Buy or not buy small multi-family at this time?

11 Replies

I am under contract to buy a C-class 12-plex in Tucson, Arizona for 680k (roughly 57k a piece all 2 bed/1 bath). Rents are currently $500 at the moment but market rent is about $725. I pay water and garbage. Here is the P & L from January 2020 through July 2020.

Many of the insides of the units have been remodeled or look nice enough. Our plan would be to paint the outside and give it a facelift and increase rents to market rent which would be $725. By doing this, we calculate an increase in value, using a cap rate of 6%, to come in at 1.03 million allowing us to BRRRR the property within 3-6 months and creating cash flow of about 2k a month. I am planning on buying the property 80% hard money and will probably get private money for a second for 100k - 150k paying 12%. I could use my own money on this project for the second but I would rather keep it in the accounts as reserves.

Here is the question, with the concern of an economic downturn, would you buy this property or not? I'm not too concerned about rents going down, but I am concerned about people not paying due to the non-eviction moratorium. And I wonder if we should wait until more properties come available at cheaper prices. Also, there is the concern that if it takes me longer to get ready for the refinance that the economy may take more of a downturn and that banks may not want to lend on it.

What would you do?

@Shiloh Lundahl that is the million-dollar question. I know Tucson has a lot of low-income blocks. Have you triple-checked that you can pull those rents? What is the average rent in that exact location? Take a look at Citi-date to check the median income. Maybe you have access to a costar or Yardi report - even better. Neighborhood Scout does 1-offs for pretty cheap.

Don't count on doing a value add business plan straight out of the gate in this environment, and underwrite for 0 rent growth for the next two years. What do your numbers look like then? More importantly, do you really want to be doing a hard money loan right now? I don't know. Seems risky. Have you looked into small bank financing? They will offer recourse lending with shorter-term loans without prepayment penalties.

To end on the positive, the 50+% expense ratio looks good, and $500 for a 2-br sounds very low, but again, what kind of neighborhood are we talking about? South of 23rd or east of the Tucson Mall by any chance?

@Shiloh Lundahl   Congratulations Shiloh-awesome you have the option to buy a 12 unit here.  I am tempted to say go for it based on just the increase in activity I see in our market here. It does seem that the jobs are coming back.  Traffic levels seem to be getting back to normal and all businesses are opening up.  However, I would recommend you practice caution and underwrite for no increase in rents for at least a year, possibly two.  Hope this helps with your decision.

@Shiloh Lundahl as long as you have adequate reserves and are conservative in your initial analysis then I say go for it! We're currently looking at a deal and are setting aside 6 months of debt service reserve for our own peace of mind and the deal still works. You may want to do more just in case. If you are going the hard money route I would negotiate some sort of extension if needs be just incase you can't refi out of it according to your business plan. Analyze what your DSCR might be in the next 12-18 months. The more you're able to increase this the more likely it would be you'd be able to refi out of it.

I think raising rents ~50% on all your tenants within the first 3-6 months will lead to many vacancies and then remodels. It might even be illegal in your state? I feel that'll definitely win the title of greedy new landlord and won't be a good starting point. Not sure how much you know about the inherited tenants and their personal ability to afford the rent increase and then stop paying all together, since it's "kinda legal / kinda okay" now. Could be a deal worth doing, but it might take a couple years to increase rents to market rates and minimal vacancies.

@Shiloh Lundahl  I know you are an experienced operator-from your posts-and congrats on the find. if the income and expense report is accurate the tenants are paying through July so that is very positive-although many have been late, and will have to be chased. The building is self managed and paid off. Is this a candidate for seller finance? 

I know precious little about the market or location; 500 a month tenants are not a group I can personally manage (unless they are retirees) so I'd have to hire a PM. Personally I would not factor in raising rents to 725 at this time, so I would need to buy it more or less in it's current state at a price and terms it can sustain given current conditions. All the best!

@Shiloh Lundahl Shiloh, I am familiar with this building and asking price. As a matter of fact I was offered this building as well. However, my biggest problem was when I drove over to see it up close. The quality of the tenants unfortunately will risk dictating any increase in the rent for quite sometimes, in addition to the pandemic and eviction situation. I spent about 30 minutes sitting in my car in across parking lot/RV Park to see the traffic to the building. The asking price of $60K units seemed too high, unless you are securing it much lower. Here are my concerns: 1-Quality of tenants  2-Ability to increase rent  Other than that, Tucson growing market is going very strong and we yet have to experience reactions to eviction/pandemic. 

@Rick Martin thanks for the response. Our plan is to do what we did with our 6-plex that we bought in Florence where we bought it, For 315k, put about 40k into the rehab, and we increased rents From $550 to $799 and we increased the value to 725k within 6 months.

I use a simpler approach when it comes to determining the rent that has worked really well for our properties. I look on Zillow at the active rentals to see the number of rentals and the average price of the rentals. Here are some screen shots of what I am seeing in the area. 

Those are all the rentals with 2 or more rooms within a few miles of the 12-plex. 

As you can see the one that rents for $699 is only 500 square feet. The square feet of the 12-plex units are 780.  So they are just a little bit bigger than the rentals for $700. The other options are $810 or more but they come with some amenities. In other words there are no units renting for close to $500 within several miles of the 12-plex. So I’m pretty sure we could raise the rents to $725 to bring them up to market value very easily. Especially as we increase curb appeal by painting them. 

Also, the current rents are able to carry the cost of the hard money payments until we refinance the property. The estimated time frame would be 3-4 months. My banker would push for before the end of the year.

@Colby Fryar the plan would be to increase rents starting in November. We would introduce ourselves and let them know our intentions to paint the outside and bring up the rents to market value. Then we would give them a lease agreement with a graduating increase from $500 to $600 starting in November and then $725 starting July 2021. I believe we would get turn over probably 50-75%. But the new tenants would be coming in at the higher payment of $725. Also, we are under contract to purchase a mobile home park within just a few miles of this property so we could also offer to keep them at their same rate and help them move into the units that we are adding to our 20 unit park (it is only half occupied at the moment).

Hey @Dallon Schultz . We have enough reserves if anything goes wrong. But the repairs would come out of our monthly cash flow from our other properties. Also, I’ve been working with my banker on this and he is pretty certain that he’ll be able to refinance it once it is stabilized with the new rents. If you use a 6- cap, it would bring the value up to about 1.03 million after the increase in rents. So we should be able to get all of our money out at the refinance and still cash flow 2k a month.  

@Andrew Schrader I realize there may be an affordability issue but Arizona doesn’t have rent control so there shouldn’t be a issue with raising the rents, especially up to market rent. Also, if the tenants have a difficulty with the rent increase, we can offer to relocate them into one of our mobile home parks.

As far as whether or not I would be considered a greedy land lord or not, would ultimately be a subjective opinion. Fixing up properties and bring them up to market rent is a standard practice for the industry. 

@Ari T. Thanks for your comment. The contracted price stated out at 700k but we negotiated down to 680k. With the increase in the rent, I suppose we would have 50-75% turn over. But with the lack of rentals, I am pretty sure we could fill the units rather quickly at the new rental rate.