converting 4plex to 5 units, what does this change

Multi-Family and Apartment Investing
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converting 4plex to 5 units, what does this change

Trevor Praetsch
New to Real Estate · New London · Member since 2020 · 12 posts · 4 votes

Hey folks! Considering an investment opportunity in NH, currently a quad with potential to convert a space into a fifth unit. Any advice on what to consider transitioning a small multi to large multi. What are some considerations in regard to refinancing/taxes etc. Multi's are a very new realm for me.

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James S.
Rental Property Investor · New England · Member since 2015 · 64 posts · 55 votes
5y

There are a lot of potential pitfalls to this strategy.

First, the zoning. It's very unlikely in NH that the home exists in a place that allows 5+ unit buildings, unless it's in a downtown commercial area. Most NH towns have, in general, four types of residential building types, SFH, 1-2 units, 2-4 units, and 5+. There is usually no overlap between places that allow 2-4 and 5+. If your home is in a zone that allows 2-4 units, it's usually unlikely you are even allowed to apply for a variance or special exception with the ZBA, and it's even less likely it will be granted.

Second, as other have mentioned, is financing. There is an entirely different world of rules for 5+ units, as that is the arbritary numebr someone decided on years ago making it a commerical building. You may be unwittingl violating rules of your mortgage that may trigger a due on sale clause, and you will most certainly need a different type of insurance regardless. Check with everybody about your plans before you start them.

Thirdly, and I would consult with an expert on this (so don't quote me as it's been a few years since I looked into this) adding units is generally considered a class three renovation in NH. This would mean that, per the state fire code, I believe you would have to add sprinklers to the building. The whole building. And that can be a very expensive task, and difficult to do with occupied buildings. Especially when you are bumping up into a commerical level of units, which have more stringent rules, the code will require sprinklers. Furthermore, even if code didn't require it, the fire chief is allowed to require it as a condition of granting the variance.

Do NOT rush into this deal if a) the deal ONLY works with the 5th units and b) you have not crossed every t and dotted every i Twice. Because if you make a mistake, it may cost you a lot of money to fix. Tread lightly and get answers in writing, and have them looked over by professionals, before you sign anything. Adding a unit is much more of a hassle than it feels like it should be, but doing your DD ahead of time will give you the most protection.

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  • John Lenhart
    Rental Property Investor · Cincinnati, OH · Member since 2017 · 258 posts · 207 votes
    5y

    Will zoning even allow this to happen? 

    2Reply
  • Claudio Salvatorelli
    San Diego, CA · Member since 2020 · 150 posts · 54 votes
    5y

    Hey Trevor,

    Great that you started in the RE Game. Personally, I will recommend adding ADU's.

    1Reply
  • Erik W.
    Real Estate Investor · Springfield, MO · Member since 2017 · 1k+ posts · 2k+ votes
    5y

    Regarding zoning:  In my town, category RT1 "Residential Family Townhouse" allows up to 4 units per parcel.  A 5th unit would be non-confirming and possibly a violation that would incur penalties ranging from fines up to and including demolishing the 5th unit.  But before starting you'd never get a permit for it if you had to do new electrical and/or gas work.

    Too, it may limit financing options.  Most banks consider over 4 units commercial instead of residential, so you also pay higher rates.

    2Reply
  • Trevor Praetsch
    OP
    New to Real Estate · New London · Member since 2020 · 12 posts · 4 votes
    5y

    @John Lenhart, seeking the town's say now. thanks!

    0Reply
  • Trevor Praetsch
    OP
    New to Real Estate · New London · Member since 2020 · 12 posts · 4 votes
    5y

    @Erik W. It is currently a 4plex, wouldn't add unit until after it was financed.. just waiting to hear if zoning will allow. Thank you for your input!

    1Reply
  • Pat L.
    Rental Property Investor · Upstate, NY · Member since 2012 · 3k+ posts · 3k+ votes
    5y

    We find the biggest problem with adding units to an MF is the fire safety requirements to current codes. Then you have off-street parking requirements as well as the minimum sq ft per unit. 

    We have a huge finished 1600 sq ft room above a deep double farm house garage at a MF that was once an office with kitchen. It has two separate access stairs, but no bathroom. We inquired about it being rehabbed into a large 2 bedroom but bldg insp., denied it, yet smaller above the garage apartments are quite common in the town ?? A small 2bed/1 bath we toured nearby immediately rented for $1400/month plus utilities.

    2Reply
  • Bryan HartlenPro Member
    Investor · Phoenix, AZ · Member since 2018 · 317 posts · 159 votes
    5y

    You’ll also move out of residential and into commercial financing products and terms. 

    1Reply
  • Trevor Praetsch
    OP
    New to Real Estate · New London · Member since 2020 · 12 posts · 4 votes
    5y

    @Bryan Hartlen, even if i initially finance it as residential and add the 5th unit after? or just if i go to refinance after the fact would the terms change as it would become commercial?

