A Guide to Multifamily Classifications

 

When you are looking at properties and the area they are located in, you will hear about different classifications: Class B area or a Class C building. Getting to know these important factors will help in outlining the quality and rating of a property.

Today, we go into what the classes for buildings and areas are and why it matters.

If you are new here, welcome. My name is Agostino and I’m a real estate entrepreneur, syndicator, and investor. I like to share stories, lessons, and advice from my journey in – real estate, particularly, multifamily real estate, and I enjoy helping others to get into the business. I do that through the Bulletproof Cashflow social media channels and through coaching, both online and in person. If you haven’t subscribed, do that now and turn on notifications so that you don’t miss anything. Also, I’d love to know who you are and what you’re up to, so say hi on social.

Property and area classifications will reflect the risk and return of the deal because they are graded according to a combination of physical and geographical characteristics, respectively. The letter grades are subjective. They are given to properties by brokers, buyers and sellers that consider the combination of factors like the age of the property, location, tenant income, amenities and rental rate. This variety of items will drive the cap rate, that as you may already know will shift also with the supply and demand cycle of the market. But if you are in tune with your area, you can determine whether the asking price is in line with the market.

There is no formula by which properties are placed into classes, but the common breakdown is A, B, C and D. From here, there are two different classification when we talk about a property: 1) The Area Class and 2) The Property Class.

The Property Class is centered around the physical condition, the age of the building, amenities, and the demographics of the community. With the Area Class, on the other hand, you look at the age of the neighborhood and what is local to the neighborhood. You consider crime rates, the demographics, typically broken down by zip code. You are also looking at what kind of commerce or retail is in that area. For instance, if there are a handful of national stores near your property versus an industrial trucking side across the street from the property, those are two different areas with two different classes.

Before we get into the classes of the area and property, let’s go over why we use them in multifamily and commercial investments in the first place.

When a broker or a seller tells us the classification of a property, it is supposed to let us know what kind of demographics and neighborhood we are talking about and the condition of the property take a look at it. Classes also tells us what the cap rate of the property and the area are. Classes are like grades – from Class A to Class D. The higher the grade, the better the property condition. The better the property is, the lower the cap rate. When it comes to Class A, think of properties that you will find at a busy downtown area. It could be an all glass multifamily tower with pool, sauna, shopping on the first floor and a very affluent tenant profile. A building like this may cost $50M. The cap rate will be low on an asset like this, but a large hedge fund with money to put to work wants that degree of certainty and doesn’t mind paying a premium for these great properties.

Keep in mind that classes of property not only vary from A to D, but there are degrees within each one. You will have A- or B+ properties. Perhaps you will have a C- property but in a B area. Generally, the rating will go all the way from D- to A+ and everything in between. And because brokers, sellers and other people classify the property or area differently, it can be a bit subjective. This is especially important to remember when you get a new offering memorandum from a broker with a bright-colored  Photoshopped building on the front, meant to show a higher property classification.

It’s worth noting that the classification of the area is far more important than the classification of the property. If you have a C- building in a B+ area, you can make renovations and drive higher rents to get that property to a B+ like the area it’s in. In contrast, if you have a B+ property in a C- area, it will be hard to get the affluent people to move there as they will not want to be in an area where they do not have the amenities they want or where they don’t feel safe spending time outside the property.

As I mentioned, getting into the area classes is much more important than the property classes.

In a Class A area, you are in the best neighborhood in the city. It will have the best schools, lots of high-end retail, maybe a top shopping mall nearby and plenty of restaurants. The neighborhood is typically no more than 5 years old.

In a Class B area, it was perhaps the Class A of before. It still has great neighborhoods and a low crime rate. The school system is decent and the homes are still pricey. The neighborhood may be 5 to 10 years old and the styling of the houses may be starting to look a little dated.

In a Class C area, you will have your workforce housing. Neighborhoods are decent. The homes are more than 10 years old but are usually 30 to 50 years old – sometimes even older. The community can be made up of blue collar workers, people in food service or just an everyday worker. The school system is not the best but not the worst. The people that live in Class C & B areas have a high dependency on jobs. They live from paycheck to paycheck.

In a Class D area, you would not feel safe walking on the streets at night. In the real estate business, they refer to this area as the “war zone”. Here, you will see graffiti, gangs and homeless people hanging out in front of the property. The school systems are very poor, there will be high crime and there are boarded up homes and buildings in the area. These are your highest cap rates, but also your highest risk properties.  

