The main reason for owning multifamily property has changed …

Until recently, the top 4 reasons for buying apartments were:

• Cash Flow
• Appreciation
• Principle Reduction
• Tax Deferral

These reasons have flipped in order. Now, they are:

• Appreciation
• Principle Reduction
• Tax Deferral
• Cash Flow (if there is any?!)

The new, overiding motivation for owning real estate is Equity Preservation!

Why the change? One reason … Artificiality

Multifamily investors know that they can borrow money at the artificially low fixed rate of 5.75%. Simultaneously, current artificial market conditions:

• Entice students into suffocating debt,
• Pile unnecessary regulation costs onto small business owners,
• Permit tenants to be surcharged on their monthly utility bills,
• Increase multifamily property taxes beyond the rate of inflation.
• Increase medical costs for their younger tenants.

Multifamily owners see firsthand that real inflation is higher than the rate of their borrowed funds.

Therefore, large apartment owners continue to buy more apartments and lock in on a low 10-year rate, hoping that the ever-increasing costs of building new properties will indirectly pump up the market value of their existing real estate.

Experts continue to  insist that inflation is not a problem. But does that really matter when your customers:

• Pay water bills that are surcharged by companies they never knew existed?
• See the filet mignon on their dinner menu is now priced at $79.00,
• Pay $5,00 per gallon for gasoline.
• Spend more money for less at their local grocery store,
• Are straddled with a seemingly never-ending $300 monthly payment just to pay off their degree in economics?

They look around and see hands-on evidence of real inflation:

From Builders: Over the last 4 years, builders of newly-built apartments have seen firsthand that the combined cost of bringing a new property online (land, zoning costs, impact fees, labor, lumber, asphalt, carpeting, paint, concrete, plumbing, electrical), has increased well upwards of 15% from year to year.

From Our School Administrators: Every election season, school administrators explain to us that the cost of educating our kids far exceeds the rate of inflation. In turn, apartment owners increase rents just to stay even with the sharp increases in property taxes.

In News Reports: Recently, data from real estate analyst RealtyTrac, reported by Columbus Business First, revealed that single family home prices in Columbus, Ohio increased 12.5% in the last 2 years, nine times faster than did wages in the same period of time.

Sticks and Bricks or Stocks and Bonds?

Investors have to do something with their money. If they buy apartments at today’s inflated prices, they do not expect much cash flow. But, many fear that the artificiality of ‘quantitative easing’ has propped up the value of the stock market beyond legitimate levels. They wonder if quantitative easing can go on forever.

So, they ask themselves …

Where is the best place to PRESERVE MY EQUITY?

If my costs are actually increasing at, say 10-15% per year, the buying power of my current equity will be reduced by roughly half over the next 7 years. This, of course, is unacceptable. So, where can I preserve the value of my equity?

• In the bank? Will one-quarter of 1% keep pace with inflation of 10%?
• In the stock market? Is it due for a major ‘correction’?
• Sticks and bricks? Will real estate keep pace with inflation?
• Gold and silver? What’s that all about?

Then they ask themselves, “What is within my control?”

• Rising costs and expenses? No.
• The Fed’s policy on quantitative easing? No.
• The rental/leasing market? No, not really.
• The stock market? No
• The overall economy? No
• The price of gold and silver? No
• The fixed interest rate I can lock into for the next 10 years? Yes!

The ONE thing they control …

The one significant and substantial thing they have airtight control over is their 10 year fixed rate! It transcends time! 10 years is an eternity in this market! The 10-year rate is their only market certainty. So, they are forging ahead and are buying the sticks and bricks!

Developers flip the properties as soon as they can!

Make no mistake. Local builders have little interest in keeping these apartments. They know that, in every direction, these conditions are artificial. They realize their local market is being flooded with new apartments. If not for the artificially low, long-term interest rates, they would never build apartments in such high numbers.

Why? Because their customer base is artificially influenced.

The artificiality of lending $40,000 – $80,000 to an unemployed student has increased tuition costs and has created a pool of college graduates, so saddled with debt, that most will not qualify as first-time homebuyers, anytime soon.

