Investing in multifamily real estate is a great way to earn steady, passive income. Some people start slowly—buying one small apartment building at a time. Maybe a real estate investor buys a duplex first, followed by a four-unit apartment. Scaling that real estate portfolio can be challenging, but it’s possible with the right plan in place.
In this article, we look at 10 ways to scale your multifamily portfolio.
1. Develop your investment strategy
Before you try to scale, be sure you have crafted your investment thesis. After all, there are many ways to invest in rental property.
Some people buy apartment buildings for cash flow; others are focused on appreciation. Some prefer to be active investors, whereas others want to be entirely hands-off. There are some who prefer to be long-term buy-and-hold investors. Others want to make value-add improvements and then upon stabilization, sell.
Regardless of your investment approach, it is important that you have developed a thoughtful approach. Otherwise, you’ll be scaling investments in too many different directions. Acquisitions that do not align with your strategy may tempt you.
Importantly, having an investment strategy allows you to develop a financing plan for the growth of your portfolio. Thoughtful financing is important. Otherwise, you may end up over-levered as you try to grow your portfolio too quickly or with risky deals.
2. Owner-occupy your first multifamily investment
Someone who is just getting started should consider owner occupying a small apartment building. This is sometimes referred to as “house hacking”.
The primary benefit of this approach is that it allows you to obtain highly attractive, owner-occupied financing. You can usually lock in debt that is 100+ basis points less than standard commercial financing. To qualify, you’ll need to owner occupy an apartment building with fewer than five units.
An added benefit of owner-occupying your first multifamily investment is that it allows you to self-manage the property. This is a great crash course on property management. Even if you hand off management duties in the future. You’ll have a basic understanding of what it takes to deal with tenants and other operational/maintenance issues.
3. Consider utilizing the BRRRR investment strategy
The “buy, renovate, rent, refinance, repeat” or BRRRR strategy is another great way to grow your portfolio.
The reason this is so appealing is that, upon property stabilization, the owner can do a cash-out refinance. Leveraging this equity is a way to access the capital needed for your next acquisition.
See, all too often, the biggest hurdle to scaling a portfolio access to equity. Most lenders require you to invest at least 25% equity. The best practice is to invest closer to 30-40% equity. Lowering the loan-to-value (LTV) ratio helps reduce the investment risk.
The BRRRR method can provide the capital needed to make follow-on equity investments. Furthermore, allowing you to scale your multifamily portfolio.
4. Use leverage (but carefully)
Most people use some combination of debt and equity to buy their real estate investments. Otherwise, very few people would be able to afford multifamily properties.
Leverage essentially uses borrowed money to amplify cash-on-cash returns. Eventually, mortgages are paid down and then the owners benefit from ongoing cash flow.
However, investors need to use leverage carefully. While it can boost returns, it can also magnify losses.
Most people use some combination of debt
and equity to buy their real estate investments.
Let’s say an asset loses 20 percent of its value during a downturn. Someone who owns the property outright (i.e., no leverage) only loses 20 percent of invested equity. Someone with 70 percent leverage would lose two-thirds of invested equity – a staggering number, especially for otherwise conservative investors. Any further drop in property value could result in the owners losing all of their equity.
You should use low-cost, long-term debt whenever possible. Multifamily investors should also explore loans that offer an interest-only period. This reduces the initial payments while the team works to make property improvements after acquisition.
5. Staff up or outsource some tasks to third-party providers
One of the biggest obstacles to scaling your multifamily portfolio is trying to do all of the work yourself. Finding, doing due diligence, renovating, renting, responding to repair and maintenance requests, arranging financing.
This is all very possible when you’re dealing with your first or second deal. But in order to scale, you need to give up some degree of control.
Typically, someone who owns 50+ apartments will start to have the scale needed to outsource major functions. For example, you can probably have a dedicated property manager and leasing agent. You should probably have a team of maintenance techs at the ready who can quickly repair things. As you scale, you simply cannot do all of the work yourself.
One of the biggest obstacles to scaling
your multifamily portfolio is trying to
do all of the work yourself.
Instead, focus on the tasks that you enjoy most. Grow your management team or outsource the rest. Teach the others what they need to do to run things smoothly. Operationalize your policies and processes and then entrust others to execute on your behalf.
6. Utilize 1031 exchanges to grow your apartment portfolio
We often talk about real estate being a highly tax advantaged industry. One of the tax-savings tools investors use to grow their portfolios is the 1031 exchange.
A 1031 exchange allows you to defer paying capital gains taxes on the sale of a property. This is if those proceeds are reinvested into another like-kind investment opportunity.
One condition is that the asset has to be of greater value. Therefore, an investor might sell a 20-unit apartment building and “trade up” into a 50-unit apartment building. This allows them to grow their property portfolio faster than they would be able to if they needed to pay capital gains on every asset they sold.
