Long Beach, CA
I’m posting this a couple of days early due to Thanksgiving, enjoy!
In the last article, I explained that a very common question I get from my buying clients is should they buy an investment property. I also explained the distinction between a commercial investment property and a multiplex investment property. In Part II, I’ll explain in more detail the benefits and drawbacks of a multiplex, explain some non-financial factors that should affect someones decision to purchase an investment, and conclude with some practical next steps.
Multiplex (4 Units or Less)
The multiplex category consists of duplexes (2 units), triplexes (3 units), and quadplexes (fourplexes, 4 units). When most first time buyers say that they want to buy an investment property as their first purchase, this is the type that they are typically referring. I often hear that they want to live in one, rent out the others, and let the tenants pay the mortgage. And in actuality, this is exactly what can happen.
The primary benefit of the 4 or less unit multiplex is the ease at which these properties are acquired. Since loans on multiplexes are categorized as residential, the lending qualifications are significantly lower than for apartment buildings. This means that anyone who can qualify for a single family home can most likely qualify to buy a similarly priced multiplex. However, the drawback is that since there is a larger pool of prospective buyers and since the law of supply & demand is at work, the price for multiplexes is inevitably higher per unit than for apartment buildings. The price of multiplexes is also higher per unit than apartment buildings because the method used by most agents and banks to determine value is by using comparable sales of similar multiplexes rather than an income or revenue based multiplier. This doesn’t automatically mean that these are bad investments, it just means that you must be more diligent and more careful if you want to make money out of the gate.
Another major benefit to owning a multiplex over an apartment building is the opportunity to gain from bubble appreciation. Again, since the prices of multiplexes operate more closely to single family homes than apartment buildings, when the markets go nuts over housing, you can expect to gain in price appreciation from all of the buying happening. Apartment buildings, since priced according to their income, will generally only appreciate as the rents tenants are paying appreciate. However, on the flip side of that coin, there are good values that can be found in apartment buildings where the owner has not raised rent for sometime. A savvy, and well versed investor can purchase the property based on the current low rents, slowly (or quickly), raise rent and sell the property based on the new higher rents. This type of investing is almost non-existing with multiplexes.
The primary benefit of the 4 or less unit multiplex is the ease at which these properties are acquired. Since loans on multiplexes are categorized as residential, the lending qualifications are significantly lower than for apartment buildings. This means that anyone who can qualify for a single family home can most likely qualify to buy a similarly priced multiplex. However, the drawback is that since there is a larger pool of prospective buyers and since the law of supply & demand is at work, the price for multiplexes is inevitably higher per unit than for apartment buildings. The price of multiplexes is also higher per unit than apartment buildings because the method used by most agents and banks to determine value is by using comparable sales of similar multiplexes rather than an income or revenue based multiplier. This doesn’t automatically mean that these are bad investments, it just means that you must be more diligent and more careful if you want to make money out of the gate.
Another major benefit to owning a multiplex over an apartment building is the opportunity to gain from bubble appreciation. Again, since the prices of multiplexes operate more closely to single family homes than apartment buildings, when the markets go nuts over housing, you can expect to gain in price appreciation from all of the buying happening. Apartment buildings, since priced according to their income, will generally only appreciate as the rents tenants are paying appreciate. However, on the flip side of that coin, there are good values that can be found in apartment buildings where the owner has not raised rent for sometime. A savvy, and well versed investor can purchase the property based on the current low rents, slowly (or quickly), raise rent and sell the property based on the new higher rents. This type of investing is almost non-existing with multiplexes.
Non-Financial Factors of Owning an Investment, and Living in it
So far, I’ve only covered the financial benefits and drawbacks to owning an investment property. In reality, there are a whole host of other factors that should come into play when considering the purchase. Here are several that I think are pertinent.
Business Style Record Keeping & Liability
This is an aspect of owning investment property that I have read very little about in all of the hyped-up best-selling investment books and something that I had to discover on my own. The reality of owning an investment property is that you literally own a small business. You will be responsible for keeping timely and accurate accounts of all financial transactions, all communications, and you will have extra special liability placed on you by the Government to keep the tenants safe.
In my mind, this is a very sizable burden to take and is absolutely not for everyone. Like any good small business owner, I have spent years refining my internal processes for keeping track of every dollar spent and every dollar collected on the property so that during tax time I don’t feel buried in mud.
Whether you like it or not, a landlord is personally responsible for the safety of their tenants when it comes certain aspects. And, the laws continue to change. As an example, It used to be acceptable in California to have one battery operated smoke detector in the hallway of several bedrooms. Then it was required for landlords to place battery operated smoke detectors in every bedroom. Then it was required by landlords to put a carbon monoxide detector in every unit. And just recently a law passed forcing landlords to replace every single smoke detector in every single unit they own with 10-year battery operated detectors at $40-$50 a pop. These updates to the law are not always well broadcast either, which means a landlord will want to be part of an owner’s association so that they can be well informed on changes in the law.
Apartment Style Living
A potential live-in investor will need to be OK with the idea of living in an apartment style setting for a very long time. Most first time buyers are coming from apartments and they think it will be different somehow if they own the place, and in many ways it is different. But by-and-large, it will be just like apartment living; neighbors on all sides of them, the occasional rowdy party that strikes their peace loving nerve, neighbors taking the last good parking spot, and so on.
I am tempted to say that the benefits outweigh these drawbacks, but in reality, some folks couldn’t put a price on their peace and so this might be a deal breaker for them.
Being a Landlord is Mostly Negative
As good of a Landlord as I think I am, I have never gotten a phone call or a text from a tenant to tell me I’m doing a good job. I have however gotten the phone calls (several) that the plumbing is backed up. Nearly every communication a Landlord has with a tenant is about “negative” issues. The rent is late, the plumbing is backed up, the neighbors are complaining, the roof is rotted and leaking, the tenant wants to move out, etc. I call these “negative” issues, in quotes, because generally people view these negatively. In actuality, these are very normal things to deal with in any business situation. What it will take for a Landlord to be successful, meaning at peace with their investment, is to re-frame the way they think about “negative” issues.
Practical Next Steps
I realize that there is so much more that I could get into, but since this is a blog and not a book, I’ll leave it there. If you have interest in buying an investment property as your first, or even not your first, purchase, here are some practical ways you can prepare.
1) Take an accounting class. If you decide to become an investor, this will only serve to help you. Otherwise, this class might show you that becoming a business owner isn’t for you, and it will cost you a lot less than learning you don’t like business after you start a business.
2) Talk with a local expert. Find an investor or a Realtor that knows investing and ask to meet with them one-on-one. Most Realtors will be happy to give you some time.
3) If you’re already convinced you want to buy an investment, talk with a Realtor to help you navigate both what you can afford, what makes sense for your situation, current lending practices as they relate to investment purchases, and what properties are out there that meet your criteria.
4) If you’re not ready to meet with anyone, try searching for investment property on a housing website and start playing with the numbers yourself to see if you can make it all work. If you don’t know how to “run the numbers”, see step 1.
In conclusion, I believe investment property is a tremendous asset to be a part of anyone’s portfolio. I also understand however that taking on the responsibility of a business (in addition to a 9-5 job) is not for everyone. Buying investment property or not buying investment property, I hope whatever you choose is long lasting and wildly successful. Happy Thanksgiving!
More about us:
www.jimpost.net
www.jimpost.net
Jim Post Real Estate Broker is a Long Beach Realtor
specializing in making the buying and selling process
simple, smooth, and inexpensive. Working in Long Beach
Real Estate for over 10 years, we can provide valuable
representation for any transaction.