When we are looking at the properties, they will follow the same grading level, with A being the highest quality and D with the poorest quality.

In a Class A property, you are looking at a new construction property. It may have a doorman, a resort style pool, clubhouse and fully equipped gyms with a sauna. These units will have quartz countertops, backsplashes, stainless appliances and upgraded flooring. They put a great deal of effort to appeal to the affluent crowd that will pay the highest rents in the area. They are the best looking properties with the best construction and have high quality building infrastructure with up-to-date technology. As you can guess, the Class A properties are usually in the Class A areas, so the residents have access to great shopping, restaurants and leisure activities. Sometimes, you will see a Class A property in a transitioning area that may be going through gentrification. The landlords of these types of properties are usually institutional investors and they are not concerned with a low cap rate. Rather, they are looking for safe and consistent returns on their investment. But we need to bear in mind that Class A tenants may be sensitive in times of an economic slowdown if these high income earners suffer from a job loss or business slowdown.

In a Class B property, the buildings would have been well maintained and still have decent amenities. They will be on the older side, 8 to 15 years old, but still look great. You will see the granite countertops of yesteryear, white appliances and nice gym. Similar to what I said about the area, these properties may have been Class A before, but look dated. The people that would live here would be mid-level managers, business professionals or people with young families and higher than average income. Often times, value-add investors look for these properties as investments since well-located Class B property can be returned to a Class A through renovations, unit improvements, updates to amenities or technology upgrades.

In a Class C property, they are still in good condition and are in decent locations. They don’t have any fancy amenities, if any at all. There may be laundry or a small gym, but that is about it. Regardless, there is still a sense of community. Like I mentioned, this is where the local workforce housing will reside. You will have blue collar workers and young people just starting out. These properties, like the area, can be quite old – built 20 to 50 years ago, but mostly on the older side. Hopefully, they have been maintained – (or not so you can pick up a deal) – but it costs more money to operate because it is older. Because the category is so big, the range of property is quite large. So a Class C property can mean two different things to two different people. Like I said earlier, the people that live in Class C  properties are dependent on jobs. They live from paycheck to paycheck. Underwriting your tenant – like I cover in my other content – becomes more important in this asset class too. This is what most investors are looking for to get the biggest bang for their investment dollars.

In a Class D property, these are buildings in the poorest condition. The area may have been great at one time, but now it houses tenants that do not have a steady source of income or rely on government assistance just to make ends meet. Because it’s in a high-crime area, you would need to secure with steel doors, cameras and fencing to keep the bad people out. I recommend my coaching students to avoid these areas when starting out.

In a strong economy, affluent people will move from their Class B unit to a Class A property. A Class C resident will upgrade to a Class B unit. And a person living in a Class D will move to a Class C property. In a weak economy, the reverse tends to happen and each tenant profile will downgrade as they either tighten their belts or are worried about their income stream.

My partners and I prefer to invest in Class B and C buildings in Class B areas. This workforce housing is always in demand and will weather the storm of economic cycles that happen every 8 to 10 years.

Finally, keep in mind that this is just a general guideline of multifamily classification. There is no formal standard for classifying a building or an area. Buildings you are looking at should be viewed in the other properties in the local submarket. Meaning, a Class B property in Miami is not the same as a Class B property in Cleveland or as in Dallas. And a Class C property in New York City will be probably more desirable than a Class C property in Topeka, Kansas.

Anyway, what sort of assets do you invest or would like to invest in? Let me know in the comments. Also, let me know if there’s a topic you’d like me to cover!

And if you liked this content, please give it a thumbs up and share it. Also, check out  our social media channels and if you are on YouTube, don’t forget to hit the bell so you get notified when we post new videos. If you are looking for more content or coaching, reach out to us at BulletproofCashflow.com. We are working on getting new content out all the time to help you build your success in the world of multifamily.

Be great.

5 Self-Management Tips for a DIY Landlord

 

 

As a real estate entrepreneur, you have two options when it comes to managing your property. You can either self-manage or you can hire a professional property manager. Here are tips if want to go the DIY route.

1) Screen your tenant prospects. Get an application with their signature that will allow you do to a credit, criminal and public record check. You will also want to look at their financial and income situation to make sure they can cover the rent. If the prospect had prior evictions, violent crimes or has some nasty lawsuit going on, you may want to reconsider having them as a tenant. Finally, call the previous landlord and their current employer to verify they actually work for them.

