10 points that will assist you in buying your First Apartment Building- Part 2

5. Consider an apartment building

Once you’ve begun looking for properties, understand how to gather information about each potential property and assess its advantages and disadvantages. There should be a number of specific factors that you take into account depending on your financial and personal position as well as the state of your local real estate market. The building’s location, size, and structural features are a few of the most crucial factors overall.

• Where or in what neighbourhood
• Size and Number of Units
• Complex Features
• Construction Information

6. Recognize the Building’s Full Financial Situation and Profit Potential.

Even if a possible property seems like an incredible deal, acquiring thorough financials for the property’s previous one to five years is the only way to fully assess its investment potential. When assessing an apartment complex, you might consider factors like rent rolls, occupancy rates, and cost per unit. Before carefully studying the property’s financials, this will give a general idea of the profit possibilities.

Basic Numbers

• Rent collected as of this date for each unit in the building is listed on the rent roll. To determine the gross annual rent, add up the amount and divide it by 12. If you’re trying to decide between a few apartment buildings, you can use a Gross Rent Multiplier Calculator.
• Rates of vacancy and occupancy The number of occupied units in a building is indicated by the occupancy rate, and the number of vacant units is shown by the vacancy rate. Inquire about the property’s occupancy and vacancy rates so you can compare the numbers to the neighbourhood standard. For a property evaluation, you can use a Vacancy Rate Calculator.
• Cost per unit: Subtract the purchase price from the total number of units in the building to get at the cost per unit. The cost per unit is crucial in comparing the prospective property to others in the neighbourhood and can be used as leverage when negotiating the purchase price.

Financial calculations that are difficult

After compiling the fundamental data, you’ll have a general idea of how profitable an apartment building is. To genuinely feel comfortable making an informed decision on property acquisition, you need to compute more precise financials such as gross operating income (GOI), costs, and capitalization rate in order to have a more realistic view of the property’s financial performance.

A real estate agent you are working with ought to be able to give you these calculations to aid in making your choice. If not, the following instructions explain how to do the calculations based on a $300,000 six-unit structure with a $600/month rent for each unit:

• Expenses from Gross Operating Income (GOI)
• Statement of Profit and Loss (P&L) for Net Operating Income
• Rate of Capitalization
• GOI = Total rent + Other income – Vacancy losses

The total rent and other income received from the property less vacancy and before extra costs is the gross operating income. You might need to conduct a potential rental income (PRI) analysis based on a rental market analysis if you are purchasing an empty apartment complex.

7. Exercise due diligence

• You still need to look at a few more things if you’ve decided to proceed with a buy after making your financial assessments. Some of these elements ought to be specified in your offer and approved by you (e.g., satisfactory review of leases, the profit and loss statement, and property inspections).

Due diligence ought to contain:

• Figuring out the owner’s reasons for selling: The seller’s situation must be taken into account when negotiating a transaction. For instance, a seller who wants to retire and relocate has quite different goals than one who has a property in need of significant repairs or is in the pre-foreclosure process.
• Viewing current leases: A lease specifies the length of the agreement, the rent due, any pet restrictions, the security deposit, and who is responsible for the utilities. After you acquire ownership, you inherit the current leases if you continue to rent to the current tenants. You must be aware of the expectations and agreements the tenants have made.
• Tax returns: Ask for the property accounting records and tax returns, then look into any inconsistencies further. You’ll need more information, for instance, if the seller reports $12,000 in net operating income in their accounting records but only counts $9,500 on their tax return.
• Inspections: Be sure to have the property thoroughly inspected by a professional building inspector. Apartment complexes usually have shared systems, different levels of condition in each unit, and possible problems with amenities and communal areas. If you want to make a compelling offer and negotiate significant issues, you’ll need a thorough inspection report that details what needs to be fixed.