    0Reply
  • Ryan Fox
    Investor · NV and CA · Member since 2016 · 375 posts · 229 votes
    5y

    Even if you get past the zoning and permitting issues, anyone who buys the property from you will have to use commercial financing.  This will probably be a detractor.  

    1Reply
  • Lawrence Dy
    Real Estate Agent · San Diego, CA · Member since 2020 · 41 posts · 30 votes
    5y

    Hi Trevor, you may want to be mindful of your overall investment strategy because once you convert to 5 units, your financing options may change. Also, the property's salability/liquidity may change as well since it will probably no longer qualify for residential lending (4 units or less). Typically, adding an extra unit is an advantage, but you'll have to do a thorough analysis of the numbers as well as the market for 5 unit properties if you have any intent on selling in the future. When crunching the numbers, you may want to explore alternative value add strategies that may be a better allocation of resources depending on your market and property makeup (i.e. adding bedrooms, adding garages, other capital improvements, etc.) 

    Hope this helps!

    3Reply
  • Matthew Irish-JonesBusiness Member
    Real Estate Agent · Buffalo, NY · Member since 2017 · 2k+ posts · 2k+ votes
    5y

    @Trevor Praetsch my advice is to involve an architect from the start

    Irish Jones Realty4.948 Reviews
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    1Reply
  • James S.
    Rental Property Investor · New England · Member since 2015 · 64 posts · 55 votes
    5y

    There are a lot of potential pitfalls to this strategy.

    First, the zoning. It's very unlikely in NH that the home exists in a place that allows 5+ unit buildings, unless it's in a downtown commercial area. Most NH towns have, in general, four types of residential building types, SFH, 1-2 units, 2-4 units, and 5+. There is usually no overlap between places that allow 2-4 and 5+. If your home is in a zone that allows 2-4 units, it's usually unlikely you are even allowed to apply for a variance or special exception with the ZBA, and it's even less likely it will be granted.

    Second, as other have mentioned, is financing. There is an entirely different world of rules for 5+ units, as that is the arbritary numebr someone decided on years ago making it a commerical building. You may be unwittingl violating rules of your mortgage that may trigger a due on sale clause, and you will most certainly need a different type of insurance regardless. Check with everybody about your plans before you start them.

    Thirdly, and I would consult with an expert on this (so don't quote me as it's been a few years since I looked into this) adding units is generally considered a class three renovation in NH. This would mean that, per the state fire code, I believe you would have to add sprinklers to the building. The whole building. And that can be a very expensive task, and difficult to do with occupied buildings. Especially when you are bumping up into a commerical level of units, which have more stringent rules, the code will require sprinklers. Furthermore, even if code didn't require it, the fire chief is allowed to require it as a condition of granting the variance.

    Do NOT rush into this deal if a) the deal ONLY works with the 5th units and b) you have not crossed every t and dotted every i Twice. Because if you make a mistake, it may cost you a lot of money to fix. Tread lightly and get answers in writing, and have them looked over by professionals, before you sign anything. Adding a unit is much more of a hassle than it feels like it should be, but doing your DD ahead of time will give you the most protection.

    4Reply
  • Bryan HartlenPro Member
    Investor · Phoenix, AZ · Member since 2018 · 317 posts · 159 votes
    5y
    Originally posted by @Trevor Praetsch:

    @Bryan Hartlen, even if i initially finance it as residential and add the 5th unit after? or just if i go to refinance after the fact would the terms change as it would become commercial?

    You may be alright but you’d need to check the terms of your loan. When you go to sell it would require commercial financing - so a different class of buyer.

    1Reply
  • John Mocker
    Insurance Agent · Norwalk, CT · Member since 2016 · 2k+ posts · 1k+ votes
    5y

    Trevor,

    If you are currently insuring it on a Dwelling/Fire form you will probably have to change to a commercial form.  Most Insurance companies that provide Dwelling/Fire policies will not do so for a 5 unit.  You would have to change to a Commercial policy (either a Business Owners policy or a Package policy).  

    You may be able to keep the existing policy during the build out or you may have to change it before you start.  Check with your agent to find out.   Depending on the extent of the renovations you may have to do a Renovation Builders Risk during the process and then rewrite to the commercial form once you have your Cert of Occupancy.

    0Reply
  • Alex S.
    Investor · Metro East of St. Louis (Illinois) · Member since 2016 · 259 posts · 211 votes
    4y

    @Trevor Praetsch What did the city end up saying?

    I have a 4-plex that is an easy conversion to a 5-plex.  Granted, mine is in Illinois, but I thought your experience might be informative.

    I can't imagine that your residential financing would be affected at all...as long as you are making the payments.  Obviously, when you sell it, the buyer will require commercial financing, but I viewed that as a positive thing.  Commercial financing is based on cap rates and the income produced, not comps.  That adds a lot of equity for me right off the bat! 

    0Reply
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