If everything checks out, get to know them. You will want to ask if they have any pets and if they are housebroken. Do they plan on getting a roommate in the future? Do they work night shifts or odd hours? Do they smoke anything? If so, do they smoke indoors or outside? Do they have any friends that will be spending overnights at the unit and will not be on the lease?

Be aware that you need to abide by fair housing rules; I created some content as it relates to pets and will include a link in the description.

2) Always get a lease. Having a standardized lease for all your units is critical to protecting you and the property. Make sure everyone that lives there over the age of 18 years signs the lease. Here is an example of why: You have a married couple move into the unit. The wife signs the annual lease, making her responsible for the rent. Two months later, the wife decides to leave the home and the relationship. The husband is not obligated to the terms of the lease because he didn’t sign it. Spend the money and get an attorney to draft a document that will hold up in court. There are many places online where you can just download a lease, but I don’t recommend that. Every state has very specific laws that cover everything from fair housing to late payments to security deposits. An experienced attorney will make sure all these laws are followed and keep you out of trouble. It’s also worth noting that having a lease in place will also help you when you go to sell or refinance the property as banks typically want this information for deal underwriting.

3) Document everything. When you are onboarding tenants, take plenty of video and photos of the property. Have it stored online so it can be accessed at any time. Be sure to have the tenant sign off on a checklist that outlines the current condition of the unit. After they get settled in, document any and all phone calls, emails and text messages as well as the outcome of the discussion. If you are unable to do it yourself, hire a virtual assistant to keep track of those items for you. All this will become important if you need to evict down the road.

4) Issue a 3 day if they are late or violate the terms of the lease. This part is important; If they do not pay, send the 3-day notice immediately by certified mail and taping it to their door. I prefer my managers hand it to them as the counting of three days will not begin until the tenant has the document in their hands. When they have the notice, the tenant will have 3 days to either pay the rent or move out. You can offer them help in the form of contacts at the local church for food and money to cover the rent, but make certain you kick off the 3 day without delay.

It will be up to you if you want to accept partial payments or work with the tenant to get them caught up. It really depends on their track record and how far behind they are. Further, you will need to turn the unit once they leave, which could cost you thousands. This is something you will want to consider on a case by case basis. Besides the cost of turning the unit, it is expensive and time consuming to go through the eviction process. Regardless, you are under no obligation to do anything outside the terms of the lease. My personal experience says that most times, it’s just best to cut your losses with that tenant that is always late and push on with an eviction.

5) File the eviction. In some areas, it could take as long as 60 days to get a Writ of Possession that will ultimately get a non-payer out of your unit. In that time, you will not only lose rent, but they will also poison the other tenants. You will be surprised what a tenant will come up in terms of deferred maintenance and inaction on your part as an owner. This is why documenting any and all interactions are critical. While all this is going on, you as a landlord can’t turn off the utilities, change the locks or have all their belongings moved. Those sorts of actions will get you sued. As a side note, make sure you have the right insurance on the property in case of damage caused by the tenant or if you get unscrupulous tenants that may try to sue you. I heard a story of a tenant that faked a garage door falling on them just to slow down the eviction process and also get some insurance money. Make sure you are covered.

Those are my 5 Self-Management Tips for a DIY Landlord. Personally, I prefer to bring in professional property management to the deals my team and I buy. They handle routine and emergency repairs, maintain good relations with our residents, collect rent and track tenant deposits, but most importantly, they know all the federal, state and local laws that keep us out of trouble. They keep our aggravation to a minimum and allow us to focus on building and scaling the real estate business.

With professional property management in place, I don’t need to be on call 24/7 and I can focus on my core competencies: operations and acquisitions. If I want to be my best and provide the best value to my investors, I can’t use my time becoming a master at all the laws and ordinances that govern precisely how to manage a rental property. Many property managers are great at what they do. Let them focus on that while you focus on operations, acquisitions or whatever your core competency is.

In my experience, bad tenants make up the majority of the problems when taking on a new deal. Underwriting tenants is absolutely critical to seeing your multifamily deal succeed. As you speak and get to know the potential tenant, trust your gut and back it up with data in the form of their credit report and background checks. Just be careful not to overstep your boundaries and break any privacy laws, Fair Housing laws or laws as it relates to service animals.

Remember that there is no such thing as “income-producing” property. Properties don’t produce income. People and systems do.

