[Editor’s Note: This is a republished post from Passive Income MD (PIMD), The original post ran here, but if you missed it the first time, it’s new to you! ]How I Bought My First Apartment Building
What comes to mind when you read the words “rental property?” For me, it’s pure excitement. In those two simple words, I see opportunities just brimming with potential. It’s no secret that I believe that owning property is one of the best ways to develop long-term and generational wealth. It can be a great source of passive income and, ultimately, it can help you achieve true financial freedom.
If you’ve been sitting on the fence, not sure if owning and renting out property is right for you, this is for you. In this post, I’d like to share how I bought my first apartment building and show you that I’m nothing special. In fact, I’ve made a good number of mistakes, some of them are highlighted here, but in the end, it’s turned out well.
Okay, yes, it’s my first and only building–but I’m optimistically planning for future posts (second, third, fifth, etc.). I do own fractional shares of some other properties through investments in a few syndications and crowdfunding, but I consider that to be slightly different than actually owning it and being able to make your own decisions on how to handle the investment.
I’m going to break this post up into several different, easy-to-digest parts, so that maybe, just maybe, you can apply them to your own endeavors.
So, without further ado, let’s begin.
Before Investing in a Apartment Complex
I had been reading about investing in apartment buildings since 2011. I told myself that when I had enough capital, I would take the plunge. Cut to several years later, and I had saved up the capital . . . but I was still hesitant. What if I messed up and bought the wrong building? Would I lose all my money? The risk seemed too great.
Then, in 2015, a friend of mine (who happened to also be a physician) came to me and asked me if I would consider buying an apartment building with him. We would be equal partners, split the cost, and since we both had no experience, we would learn together.
Understandably, I was a little wary of investing with a friend. But we both seemed to have the right attitude: a willingness to learn. We also decided to put everything in writing so there would be very little miscommunication. We decided to pool our resources and go for it.
The Hunt of A Rental Property
We had taken the biggest step by simply deciding to buy a rental property in the first place. But that didn’t mean that we knew where to go from there. Luckily, a mutual friend of ours (also a doctor) had recently purchased a building of his own, so we took him out for coffee to pick his brain a little.
We asked him to tell us all about his experience, hoping to gain some insight on what we should do next. He immediately suggested that we use his broker and they would teach us the ropes. He also offered to help us with any questions we might have.
Going right along with his suggestion, we reached out to his real estate broker and expressed our interest in purchasing a rental property. The broker asked how much we were willing to put in. We each came to the consensus that, given the “right property,” we’d each be willing to put in $100,000-$200,000. Luckily I had been saving for this moment. With that kind of down payment on a commercial loan (which would likely require 30-35%), we could look for a property of up to one million dollars in value.
With all of that figured out, the broker began looking around town. His suggested criteria were simple: it must be within our price point, and it must have at least five units. Why the minimum of five units? Because at five units and above, you’d be able to get a commercial loan with easier lending standards. This is because your “lendability” –that is, the likelihood of getting the loan–is determined more by the building itself rather than your personal qualifications. That usually means a lot less paperwork and a much smoother transaction.
The broker then asked us in which areas we’d like to start looking. Obviously, the price point helped determine much of that (in our area, our highest price point would barely get you a single-family home). We had to look in areas that were considered less desirable in terms of location and possibly not the greatest condition (commonly referred to as B or C Class areas). But we also didn’t want to drive multiple hours every time we visited the building.
And so began the hunt. Our broker would line up properties for us and on an off day for both of us, we’d all hop in the car and drive around. We looked at building after building trying to get a sense for how far our money would go, and what to look for in terms of the property (condition, surrounding area, etc.).
After a couple of weeks, we both seemed to settle on a certain area of town. There was a good deal of new development happening in the area and new public transportation in the form of a metro line was being built. Both of us were able to look beyond the current state of the development to see its true potential. So, we decided to focus here.
There were only a couple of buildings on the market in that area, and in just two weeks, we had narrowed it down to one. Our agent let us know that the asking price of $800,000 was fair, and with a little haggling, the sale ended at $795,000. The cap rate* was around 5% and with market rents we could end up at a cap rate closer to 7-8%. So there was upside that could dramatically increase the value of the building. (*Cap rate is essentially the rate of return on the property based on current income it brings in.)
The Apartment Complex Inspection
Once our offer was accepted, we hired an inspector and walked the units ourselves. Based on the inspector’s report and our own observations, it was obvious that the building hadn’t been maintained all that well. The property was older, but thankfully it had good bones and was deemed structurally sound. The same could not be said of the roof and plumbing, however, and was a possible (large) future expense. Based on these things, the broker had us go back to the seller, and while we didn’t get the full credit we wanted, we did get some money back to put towards those capital expenditures.
How Much does Investing in an Investment Property Cost?
Being first-time commercial buyers, finding a loan wasn’t all that easy. We had to move quickly and ended up going with one of the bigger banks. They were known for being very lenient with first-time buyers, but their terms weren’t always the best. We locked in a 5/1 ARM and had to make a down payment of 35% (~$278,000 or $139,000 each).
