What To Look At When You Evaluate Multifamily Properties

Multifamily properties have served as an enticing real estate exit strategy for those entrepreneurs looking to generate cash flow, and for good reason: the right multifamily property can make for one of the best investment decisions in your life. The wrong one, however, could quickly become a nightmare. That’s why it’s absolutely imperative that you learn how to evaluate multifamily properties — correctly, nonetheless. If for nothing else, you need a game plan to decide if the return on investment is worth the mortgage you will ultimately take on.

There are many ways to evaluate multifamily properties, and everyone has an opinion on the topic. However, I have come to the conclusion that there are five universal factors that must be taken into consideration. Of course there are minute details that will vary from deal to deal, but the following five factors should be weighed very heavily whenever you intend to evaluate multifamily properties.

EVALUATE MULTIFAMILY PROPERTIES IN 5 STEPS

Again, there are countless things to consider when evaluating multifamily properties, but real estate professionals and pundits alike are of the consensus that the following factors are among the most important to consider before you decide to strike a deal:

1. Location

Real estate has become synonymous with one golden rule: Location, location, location. Nothing holds more value in a respective property than the plot of land on which it is situated. More often than not, it’s the location you are paying for, and multifamily properties are no different. That’s why, when you evaluate multifamily properties, one thing should be taken into consideration before anything else: where the property is located.

Remember, you can always change the property — renovations can go a long way in adding value to a multifamily real estate investment. However, for obvious reasons, you can’t change the location. With that being the case, you need to make absolutely certain that the location you buy in is conducive to what you intend to achieve.

There’s no doubt about it: the location will play an integral role to the way things unfold with a multifamily investment property, and those investors that listen to what the area is telling them could find themselves ahead of the curve. In other words, if you know what to expect from the majority of your prospective tenants, you will find reducing vacancies and marketing to be that much easier.

2. Unit Composition

Unit composition, or a fancy way of identifying the amount of units a multifamily property holds, should the the second thing you take into consideration when you evaluate multifamily properties — second only to location, of course. Not only will the multifamily building’s unit composition give you a better understanding of what exactly you are getting into, but also a better idea of the type of cash flow one could come to expect from the respective property. If for nothing else, each individual unit will be expected to produce cash flow, and it’s that cash flow that will help justify the purchase price. You see, once you have an idea of just how much each unit may produce in rent (which can typically be calculated by what the market dictates), you will have an idea as to whether or not the cash flow justifies the purchase price.

At the very least, the rent you collect from a multifamily property on a regular basis should be enough to offset the mortgage — and then some. Of course, you will need to account for vacancies (which are inevitable), but rents in America are so high right now that even multifamily properties with a few vacancies can produce enough cash flow to cover the cost of the mortgage, and perhaps even allow you to put some money away for a rainy day.

3. Potential Income

Not unlike the unit composition, the potential for income is a necessary step in evaluating the validity of a multifamily property. After all, you would never want to invest as much capital as it costs to acquire a multifamily property without having an idea on the return on investment (ROI), or even the rate of return for that matter. No, instead of blindly acquiring multifamily assets, you have to mind due diligence and — above all — conduct some extensive research. Namely, local market “comparables” will serve as your greatest resource. Check out the competition in the area you intend to buy in and get an idea of what similar units are renting for. Be sure to use similar properties within a close proximity of your own, as even a few blocks can constitute a significant price change.

It’s worth noting, however, that the “as-is” condition of the multifamily property may not be on par with those comparables. And if that’s the case, you may need to put in a little leg work to make sure your units can compete with others in the area. If you are looking at buying a multifamily property that needs some work, you will need to identify the after repair value (ARV). What would a unit rent for if it was comparable to similar units in the area? Again, the ARV can typically be narrowed down by looking at nearby units with similar traits: Square footage, number of rooms, number of bathrooms, location, etc.

In it’s simplest form, the income potential of a prospective multifamily property can be easily identified by comparing it to what else is on the market. Comparables will merely give you a starting point; there are ways to fine tune your actual rent, but that topic will be reserved for another time. For now, it’s important to know how much each unit has the potential for bringing in, and if that potential is worth the initial investment and monthly mortgage obligation that will follow.

4. Expenditures

Not excluding the initial cost of the property, investors looking to evaluate multifamily homes need to have a firm grasp on the costs they will incur by taking on the asset. If for nothing else, the purchase price is just the beginning. To evaluate multifamily properties correctly, you need to account for each additional cost. Investors need to be aware of expenses that run the gamut from property taxes to rehab costs, and everything in between. It’s in your best interest to account for every expense and weigh them against the profit potential. If your numbers are in the green afterwards, you may have found yourself a promising multifamily investment deal; if not, you may want to keep looking.

5. Property Manager

I am convinced that one of the most overlooked factors in evaluating multifamily properties has nothing to do with the property itself, but rather the person managing it. That said, the manager has a huge role in deciding whether or not the property becomes a valuable asset to your investment portfolio. And whether it’s you or a property management company, the one chosen for the job had better know what they are doing. Because even a great property can go wrong in incompetent hands.

Knowing full well that a great property management company can elevate even average properties, I highly recommend aligning yourself with a professional. That’s not to say you aren’t capable of managing the multifamily property, but a trained professional will most likely know how to do everything you already know how to do, and more. There is no reason to believe that the right property management company can’t run every aspect of the property while you sit back and collect rent checks. What’s more, it’s that manager’s assistance that will allow you to pursue and acquire other assets. With the responsibility of running your multifamily property squarely on the shoulders of the manager, you are free to acquire more homes and add to your portfolio. Conversely, if you don’t hire a property manager, you could find the majority of your days consumed by menial tasks that could easily be done by someone else.

If you want to learn how to evaluate multifamily properties, there is no better place to start than with these five fundamental indicators. While they don’t make up everything you absolutely need to know about a property, they can’t be left out. Do yourself a favor and be absolutely certain to evaluate these factors before you decide to make the jump into multifamily properties.