Anyway, do you have any tips for finding good tenants? Have you recently transitioned to a professional property management company? Let me know in the comments.

5 Multifamily Strategies to Cope with a Recession

 

I’ve been tracking the U.S. economy for some time. Most everyone from economists to multifamily real estate experts agrees that a recession is coming. Billionaire hedge fund investor Ray Dalio agrees that a recession is likely, we just don’t know when.

As of today, mid-April 2019, I would venture to guess that we are one to two years away from a market correction. According to a recent article in the Wall Street Journal, job growth in early 2019 came in below expectations. U.S. Gross Domestic Products growth has been fading since that article, with an annualized rate in excess of 4 percent in the second quarter of last year, and has fallen just a bit. The Federal Reserve Bank forecast suggests that the first quarter of 2019 annual growth rate may fall below 1 percent. I personally believe this to be cyclical, but when the Federal Reserve sees these numbers, they will pull back on their plan to aggressively raise interest rates and shrink its balance sheet.

The thing is, there is no way to know whether to wait 2 years or 8 years; it’s hard to predict. Rather than sitting on the sidelines, my team and I are staying active in the market, always looking for deals. We are tracking prices, looking for the asking and selling prices and watching for how long they are on the market. The best suggestion I give to others is to not overpay just to get into a deal. Buy on actuals and never on speculation or a broker proforma. Rather, be prepared to act quickly; Make certain your equity or down payment lined up, your banking relationships are ready, your credit score is good, and you convey your ability to close.

Here are five strategies to make sure your investments are protected when there is a correction or an all-out recession. These strategies will be good for 2 years or 20 years. They will always be relevant:

1) Always Buy “In Demand” Locations – As long as there are people, there will be a need for housing. When there is a market slowdown, friends and family will move in together to save on living costs. They will likely want to have access to public transit and highways, close to amenities like grocery stores, retail, malls, and hospital and safe neighborhoods. We personally like B- value-add properties that have a lot of nearby commerce, jobs, and population growth.

2) Keep Up With Maintenance – Because people will move in together to save on housing, some owners may see their vacancy rate creep up. Inventory will be on the rise and you will be competing with other landlords for tenant dollars. You will want to make sure your units do not look old, dated and worn out. The competition will be heavy. I would even say that if you are turning units and you are able to put in better materials at a reasonable price, do it while the market is strong so you can recoup your investment faster. I’m not saying to “over-renovate”. Rather, if you are able to get a deal on ceramic flooring for a property that would usually call for vinyl, and the cost is marginal, go for the ceramic.

3) Set Up a Reserve Account – Knowing that a recession is coming, make sure to build up your reserve account to make up for any upcoming vacancies, repairs, and other expenses. If you set aside 7% of the total rent every month for 12 months, you will have one month’s rent saved up in your reserve. If you don’t use it, you can deploy to your investors or make a major improvement that will drive NOI.

4) Have Liquidity – This strategy is related mainly to new deals; Lenders will be hesitant to lend during a slowdown or recession and sellers will be on the lookout for cash buyers. During a recession, the loan to value numbers we see today (75% or 80%) will certainly be much lower. Some lender may not lend at all. Having cash at your disposal – either liquid or lining it up from investors today – will be important to taking down deals when the economic storm comes.

5) Know Your Numbers – Calculate and track your net operating income on a regular basis and know where your break-even point is. Meaning, know what the bottom line number is to cover the mortgage, property management, taxes, insurance, and other expenses. You also want to know what other landlords are renting their units to understand how the market is trending.

If you buy and manage a good property with good strategies, you will always win. Yes, it would be great to pick up deep discounts if you manage to time things perfectly. I believe there is always a deal out there; You just need to work harder to find them. If you are waiting to time the market, you are foregoing the all the gains from today plus cash flow for the coming years. Like all investing, it takes patience and confidence to build success. Ultimately, you will have to make the call yourself on when you’re ready to take on a deal. Regardless, it’s been proven time and time again that getting into long-term, well-positioned and well-managed multifamily will deliver substantial inflation-beating returns.

Anyway, do you think there is a recession coming? When? Let me know in the comments. I’d love to hear from you.

If you liked this content, go ahead and give it a thumbs up and share it. Also, check out the Bulletproof Cashflow podcast on iTunes or Stitcher, and subscribe to our YouTube channel. We are working on getting new content out all the time to help you build your success in the world of multifamily.