8. Get financing 

Apartment and investment property financing is fundamentally different from financing for home purchases. Due to the size and cost of the building purchase, you’ll probably employ commercial lending rather than household lending. Options for financing include:

• apartment loans sponsored by the government
• Apartment loans in a bank’s balance sheet
• short-term loans for apartments

A few other areas to consider when you finance the purchase of an apartment building are:

• Reserves required by the lender: In order to approve financing, lenders often ask you to keep one or two common forms of reserves: interest reserves and cash reserves. These make sure you can pay for repairs, insurance, taxes, and running costs. Reserves that are necessary could equal up to six months’ worth of payments.
• Key factors that lenders take into account: Lenders would favourably consider assets with strong market potential, high occupancy rates, and long-term tenants because net operating income is so crucial to real estate investing. This is yet another justification for conducting thorough due diligence up front by assessing the property’s condition, vacancy rates, income, and expenses.
• Recourse vs. non-recourse: If you eventually fall behind on payments on a recourse loan, the lender will be able to take legal action in addition to foreclosing on your home. A non-recourse loan, however, limits the lender’s recourse to the collateral. Naturally, non-recourse loans are the better option, but they are more challenging to get because they sometimes have higher interest rates and need larger down payments.

Pro tip: If the lender permits it, avoid purchasing an apartment complex in your name. You should only purchase an apartment building in the name of a corporate company due to the difficulties and hazards involved in apartment ownership. A limited liability company (LLC) or corporation? Your accountant and lawyer can help you decide.

9. Submit an offer for the apartment building.

Knowing the going rate for comparable houses in the neighbourhood as well as the likelihood of profit will help you make a smart offer on a property. You could find it useful to conduct a rental market study, in which you contrast recently sold homes, homes that are up for sale, and postings that have already expired. You might also obtain an evaluation of the apartment building.

Apartment building appraisals differ from those for residential rental properties. Combining three techniques yields the current market value:

• The market value approach will consider comparable properties and their selling prices. The appraiser will analyze comparable buildings and what they sold for within the previous year, for instance, if you are thinking of buying a six-unit building with six two-bedroom apartments. In this method, the market value per unit is taken into account.
• Replacement cost methodology The square-foot cost to construct a comparable structure is examined using replacement cost. The replacement cost of a four-unit structure with 4,000 square feet will be $400,000 if construction prices in your region are $100 per square foot.
• Net operating income and regional capitalization rates are used in the income technique to calculate the investment’s value. Take the net operating income and divide it by the cap rate to get this. As an illustration, if the building’s net operating income is $46,000 and the cap rate in your region is 10%, the valuation will be $460,000.

Once you’ve finished evaluating the home, you should either submit your offer directly to the seller or have your agent do so on your behalf. Your offer will either be accepted, rejected or countered by the seller. From there, you can discuss any terms and then put the acquisition in writing by signing a contract, which will allow you to proceed with closing.

10. Complete the apartment complex purchase.

Many residential homeowners simply need to sign a few papers and receive the keys to complete the closing process. There are more procedures and complexity for apartment buyers. In fact, picking an escrow agent or title business with experience in apartment building transactions is crucial if you want to ensure your success before the closing date. This will stop any errors from adding time or complexity to the process.

The closing day must be planned carefully as well. The final few or first few days of the month, after rent has been paid, are typically the most opportune days of the month to close on an apartment. This gives you almost a month’s worth of breathing room before the following mortgage payment is due.

Finally, security deposits become your responsibility once you close on the home. The majority of states mandate that landlords retain security deposits in an independent escrow account. Even without that requirement, the tenants own the money (plus interest), unless it is needed to cover damage or missed rent. Ensure that security deposits are paid at closing and that they are placed in individual escrow accounts for each renter.

To sum up

Locating and buying a complex generally follows the same procedures as finding and buying a single-family or small multifamily property. But purchasing an apartment building necessitates a deeper knowledge of handling real estate money. Learn how to purchase an apartment building by using the aforementioned above 10 stages, which cover everything from calculations through closing.