6 Reasons to Purchase an Apartment Property
A multifamily property with five or more units, also known as an apartment complex, is an incredibly common investment vehicle . Make no mistake, buying and maintaining ownership of an apartment complex is a big decision that often comes with a ton of responsibility. Regardless of the difficulty involved, however, most investors agree that owning an apartment building can be highly financially advantageous for these 6 reasons:
- Apartment properties provide less risk than other common assets
Buying and maintaining an apartment property is costly, there is no doubt about that. Even so, multifamily properties with 5 or more units reduce risk and increase profit potential for an investor because of the large quantity of units. One of the most valuable aspects of apartment property ownership is that unlike owners of single-family homes, apartment owners can still count on having rental income from other building units if a tenant moves out.
Another key mitigator of risk when it comes to apartment property ownership is the owner's ability to protect, or, in a way, diversify their revenue stream by having a larger tenant mix. Owners of apartment buildings have a decent amount of control over their tenant base (providing the property has no affordability component), and thus can decide what credit and finance parameters they will accept from potential tenants. Some would immediately consider setting strict eligibility requirements, but leaving room for higher risk tenants is a useful strategy for filling more units. This is not nearly as big of a risk as with a single family property, because there should also be tenants with more agreeable financial profiles to ensure that there are no choke points with the income produced.
Apartment property owners also have the option to stagger lease agreement start-dates. Strategically speaking, the ability to manage the rent roll in such a way that maturation dates don't all fall in the same time period is a severely underrated skill. A smart investor can utilize this power to plan and distribute leases accordingly and more or less ensure that there is low risk in each financial quarter, even if a few tenants are lost or decide not to renew their lease.
- Operating, maintenance and renovation costs can be spread among units
Depending on utilities and additional third party expenses, there is a lower per-unit operating expense than with other real estate assets. More importantly, should something unexpected occur that leads to expensive repairs - such as the all too common need for a roof replacement - the cost can be spread out between all of the units, greatly lowering the burden of the owner.
Circling back to utilities, Many newer properties are set up so that each tenant can be billed directly for their utility usage, another huge burden taken from the property owner. With older properties where units are not individually metered for utilities, many property owners use the Ratio Utility Billing System or “RUBS”. RUBS is a common method for determining a resident’s utility bill based on their unit’s square footage, the number of people living in the unit, or a combination of both.
While not an exact function of the property itself, renovations can also be considered less expensive if looked at from a per-unit basis. After all, buying materials in bulk can lead to some impressive savings.
- Apartment properties are tax-efficient assets
Apartment properties fall under the umbrella of commercial real estate. Even so, the use of such an asset is still viewed as residential. Because of this, apartment owners enjoy a few interesting benefits such as a depreciation schedule that is much faster than other commercial assets for starters.
Another such benefit is that apartment owners are eligible to utilize the mortgage interest deduction that residential mortgage owners are allowed. This means that they can deduct the interest from the loan on their apartment property for a value up to $1MM. As an added benefit, when refinancing a property for more than its original value, apartment owners can deduct additional amounts of interest and fees --as long as the extra funds can be proven to have been used to improve or maintain the property.
- Apartment investments are a hedge against inflation
Inflation is when the prices of goods and services rise, thus creating a scenario where consumers have less buying power. There are a few investment vehicles unhindered by inflation, and some that may suffer as a result of it. With an apartment property, it is the former and not the latter.
Apartment property owners collect rent on a timely basis at set intervals, and rent rises right along with inflation. In general, the average apartment lease has a term of one year. This allows a landlord to closely monitor the rents of comparables in the same market. With the right strategy and enough timing, the rental rates can be adjusted to move up with inflation. This is a unique advantage for apartment owners, since most other commercial leases are typically locked for three or five years or increase at 1% annually.
- Loan approval for apartment financing is based more on the property’s financial characteristics than the borrower’s
In almost any lending scenario, the financial health and credit status of a borrower will make or (more than likely) break a deal. Lenders take a borrower’s finances under heavy scrutiny to ensure that they don’t originate loans that expose them to too much risk. This holds true across most lending scenarios, but is much less important in the case of apartment investing.
With multifamily finance, lenders tend to be more focused on the profit-generating potential of any given property than on the investor’s finances or credit. The lender’s main concern is whether the property’s income is enough to exceed the required payments from the investor. The metric of importance here is the property’s Net Operating Income or NOI.
NOI is calculated by taking the gross rent produced by a property and subtracting operating expenses from that figure. The resulting net operating income is what is expected to cover the loan payment and provide the ability to distribute income to owners and/or investors.
- Apartment properties provide more opportunities to generate supplemental income.
Even as an income producing asset in nature, owning an apartment building can lead to income streams beyond just rent. Investors have a plethora of opportunities to generate additional income from their property through amenities, like a laundry room, gym, pool, or office space. In some scenarios, even additional parking spaces for units can be monetized.
The cost of investing in amenities such as these for a property can be spread out between all of the units, so It is no problem for the owner to recoup the costs by charging for these amenities. As an investor or owner, being able to reduce even the smallest of recurring expenses can lead to net savings in the thousands.