Be great.

Why Are People Overpaying for Multifamily Deals?

 

After the 2008 crash, the world of multifamily real estate has exploded mainly due to the low cost of capital by lenders and by individuals flush with cash. Sellers of multifamily understand that all this cash is looking to be put to work and this is driving prices to new heights across the U.S. Reports published by Black Creek Group show that almost ALL the 54 Metropolitan Statistical Areas they monitor are either currently in or about to be in hyperinflation.

This explosion is not just limited to appreciation markets like New York or Los Angeles, but tertiary cashflow markets alike. My partners and I are shocked at the prices that the asking and sale prices for some of these apartments deals.

Some of this heated market is commercial brokers inflating prices to get an institutional or foreign investor to overpay for deals. What’s more, many of these people are coming to the table with up-front non-refundable deposits before due diligence plus a 15% premium. Bear in mind that this was for a C-Class portfolio in a market that usually sits at about a 10% cap rate. They paid a 5.5% cap. Unless they are only worried about parking money, it will be hard to get a decent return on that investment.

To me, it seems that these investors are going ahead and overpaying for deals and ignoring the fundamentals of this business such as cash-on-cash return, cash flow, and ROI. But why are they doing it? Here are some possible reasons:

1) Individual investors have 1031 exchange funds that need to be put into real estate to avoid being taxed by the IRS. Because there is a tight time constraint of getting those funds into another real estate deal, they are willing to take a slightly lesser return than have it taken by the IRS.

2) Institutional investors are lowering their bar and going after smaller deals. They used to just look at deals exceeding 250 units – usually 500+ units. There are so few deals out there that they are now going after smaller deals. They are willing to take the smaller returns to put their cash to work.

3) Out of state investors are not seeing the returns in their local markets because their respective markets are way too expensive. They look to the midwest and are attracted to a “cheap” cost per door. International investors want to put their cash into a stable and strong U.S. dollar and see the same cost per door as an easy way into the market. In both cases, they are still paying a premium as the buyers in the local market won’t even touch that deal.

4) Buyers and Syndicators believe that ALL markets are appreciation markets and will sacrifice a lower return for that they believe will be a huge boost in the sale price down the road. This is not the case in many markets. There is nothing wrong with buying for appreciation, but people need to understand what they are buying.

5) Buyers and Syndicators are bending their conservative rules and taking reduced cash flow and returns to get into a deal. They assume the market will continue its climb for the next 20 years with no economic disruption while tacking on rent increases of 4% to 6% a year in their financial models.

6) When these same Buyers and Syndicators perform their underwriting, they assume that bank interest rates will be as low as they currently in 5 years from now. If you look at the trend of the Federal Funds Rate Historical Chart, it’s on the way up. I’m willing to bet it will continue to climb.

7) That broker on Loopnet ACTUALLY returns a buyers’ call and tells them about a sweetheart, off-market deal that they just can’t pass up. However, they need to pay top dollar to win it. So they accept the broker’s proforma as truth and buy the property. The broker then takes that comp and puts it on the next deal they are peddling.

I’m not saying that anyone making deals today doesn’t know what they are doing or that any deal trading today is overpriced. The buyer may have access to an off-market deal or there is a true value-add play where the rents are 30% below market and occupancy is at 78%. In this case, you and your team are adding value by stabilizing the property. Regardless, the investors in these deals make sure it meets their minimum investment criteria and do not deviate. They also adjust the model to the work involved to stabilize it to the level of risk.

I am a believer in buying for cash flow. My partners and I stick to the numbers and leave the broker’s opinion and pro-forma out of our decision-making process. Unless you are getting into a big turnaround situation as I described before, your best bet is to apply conservative underwriting to your deal based on actual performance. If the deal performs well and you can still build in reserves while still satisfying your investment criteria, then you take that deal down. This means you will be analyzing a boatload of deals, but it’s the only way you won’t crash and burn on a deal.

Anyway, is there any situation where it’s OK to overpay for a deal? When would you do it? Let me know in the comments. I’d love to hear from you.

If you liked this content, go ahead and give it a thumbs up and share it. Also, check out the Bulletproof Cashflow podcast on iTunes or Stitcher, and subscribe to our YouTube channel. We are working on getting new content out all the time to help you build your success in the world of multifamily.

Be great.