7. Grow your network to source off-market deals
Another obstacle to scaling portfolio is deal flow. Finding multifamily apartments for sale can be challenging—especially with so much capital chasing the same types of deals. In addition to working with real estate agents, work on growing your network to find off-market deals.
There is no doubt that you can source off-market deals for yourself. However, with limited time, the more eyes out there looking for you, the faster you’ll be able to scale.
8. Consider investing in alternative markets
People often get hung up on finding deals in the same area they’ve already invested. While this can make sense (i.e., less management intensive, local economies of scale, etc.), it can also be limiting.
For example, in some markets, there are simply very few multifamily assets that trade. In other markets, sky-high prices make those that do unaffordable.
Those who want to expand their total units under management may instead want to look elsewhere. Look where others aren’t—in unconventional markets where there is significant untapped opportunity. This might be outer-urban areas or even well-positioned suburban markets.
9. Be able to underwrite deals quickly and accurately
Many multifamily investors fall victim to “analysis paralysis”. They spend a lot of time thinking, rethinking, and re-analyzing deals that they never move forward. By the time they decide to move forward with a deal, the property is already under agreement by someone else.
This is why it’s important to have a solid underwriting process in place. Being able to analyze deals quickly will help you to scale your portfolio.
10. Invest in an apartment syndication
Those who want to be truly passive investors will want to consider investing in an apartment syndication. A syndication is generally spearheaded by a sponsor, or “general partner,” who oversees the deal on behalf of “limited partners”.
With this approach, you can own a fractional share of a larger apartment community. You only need a fraction of the equity that you’d need if buying independently. This is because others are investing in equity as well. It also allows you to access bigger deals than you might be able to do personally.
Why does scale matter?
Growing your multifamily portfolio is a great way to build multigenerational wealth. Not only does it provide multiple income streams, but it also comes with tremendous tax benefits.
Tax benefits, like depreciation, can save investors tens of thousands of dollars per year. Each time you buy a new property, that property can be depreciated.
Investing in multifamily real estate is a
great way to earn steady, passive income.
Once that depreciation is gone, many investors will actively pursue buying another property just to have something else to depreciate. Depreciation can be used to offset income earned. This is where the savings from one property can be applied across an entire rental portfolio.
While the scale is important, it is equally important to scale sustainably. If the growth is too fast this can result in an investor’s downfall. You need to have the proper team and systems in place to manage your growth. It’s OK to go outside of your comfort zone, but you should continue within your zone of ability.
Are you looking to grow your multifamily investment portfolio? Contact us today to learn how the Smartland platform can help you achieve scale today.
Why should you scale your Multifamily portfolio?
There are several reasons why and investor may choose to scale their multifamily portfolio.
- Increase income and profits: A larger multifamily portfolio can generate more rental income and potentially lead to higher profits for the investor.
- To spread risk: By diversifying the locations and types of properties within a portfolio, investors can spread risk and potentially mitigate the impact of any downturns in a market or property.
- To take advantage of economies of scale: As a multifamily portfolio grows, it may become more efficient to manage due to economies of scale. For example, an investor with a large portfolio may be able to negotiate better deals with contractors or negotiate bulk discounts on supplies.
How can you scale your Multifamily portfolio at a quick pace?
There are several ways to scale at a “quicker” pace. Focus on areas with high demand for rental units and acquire properties in said area, also begin seeking out properties that are undervalued and have the potential for improvement, and you can also consider acquiring properties through a merger or acquisition; as this would allow you to add a large number of units to your portfolio quickly.
What is the importance of diversification?
Diversification is largely important when scaling your multifamily portfolio because it helps to spread risk across a number of properties and locations. If one property experiences a downturn due to factors such as a decrease in demand, repairs or maintenance issues, or vacancies, the impact on the overall portfolio is minimized if the portfolio is diversified. By diversifying, investors can also tap into different rental markets and potentially increase their overall return on investment.
What are some strategies for scaling a multifamily portfolio?
Some strategies for scaling a multifamily portfolio include Increasing the number of units within a property by adding on to the existing building or constructing new buildings, Acquiring additional properties through purchases or mergers, Converting single-family homes into multifamily dwellings and lastly, diversifying the location of properties to reduce risk.
What are some challenges that investors may face when scaling a multifamily portfolio?
Some challenges that an investor may come across when beginning to scale their multifamily portfolio is obtaining the financing necessary for new purchases or expansions, managing and maintaining a larger number of units and or properties, and lastly dealing with the new unexpected repairs or vacancies.
How can investors mitigate some of the challenges faced while scaling a multifamily portfolio?
Often times investors can seek out multiple financing options such as traditional loans, private lenders, or joint ventures; they can also seek our hiring a property manager or management team to handle the day-to-day necessities of the property; and lastly, they can build up reserve funds to cover unexpected repairs, expenses, or vacancies.