase goes through. I looked at a property a month ago where taxes were 9%+ of assessed value, and they usually assess at 50% of purchase price; If your deal had the same situation, you'd be looking at over $40k just in taxes.  I think the deal I was looking at was unusual because it was in Detroit, but just be cautious.