4 Powerful Tax Advantages of Multifamily Real Estate

 

Since we are now officially in tax season, I’m sure many of you are wondering how to protect your wealth from it being taken by the IRS. I have covered some of the tax benefits when it comes to multifamily, but I want to go a little deeper in the benefits and what it means to you as an active owner or a passive investor.

Before I go into the 4 most powerful tax advantages of multifamily investing, please note that I am not a CPA or a tax attorney. All this information is based on my personal experience and advice from my advisors on deals. Really, this is a birdseye view of the most powerful tax benefits that any passive investor should understand and you should talk to your own tax planning advisors and strategists before executing these tactics.

1) Depreciation
When you own or are invested in a multifamily deal, you are technically invested in a business. So everything related to that business, from paperclips to taxes, can be written off. One of the most powerful deductions you can write off is depreciation.

This is how a straight line depreciation schedule works: The IRS ruled that resident-occupied real estate has a lifespan of 27.5 years. The land the property sits on cannot be depreciated as it has an infinite lifespan. Let’s say you want to buy a property for $6MM and the land is worth $400k. Applying the IRS rule, you are able to deduct 1/27.5 of the $5.6MM, or $203,636 from income for each year. This allows you to show a loss on paper as the deduction may eliminate most or all of the income from that property. Even though you show a loss on your tax return, that money is cash in your pocket and that of your investors.

If you have a portfolio of other investments, you are then able to apply these paper losses to other areas of your portfolio. This means that your multifamily investment can lower your tax exposure on other investments you hold. Even as a passive investor on one of our deals, the depreciation in our multifamily deals flows through to our investors in proportion to their ownership percentage.

Keep in mind that I am not saying that it is not an entire elimination of all taxes. But there are other tools you can use to defer taxes indefinitely and even accelerate depreciation

2) Cost Segregation
Cost Seg is a great way of accelerating the depreciation of just about any commercial property – including multifamily. As I mentioned earlier, the IRS tax code says that real estate has a lifespan of 27.5 years. However, there are certain items that make up the building such as the plumbing fixtures to the cabinets to the appliances, that have a shorter lifespan.

When a professional cost segregation study is performed, an engineer will come on site and walk each individual unit. From there, they will separate all the items from the overall value of the building and present you with a schedule for those individual items. Many of those items, the IRS deems them to to have up to 7 years of useful life. The cost segregation study identifies these items.

In the previous example, I indicated that you would save $203,000 in taxes through depreciation. Let’s say that the cost segregation study of that $6MM property shows there is $5MM in building depreciation and $1MM from personal property appreciation. Your taxes look a lot different. We would take the ($5MM x 1/27.5 years) for $181,818 and ($1MM x 1/7 years) for $142,857, totalling $324,000 in annual depreciation expense – a significant savings over the $203,000 that we had calculated before! This will give you a great tax offset in income against other investment income.

The only caveat with taking this approach is that you could get hit with a higher tax bill when you go to sell the property down the road. As I mentioned earlier, there are ways of rolling your gains without getting nailed on taxes.

3) Qualify as a Real Estate Professional
For many people, real estate is a means to supplement their full-time job with some additional income. What many don’t know is that if you spend 750 hours or more annually in your real property business, such as managing rentals or turning units, you qualify as a Real Estate Professional. This means you are able to deduct 100% of your rental depreciation and ‘losses’ against any other income. This designation only helps you if you have ownership in a significant amount of rental property (i.e. more than just 1 unit) and you earn less than $150,000/year in Adjusted Gross Income. If you are an investor in one of our deals, you then have ownership and that may get you qualified.

4) 1031 Like-Kind Exchanges
Earlier, I mentioned depreciation as a way to increase your deductions and reduce your gains. A great way to defer taxes on your gains is by using a “1031 like-kind exchange” to roll your gains and avoid getting nailed in taxes for an indefinite amount of time. As long as that cash stays in the 1031, you can keep multiplying it without any tax implications.

This is one of the most powerful tools when it comes to deferring taxes and saving you a lot of money. The first thing to know about doing a 1031 is that when you roll the profits from your real estate project, it must be put into another real estate project like the one it was in previously. This means you cannot take the profits you made on that multifamily deal and roll it into a new pizza place you want to start up. You would need to roll that cash into a higher-basis property within a set timeframe. Talk to your CPA about lining you up with a professional 1031 intermediary.

Anyway, have you heard of these tax advantages? Let me know in the comments. I’d love to hear from you.