Now, if you’ve recently purchased a home, you know what a nightmare it can be. But this process was a breeze compared to that. We never even had to provide our own personal bank statements. The bank was betting on the property and, knowing that we were both professionals, that was enough.
After a total of 60 days, the building was ours, and we felt that we had received the best education possible—the kind that only comes from experience. Could we have done a better analysis? Definitely. Could we have negotiated more from the seller? Probably. There were plenty of reasons not to invest in that property, but perhaps the biggest was fear of the unknown. Thankfully we were able to push past that fear.
What's Next?
In my next post about the apartment building, I’ll share what’s happened since. It’s been a wild ride, to be sure, and in terms of experience, it has been immensely valuable. Suffice it to say, it’s now two years later, and a recent appraisal of our building showed that its value has increased a hefty 62.5%. Of course, not all of that is pure return (some rehab money was required to get to this point), but we have made money. Got an education and made money at the same time? That’s something you’ll never hear me complain about.
Now that we have a deeper understanding of the process so much better, I’m confident that we’ll only do better next time. Apparently, once you’ve started, the hunt never stops.
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Has anyone out there purchased a multifamily property? How did your first deal go?
Thanks for sharing this article – I missed the original on PIMD. I also recently purchased my first commercial property and although I spent a lot of time reading and researching beforehand, at some point you have to make your move and that’s when the real learning begins. I just had to accept that there were some things that I wouldn’t know until I experienced them myself.
One thing I learned was that it was a lot easier to get a commercial loan than I expected. The hardest part, by far, was saving up enough cash to make a sizable downpayment.
Another thing I’m beginning to learn is to trust my own judgement. More than once, already, I’ve had contractors prescribe solutions that either (a) didn’t solve the underlying problems or (b) attempted to resolve problems that didn’t actually exist. In at least one case, I spent thousands of dollars for a prescribed fix that turned out to be unnecessary. To add insult to injury, the real cause of that problem was what I’d suggested from the beginning. Lacking personal experience, I trusted the judgement of others more than my own.
Is there a follow-up to this story? The author alludes to one, but I wasn’t able to find another article on this topic on PIMD.
Thats happened to me several times. Its very frustrating, you assume you’re likely wrong and theyre right because what do you know? Very annoying.
Thanks for the guest post, WCI.
My main concern for these sort of side hustle is exactly what you said, it seems like a second job. How are often are you involved in Tennant disputes, people not paying rent, paying for things that break or maintenance costs that eat into profit?
Is the profit you make really worth it in the end? What’s the break even point on the $139,000 you originally put in?
If the management side was so worriesome to me, I’d be all for this kind of investment.
Maybe my hesitation comes from my friends who rented a prior house in a good neighborhood near the hospital to be called one night by the police that a sting had just been done on the house because they were cooking meth in the basement. Breaking bad gone bad, it seems.
A scenario like that or someone trashing the place just scares me a touch.
This is one of your best post in a while IMHO as a skeptic of real estate.
Like PP above, I don’t have time to manage a property and the money isn’t that much compared to what I can earn bearing a doctor or learn new doc skills to earn extra. While those might not be passive, if I save the money and it earns interest, it is sort of passive and much easier and less stressful.
I look forward to following this posts series as this type of first hand experience is what us evidence based types need before we “take the plunge”.
It would be nice id throughout this series you estimate the hours per month dedicated to the process. I bet if you do, they are huge and might even surprise you.
I see you posted your mistakes too. I’ll read that one.
PLEASE! Post again after a year say in 2019 when you have a full year of rents maint and capital improvements and show us the NOI you are achieving, lessons learned etc.
The biggest advantage of owning apartment buildings is the potential of higher net income compared to single family homes. However the major disadvantages are higher turnover rate and answering trouble calls. This can be mitigated by having an on sight manager. During the earlier part of owning an apartment building, I managed the day to day operations to minimize expenses. When the mortgage was paid off, I hired a manager. Owning single family rentals has been less of a hassle. Tenants of single family homes are more likely to stay longer and solve simple issues.
We have a diversified portfolio of stocks, mutual funds, and bonds (large cap, small cap, international etc.). During the last recession, real estate prices softened, but rental income did not. In my case, owning real estate has been the answer to early retirement. The property is appreciating and rental income increasing steadily. I will be able to pass the property on to my children. The property will be “stepped up,” meaning they will be able to depreciate the property at fair market value. This will minimize taxes on rental income.
You’re not alone. I’ve met many people, docs and non-docs alike, who have had a lot of success in real estate both before and during retirement.
Apartments have clearly some advantages
However some Disadvantages of apartments versus SFR
1. Expense: Sure its “only one” roof or one driveway to clear snow: but the costs are slightly different
2. Selling: Cant sell of a part of the apartment complex , says sell of a couple of houses. And when you sell a apartment complex, the buyer is a investor looking for a discount. SFR there are always retail buyers.
