How to Buy an Apartment Complex
Being a landlord provides a wonderful opportunity for you to earn perpetual passive income. While fix-and-flip models that result in selling a property may give you an immediate injection of cashflow; owning rental properties allows you generate monthly income that can often fund other investments and help you secure a healthy retirement fund.
There is also a difference in owning a single-family home that you rent out and being the owner of an entire apartment complex. There are plenty of reasons to choose an apartment complex, most notably that owning more units results in more money. However, if you think apartment ownership is the right choice for you, you should educate yourself on how to buy an apartment building.
Understanding Cap Rate
As is always the case with an investment, it’s important to make sure that you’re putting your money in a position to generate a positive return. While some investment properties provide a straightforward formula that allows you to determine whether or not a property will turn a profit, there are more factors to consider when you’re looking at an apartment complex as a potential investment.
The profitability of an apartment complex is generally referred to as a cap rate. Cap (or capitalization) rate considers the net operating income of an investment property along with the initial purchase price to help you determine the viability of an apartment complex investment. The formula works as follows:
Net Operating Income (NOI)/Purchase Price = CAP RATE as a percentage
That means that if you purchase an apartment complex for $800,000 (Purchase Price/Market Value) and it has an annual net operating income of $60,000, the cap rate is 7.5%. Generally speaking, a higher cap rate is better if you are a buyer. Sellers look to sell at a lower cap rate to get to a higher sales price. If you are considering purchasing two similar apartment buildings, but one has a 5% cap rate while the other has an 8% cap rate, the second building and its 8% cap rate is a better investment.
Obtaining a Loan
If you’re in the market for a single-family home, you can walk into a bank or other mortgage institution and apply for a mortgage. Buying an apartment complex doesn’t work like that. Apartment purchases generally require a commercial loan which can still be obtained from a bank or any other number of sources.
Apartment loans are also different from traditional mortgages because the length of the loan can range anywhere between a few years and 25 years. It’s crucial that you watch out for prepayment penalties, though. Commercial real estate loans often include a prepayment penalty, so this isn’t anything uncommon.
Finally, when you’re obtaining a loan for an apartment complex, be sure to find out if the loan is considered a recourse loan or a non-recourse loan. Recourse loans allow the creditor to come for your personal assets in the event of default, while non-recourse loans don’t.
Hire a property manager early
True passive investing means not being a hands-on property owner or trying to manage an apartment complex on your own. It is very important to select a professional property management company early on in your investment process. The Property Managers can help you do your due diligence and can guide you with your purchase as well. Once you close on a property, they are there to take on the management of the asset which will result in you being a passive investor. You will still have to manage your property manager, but you will not have to deal with the day-to-day management of the property. This will give you the time to pursue more investment opportunities and enjoy a nearly hands-off experience.
When you employ the services of a trusted property management company, apartment complexes provide a fantastic opportunity for passive income. Once you’ve studied the market, chosen a complex with a good cap rate, secured financing, and hired a good property manager, you’re well on your way to adding an apartment complex to your investment portfolio.