If you liked this content, go ahead and give it a thumbs up and share it. Also, check out the Bulletproof Cashflow podcast on iTunes or Stitcher, and subscribe to our YouTube channel. We are working on getting new content out all the time to help you build your success in the world of multifamily.

Be great.

How To Protect Yourself At The Top of the Multifamily Real Estate Market

 

Everyone, from the major national mortgage brokers to Kiplinger Magazine, are all saying the same thing: 2019 is still a hot market. Cheap debt and plenty of investor cash looking for returns in the multifamily market have supported the increased property values in recent years.

If you are buying multifamily, you are probably seeing cap rate compression – where cap rates were usually in the high 7’s are now in the low 6’s – and deals are still selling fast. There is chatter of an economic slowdown, but we are not seeing it yet. I’m not sure about the exact “when”, but as long as you remain conservative in your underwriting and buy for cash flow, you should be good.

Regardless, it’s a good time to think about how to protect yourself in case your respective market is at its peak.This means, continue buying for cash flow and not appreciation as I have covered in my previous material, optimizing the cash flow of your existing assets and picking up major rehab projects that are not risky to you or your investors. Here are five considerations to think about:

1) Always Be Active: This means not sitting by the sidelines or waiting for the cycle to drop. It just means you need to look for deals that make sense. In every market, there are always deals. If you are actively engaged with local brokers, attending meetups, and talking to other real estate pros, you will find deals.

2) Focus on the Cashflow: As the economic cycle rolls off its peak and begins its decline, active investors will see the value of their property ratchet down. What you need to remember is that as long as you have annual leases and you are treating the tenants right, you should cashflow just fine. That paper loss is only experienced if you sell the property. Keep your operations tight, make sure you have good financing in place and make sure the deal cashflows.

3) Put Liquid Cash in Illiquid Assets: The wealthy know that real estate is a safe haven when a bear market hits. Like I mentioned in the previous point, the primary concern for investors is returns. Many of these investors understand that owning multifamily properties financed with fixed-rate debt and increasing rents over time will perform very well in an inflationary period. There has been case study after case study on how cash-producing real estate has outperformed the stock market. The point is, if you’re committed to a buy-and-hold strategy, investing in cashflowing multifamily real estate in anticipation of a bear market will protect your net worth. Just make sure that the property has a diverse employer base with some history of making it through previous economic slowdowns.

4) People Still Need Shelter: For those of you that have lived through a recession, you know that jobs and businesses disappear. It never hits just one sector. A local economy will contain businesses that are dependent on others for commerce. Meaning, a local 500-person call center has people that go to the local gas station for fuel, the restaurant next door for lunch and the electronics shop up the street to buy a new phone. When a recession hits, all this stops. The call center vacates and all those businesses are negatively impacted as well. But just because the businesses are gone, it doesn’t mean the people are gone.

Those people still need a place to live. As we saw in 2008 and previous recessions, people turn to renting to stay mobile and reduce their overall “real estate footprint” because of a job loss or their homes foreclosed on by the banks that actually stopped lending. It’s worth noting that during these recessions, multifamily real estate foreclosures were very low and occupancy was steady or even increased between 2008 and 2010 according to the U.S. Census bureau and DataQuick.

5) Cranes in the Air, Buyers Beware: This is in reference to the oversupply in a market. Rental rates and sale prices rise when inventory is tight. In previous U.S. recessions, new multifamily construction in many markets just stopped. So, new construction lagged behind population growth – especially since new construction is mainly Class A property in primary markets with all the amenities. With the market flooded with new supply, it’s clear that there is a supply/demand imbalance that will take years to be absorbed by the local market. Be aware of the rental rates these new units are commanding. If they are having a tough time filling them, it could be a sign of trouble.

As a real estate owner and operator for more than 15 years who made his way through recessions, the strategy that served me well is to either buy or turn around existing properties in well-located areas targeted to moderate-income renters. I like to hold my real estate for the long term and implement the planned increases as I go, making adjustments as needed. This has served me well in the past and I expect the same in the future.

Anyway, how are you preparing if we have an economic slowdown? Let me know in the comments. I’d love to hear from you.

If you liked this content, go ahead and give it a thumbs up and share it. Also, check out the Bulletproof Cashflow podcast on iTunes or Stitcher, and subscribe to our YouTube channel. We are working on getting new content out all the time to help you build your success in the world of multifamily.

Be great.