3. Financing: Great terms with SFR compared to apartments. Sure the lender looks at the property income rather than comps for apartments, but for the person getting the mortgage, if they are an investor their SFR rent should cover the mortgage handily.
3. Demand: sure currently apartments are the most in demand- but even in a down market, SFR has more buyers.
On the other hand, valuations based on net operating income give you much more control over appreciation through management. Increased rents means increased NOI and increased value of the property. Same for cutting expenses. Comp pricing is totally out of your control after purchase. Also, at least in he last recession, multi family properties held steady and even increased in rent prices while a glut of cheap single family foreclosures hit the market.
Its a shame this article is light on specifics.
Very suspect on cap rates as well.
Cap rates have to include ALL costs…..
Would be good to see a spreadsheet or two from people who have owned property for a longer period. I’d be happy to share on the 4 apartments we own in Australia though as the rental market there is very different I don’t want to scare people off buying property when it shows a negative cashflow of $96,000 over the 8 years we’ve owned them.
I agree a cap rate has to include everything. Why wouldn’t it? Why do you think the cap rates are suspect?
At any rate, you’re welcome to submit a guest post:
https://www.whitecoatinvestor.com/contact/guest-post-policy/
Just wanted to chime in as a longer term RE investor and reader of this blog. I’ve owned rental properties for about nine years now. I’m not a doctor, but worked as a corporate phamceutical exec for many years, so my RE investments remained a passive “side business”, while I continued to work my “day job”.
I’ll be the first to say, direct RE ownership isn’t for everyone. But if you have the personal drive to build wealth, and a fundamental understanding of basic business, you likely have the skills to invest directly in RE. One major key is to build a solid team to manage the property, while you continue to work your day job. It’s the biggest potential failure point IMO, after picking a bad investment property.
Fast forward nine years, and I now own nine buildings containing over fifty units. My wife and I both retired (early fifties) last year and are now enjoying the fruits of those RE decisions. Yes, there were failures along the way, but over all it’s been a great success. I would have never generated this level of wealth without RE. I had no special RE skills when I started. It can be done passively as a side business, but it’s not a get rich quick formula.
The keys:
-Select solid properties up front (get historical returns, min of three years actuals, and calculate real ROI before signing anything, determine your required ROI and be prepared to walk away from any property that doesn’t meet your minimum ROI.)
-Build a solid management team (get actual recommendations from other local investors, and find the best local property management company, and set expectations up front and hold them accountable!)
-Track the numbers monthly (actual ROI, NOI, IRR, etc. It IS a business!)
If all of this sounds too complicated or too much like running a business. It is! Best advice… If that doesn’t sound like your “cup of tea”, stick to other types of investments. If you get semi-excited about occasionally calculating ROI’s, NOI’s and IRR’s…you can probably be successful with direct RE ownership.
CHEERS!
Good advice.
Interesting that PIMD chose to visit the properties upfront. Maybe that’s part of the first-time buyer learning curve.
I haven’t bought a multi-unit, but know many people that own multiple buildings. By and large, they don’t care too much about what the property actually looks like. It’s not like they plan on living there. Their first step is getting a vaguely believable set of actual financials from the past few years (not the useless pro formas) followed by understanding the rental market trends for the area. Based on the one picture, price point and five units, I’d guess such goodies were largely non-existent for this deal. Oddly, that would normally translate into a much more aggressive price negotiation (missing financials never gets the seller a better price) which didn’t happen here.
I agree. During the last cycle, I bought 18 rental SFHs (remember the days when deadbeats and dogs could get a mortgage!). Most of them were out-of-state, since I wanted them to cash flow, and California isn’t good for that.
After the first 2, I stopped looking at them. As long as they pencil out, and the property manager thinks they’ll rent out I don’t care what they look like. In fact, one of them I bought sight unseen, turned out to have a terrible color scheme inside. Reminded me of a circus. But I sold that 18 months later and netted 6x my $16k down payment. On a percentage basis, it was one of my best deals. And no one in his right mind would have bought it if he knew what it looked like.
WCI, where did you buy? In SLC?
My accidental landlord experience was in Virginia.
My intentional, very detached/passive landlord experiences are all over the place.
“Pencil out” just went into my personal phrase book. Love it.
Congrats. We have owned rental properties for many years. We’ve had good experiences so far except for one tenant issue that was resolved rather quickly.
Beaware that there are some renters who do have a chip on their shoulder. They are usually the ones who have not been able to get in on the real estate market cause they say prices have been driven too high by investors. They are angry, start calling homeowners names and start spewing spiteful things left and right. As soon as they hear of real estate prices dropping they get all excited and happy and love to point it out to everyone that homeowners are in big trouble now. Best to just ignore them. They are clearly embarrassing themselves. Over the years we have learned to get a sense of who may be angry renters and who may be good quality ones. I’m glad we’ve only rented to one problematic renter so far. Everyone else has been good to us. The faster you learn to look for the red flags the smoother things go.