So, you are okay with sharing walls by buying a townhome or condo, maybe small multifamily is a great option for you.
I’ve told my wife that if we ever had to start over financially, we would go straight for a duplex/triplex/fourplex. You always need to live somewhere, why not have a renter help you pay your living expenses. If you are in a position that you are looking for both a home and future investment, there is no better place to start. When we discussed the 30-year fixed mortgage, one of the tools owner occupants have at their disposal is favorable financing. Lower interest rates and a lower down payment required. Small multifamily, up to four units, qualifies for this type of financing!
Bigger Pockets has been made famous through the idea of house hacking. You can do this by owning a single-family home and renting out rooms or the basement. BUT, if you are married, good luck convincing your wife to let Johnny down the block live in your spare bedroom. Not gonna happen.
However, if you purchase a duplex, triplex or fourplex, you get the advantage of “roommates” without sharing the same unit. The shared unit next door will be your first foray into landlording. Not only will it be your first dip into managing investment properties, but it will offset your mortgage expense dramatically, potentially, allowing you to live mortgage free. Below, we will discuss the pros and cons of owning small multifamily.
In Fort Collins, our multifamily properties, up to a fourplex are taxed at residential rates. We are getting the benefit of an income producing asset in the form of real property while being charged residential tax rates. That is HUGE! The commercial properties in our market are taking the brunt of the property tax burden. Being charged around 3X the amount of residential property taxes.
Although that holds true with single family detached dwellings and condos and townhomes as well. To me, it is a loophole that multifamily dwellings up to four units are taxed the same.
Spread the risk of vacancy over multiple units. When you begin investing in real estate, one of your goals will be cash flow. Cash flow is the net result of your gross receipts minus operating expenses and debt service. One of the main drivers of this equation is the gross receipts or your gross rents. Vacancy will be the biggest factor negatively impacting your gross receipts. Owning a single-family rental and having a vacancy is a quick and painful death if you cannot quickly fill that vacancy. A duplex has more flexibility in that you could potentially have one side rented while the other side is vacant and still have rents coming in to offset your operating expenses and debt service.
Duplexes through fourplexes feel more like single-family homes while being more affordable on the rental side of things for tenants. Tenants may want or need a yard and garage but cannot afford the expense of a single-family home. They may have a dog and therefore living in a large apartment complex with no fenced in back yard doesn’t work, so they search for these types of properties.
Price Per Unit
Price per unit comparison. If you are going to buy a single-family home, you may pay $250,000. If you buy a duplex for $400,000, you are getting 2 living units, each for $200,000. Then you could buy a 4 Plex for $600,000 or $150,000 per unit.
One of the reasons why institutional investors like the residential and multifamily investing world is the shorter-term leases. You have the ability to take advantage of the market and also quickly adjust your rental rates to secure occupancy. While two units could be rented out at market rates, but the 3rd is sitting vacant, you can quickly decrease rents or offer incentives to get the property rented. Then after a year or whenever you strategically leased your property, increase rents back up to market. When you have just one unit, you are at the mercy of the market more. More units give you more flexibility and opportunity to take risks. The cost per unit to achieve this, goes down with scale.
Duplexes often operate much like single-family homes. Tenants could potentially be responsible for trash, electricity and gas. Duplexes, triplexes and fourplexes will typically have one water meter and therefore, you, as the owner will be responsible for paying for the water bill. I suggest you bill back the tenants for their use of the water. If you can decrease your variable expenses, you are more likely to be able to budget and operate the property in a financially healthy way.
There are good neighbors and there are bad neighbors. You can do all the background checks and rental references you want. Neighbor 1 plays music too loud at all times. Neighbor 2 just got a new boyfriend and they live upstairs. They are in the honeymoon phase. The ceiling could have 2 feet of insulation and not stop those noises… Eek!. Recipe for disaster? Absolutely. You will have rules and regulations in place to rent your property, but that doesn’t mean people abide by these rules 100% of the time.
It will be your job to enforce the rules, but not play middle man/woman or babysitter. You will be the person your tenant tattle tales to. This can get old quick. Sharing walls and living so close to someone typically goes very well and smooth, but there are times when it doesn’t.Multiples of Everything
Two water heaters, two furnaces, two of everything, or who knows maybe three or four! Small multifamily units require more reserves. Appliances and fixtures have both shelf and serviceable lives. You can plan for about 10-12 years per water heater before you should replace them. If you have a fourplex, $1,000 * 4 = $4,000 worth of water heaters that may need replaced in a two-year span. You can expect the same with dishwashers, refrigerators, among others. You will have to replace these at some point. If you have a single-family home, it is one of each. Not the case in multi-unit dwellings.
If you are in the rental game long enough, you will come across these creatures. You know, the ones who buy a property, suck the lifeblood out of it, and let the unit go to shambles while they get their monthly checks in. Zoning that allows for small multifamily units are notorious for the absentee landlords. Some, if not most landlords, are great and really care about their properties. Some though, should never be allowed to own rentals, let alone any property. One or even both of your neighbors may be or become forgotten rental properties and deteriorate the value of your property. It is easy to fix your property up and make it look beautiful, but it is very difficult to make your neighbors do the same when you are thinking about selling.
As mentioned with single family rentals, most of these dwelling units will require the tenants to maintain their lawns. Unfortunately, this does not mean they will. You will have to police the lawns and landscaping to ensure minimal adherence to your rules. Depending on how persistent you are, you may just have to settle with your property getting minimal adherence.
Fewer potential buyers on the resell side. Investment and multifamily properties attract investors. Not everyone is an investor though. If you go to sell, you should begin marketing the property as more of an investment opportunity and provide financials to potential buyers. They will want to see what type of rents you are receiving; the operating expenses including property taxes and insurance expenses, and decide if this “income” property is worth investing in. You can always market the property on its future income potential, but smart investors will want to know how it has been operating historically.
There are plenty of aspiring home owners who would love to start out with a duplex. With this in mind, clearly you will not only be marketing to investors, but also investment minded home owners. Small multifamily units are not as difficult to sell as large multifamily complexes. If you need to sell in a hurry, as with any investment type you may have to take a discount from what market price may be.
Small multifamily units are great options for first time home buyers. They provide a private living space while leveraging the power of rental income to offset fixed monthly expenses. These properties can be kept on the favorable owner occupied financing after you decide to move into another unit and keep this as purely a rental property.
It is important though to understand the responsibilities of owning an investment property. You will have landlord tenant laws to abide by, neighbors who are your renters and the responsibility of maintaining not one, but one, two or three other units. Owning small multifamily does come with work, but the benefits and future investment opportunities they present could be a great option for you and your family.