Defining Real Estate Property Class: Where to Invest

As you begin investing in real estate, you’ll likely hear people talk about a property being in an A, B, or C location. Just like in school, neighborhoods receive a grade—though the classification is a bit more subjective. There is no government organization, board, or company that outright defines a property management class.

Property classes are, honestly, more of an unwritten rule accepted by most investors, and the lines are not incredibly clear. You might think a location is an A location (simply put, “the best”), while another investor might think it’s a B location—or second best. But for the most part, investors do agree on the class distinctions. Different states and cities may offer variations on how the classifications are ranked.

With each class, there are different risks and rewards. You’ll need to do your due diligence to find out which class is the right investment for you.

Learn More: How to Evaluate A-Class, B-Class, and C-Class Properties

The differing grading scales

Some investors grade locations on an A-to-C scale, whereas others grade on A-to-F scale. In other words, you might say a location is a “C” location—or you think it’s the worst—but someone who grades on an A–F scale might think “C” means middle of the road. For the sake of clarity, we’ll use an A to C scale.

In addition to the location receiving a grade, the property itself can be classified as an A, B, or C property. So you might hear someone say, “I have an A property in a B area.” To add more specificity to the classification system, some even add a plus or minus to those grades. You might hear, “The property is a B-minus house in a B-plus area.” For now, we’ll omit the plus and minus designations, but feel free to use them if you want to add specificity when you start investing.

Property class A

A class A location is an area with new buildings, hot restaurants, great schools… and expensive real estate. Tenants earn high incomes and properties have are rarely vacant. This is truly the best location you can find, and the highest-quality tenants want to rent here.

A class A building is generally newer—probably less than 10 years old—and thus has fewer maintenance issues. The building has modern amenities, such as granite countertops and hardwood floors. Properties will be well-located, such as along the waterfront, downtown, or in a suburb, depending on your area.

Class A properties generally command the highest rent but may provide a lower amount of cash flow because of the high-demand for an “easy investment.” That means purchase prices will be higher—and cash flow is lower.

Property class B

A class B location might be slightly older than its class A cousin, but still has decent restaurants, shopping, and schools. Typically, these areas are 50 percent owner-occupied, with the other 50 percent investor-owned and tenanted. This might be your middle class area, where tenants have a slightly lower income than those in Class A properties.

A class B building is probably 15 to 30 years old. These homes lack the shine of a class A property. Rental income is lower, and maintenance costs are higher due to the age of the home.

However, you can add value here. These properties easily upgrade to a B-plus or even A property with renovations and improvements. Due to the cash flow, growth potential, and exit strategy offered, class B properties create a solid foundation for any investor seeking to build a substantial cash-flowing property portfolio.

Property class C

Class C locations typically have tenants with lower incomes than in class B areas, and homes are old—30 years or more, without any historical valuation. This area is less desirable, and many properties show visible deterioration. Some may even be boarded up. The neighborhood is likely far away from shopping, restaurants, and public transit.

A class C building, too, is likely older than 30 years and looks the part. They need frequent repairs, so plan for ongoing maintenance. Systems, like plumbing and electrical, may be outdated and require ongoing attention. Properties will typically rent for less—but will be much more affordable.

These properties are predominantly investor-owned and tenant-occupied. While they offer the highest cash flow out of all the classes, they require hands-on, full-time monitoring and management.

Look for a property manager who specializes in this particular area.

Which class should I choose?

Many great portfolios rest on strong, B-class foundations acquired with the lowest amount of debt possible.

After you’ve built a strong foundation that generates a decent amount of cash flow each month, consider taking on more risk. Use leverage to diversify into class C areas, which further increase monthly cash flow and enable you to grow your portfolio at a quicker rate.

Disclaimer: There are horror stories and fairytales in this hit-or-miss asset class. Conduct a ton of due diligence before investing, and make sure to seek out the best property management.

(What about class A properties? Skip them. Instead of telling yourself, “I wish I lived there,” move there once you’ve built a grand portfolio!)

As mentioned previously, the class distinctions are not very rigid or defined, but the classifications outlined here should give you a general indication of how investors view properties and neighborhoods. Research your market to find out what strategy works best for you.

What property class do you prefer to invest in?

Tell us below!

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.