Cap rate, which is short for capitalization rate, is a measurement used to compare various real estate investments or markets. It’s often calculated as the ratio between Net Operating Income (NOI) and a property's original acquisition cost (including upfront repairs and expenses).
Cap Rate = Annual Net Operating Income (NOI) / Purchase price
Net Operating Income, or NOI for short, is a formula those in real estate use to quickly calculate profitability of a particular investment. NOI determines the revenue and profitability of invested real estate property after subtracting necessary operating expenses.
A cash-on-cash return is a rate of return often used in real estate transactions that calculates the cash income earned on the cash invested in a property. Put simply, cash-on-cash return measures the annual return the investor made on the property in relation to the amount of mortgage paid during the same year. It is considered relatively easy to understand and one of the most important real estate ROI calculations.
For a single-family home, you can get a conventional loan through Fannie Mae or Freddie Mac with as little as 3% down. On a multifamily property, you’ll have to put down a little more in order to get started.
If it is a primary property, in which you be living in one of the units and renting out the others, for a two-unit residence, you’ll need to put down 15% of the purchase price. For a residence of three to four units, the minimum down payment is usually 20%.
On the other hand, if it’s a multiunit investment property, meaning you don’t live in any of the units, the minimum down payment is always 25%.
The vacancy rate is the percentage of all available units in a rental property, such as a hotel or apartment complex, that are vacant or unoccupied at a particular time. ... High vacancy rates indicate that a property is not renting well while low vacancy rates can point to strong rental sales.
Investors chose multi-family this year as the strongest buying opportunity by quite a margin. Surprisingly, with rent prices starting to align and vacancies holding steady over the year. Permits are also on the up-and-up in this arena, so more supply should be hitting the market soon.
As a landlord, you can reap the dual benefits of appreciation from your investment and ongoing rental income. This can help to ensure a more comfortable retirement or help keep you afloat in case of an economic decline, resulting in the loss of your primary job. When owning an apartment building or multifamily property to generate real estate passive income, as opposed to a commercial building, you're not having to deal with business tenants. In addition, also consider how involved you want to be when it comes to collecting rent, handling repairs and whether you'd prefer to assign those duties to a property manager. This is all dependent on you as the investor and where your comfort level stands.
Real estate investing can be lucrative, but it's important to understand the risks. Key risks include bad locations, negative cash flow, high vacancies, and problem tenants. Other risks to consider are the lack of liquidity, hidden structural problems, and the unpredictable nature of the real estate market.
The easiest way to buy a multi-family property with less money down is to buy as an owner-occupant and keep the property as an investment after you have satisfied your loan requirements. Most owner-occupant loans require the buyer to occupy the property for at least one year. Once that year is up, the property can be rented out and used as an investment property.
There are quite a few types of loans for multi-family properties available for those researching ways to finance their purchase with a loan. The interest rates on the following loans typically range between 3 and 12 percent and can be appropriate for investors interested in refinancing their properties as well:
- Conventional Multifamily Mortgage: Most traditional lenders offer loans large enough to finance multifamily properties usually for those between two and four units. (Anything larger would qualify as a commercial property.) Conventional mortgages are great for investors who desire a longer-term loan and can make a 20 percent down payment.
- Federal Financing: Multiple government agencies, such as the Federal Housing Administration (FHA), Fannie Mae, and Freddie Mac sponsor multi-family loan programs. These loans are great for investors who do not have much for a down payment and are willing to live in one of the units.
- Portfolio Loan: Portfolio loans are loans that can be used to purchase multiple properties at once. These long-term loans are right for investors who want to purchase up to 10 properties at once.
- Short-term Financing: Some investors might need a short-term loan, such as a hard money loan or bridge loan, for flexibility. For example, an investor may want to act quickly on a deal and finance it in the short-term until they can renovate it or increase occupancy until they can meet longer-term loan requirements. Short-term financing is typically associated with higher interest rates.
- USDA Loans: USDA loans could be perfect if you are buying property in rural areas and small towns. This loan can be obtained with no money down but also have mortgage insurance.
VA Loans: A special loan available for veterans, active duties, or certain honorably discharged military. This loan can be obtained with no money down and no mortgage insurance. VA is a great option for those who qualify because the costs are so much less without mortgage insurance.
While countless rental markets exist in every state, there’s no uncertainty that some states reward investors who choose to establish business in certain locations. Certain states are better to invest in than others. Landlord-friendly states tend to place the rights of homeowners ahead of their tenants, which promises incredibly well for any rental property portfolio. These states tend to favor landlords in the eviction process, as well as offering low property taxes. Combined with excessive cash flow, there’s no reason landlord friendly states can’t at the same time put an asset over the top while mitigating risk. Consequently, paying special considerations to the rules in regulations in such a particular state.
Although hiring a property management company has many advantages, using one can be expensive. And, even apart from the cost, relying on a property management company is not for everyone. The following factors should be considered when determining if hiring a property management company would be the right decision for your business.
You should consider hiring a property management company if:
- You have multiple properties or rental units. The more rental properties you own and the more units they encompass, the more you're probable to benefit from a management company.
- You don't live near your rental property. If your rental property is not located in close proximity to where reside, hiring a property management company can be vital in dealing with the many matters that you will not be able to handle from afar.
- You do not want to be hands-on. Many landlords enjoy the challenge of locating good tenants and the rewards of maintaining a safe and good-looking property on their own. However, if you view rental property ownership strictly as an investment and prefer to have nothing to do with the day-to-day management of your properties, hiring help to manage your property is probably the way to go.
- Your time is restricted. Even if you appreciate pro-active management, you may not have enough time to devote to your business, especially if being a landlord isn't your day job. In addition, if you prefer to devote your time expanding your business, including searching for new properties, arranging financing for renovations, or enhancing your business structure, then a management company may be a good way to spend your money.
- You can afford the expenses Hiring a property management company is an attractive option if you can afford the fees. When interviewing businesses, expect to hear quotes ranging between 5% and 10% of what you collect in rent revenue
- You are overwhelmed with management tasks. If your business is growing, at some point you may find you need a considerable amount of support to manage everything appropriately. At this point, it probably makes sense to engage a management company.
- You do not want to be an employer. When hiring a resident manager or other employees to assist with your property, you will need to handle payroll and deal with a multitude of other legal requirements and considerations. While a property management company is not an employee nor are the individuals who work for the company, which allows you to avoid the responsibility of being a direct employer.
Your property is part of an affordable housing program. If you participate in an affordable housing programs, management can become complex. Typically, in these programs, the landlord receives financial assistance, which can be in the form of a grants, low-interest loans, or tax credits, in return for agreeing to lease at least part of the property to tenants earning below a specific income level. To continue receiving the aid, the landlord must comply with a intricate set of rules. With so much at risk, it's often worth the expense of hiring a property management company that has expertise, experience and knowledge with the specific housing program in question.
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