Millenials, however, are tired of living with their parents (or their parents are tired of them living with their parents!). This explains why builders are flooding the market with thousands of brand new apartments in Columbus (over 12,000 in the hopper!). Builders fill them with young, transient, overextended tenants who will find a roommate and rent a nice place to live for $1,400/month.

Local developers oftentimes sell immediately after the last tenant takes advantage of the attractive lease-up concessions. They sell at premium prices to investors who have access to artificially cheap funding.

The large investors stand in line to gobble them up!

Investors wait in line to purchase the apartments at historically low cap rates. Auctions of apartment communties go to the highest bidder. Their buyer’s low interest rate is fixed. Where else can they hedge their money against inflation?

Why are investors buying apartments in today’s artificial market?

EQUITY PRESERVATION!

____________________________________________________________________________________

Part II: Who will be the winners and losers in this artificial real estate market? 

My next post will predict the future winners and losers in this artificial real estate market. To subscribe to my blog posts, and to receive a free copy of my eBook, Single Page Life Plan, click here.

Here are some other posts you might find interesting:

Single Page Checklist for Buying Apartments: My book, Single Page Life Plan explains how you can extend single page planning to all of your important projects and ventures. Single Page Checklists are a ‘catch-all’ for special projects that you can review regularly to stay focused.

Podcast: What is a Cap Rate? Cap Rates. You hear about them all the time, from people who specialize in investment real estate. They’ll says things like, “That property sold for a 6 cap,” or, “We’re looking for properties priced in the 9 to 10 cap range.” Today’s Walking and Talking podcast is all about Cap Rates!

I Wish I Had Smoked More Cigarettes. When I speak to 8th grade students, freshman, and sophomores, I make them this promise: Nobody ever looks back on their high school or college years and says …

Where is Your Rancho del Cielo? He called it his “Cathedral in the Sky” (Rancho del Cielo is Spanish for Sky’s Ranch, or Heaven’s Ranch). It is where President Reagan could sort out problems while riding his favorite seventeen-hands-high thoroughbred for hours at a time. He could enjoy Mother Nature in all her glory.

The post Why Investors Buy Apartments in Today’s Artificial Market appeared first on Walking and Talking.

Walking and Talking … Cap Rates!

Cap Rates. You hear about them all the time, from people who specialize in investment real estate. They’ll says things like:

• “That property sold for a 6 cap,” or,
• “We’re looking for properties priced in the 9 to 10 cap range.”

What is a Cap Rate?

Simply put, a Cap Rate (capitalization rate) equals the Net Operating Income of a property, divided by Purchase Price:

Cap Rate = Net Operating Income ÷ Purchase Price

Net Operating Income for an apartment property is basically all of the income that is collected from the property, such as:

• Rental Income
• Pet fees
• Water income
• etc.

Less any expenses that you would incur on the property, such as:

• Taxes/Insurance
• Lawn/Snow/Trash
• Replacement of appliances, HVAC, etc.
• Painting/Cleaning
• etc.

What remains is your Net Operating Income (NOI).

Cap Rates speak to the price of the property in relation to the NOI it generates.

NOI/Purchase Price equals your Cap Rate

Examples at an NOI of $10,000:

If a property:

• is generating $10,000 per year, and
• you wish to sell it for $100,000.
• You are seeking a 10 cap.

That’s easy enough to calculate in your head, right? $10,000 (NOI)/$100,000 (Purchase Price) = 10 Cap.

If , however, you are only sell the property for $90,000, then your property aols at an 11.1 cap rate:

• $10,000 (NOI)/$90,000 (Purchase Price) = 11.1 Cap.

Now, imagine your property sells above asking price. Say, $111,000. Then the property transferred at a 9 cap:

• $10,000 (NOI)/$111,000 (Purchase Price) = 9 Cap

The higher the price, the lower the cap rate. Once NOI is determined, it is a fixed number (in this case, $10,000), because that is simply the NOI being generated from the property each year. Only the purchase price changes.

Why so many people are often confused about cap rates

The main reason people are often confused, is they forget that Annual Debt Service is not an expense.

• Annual Debt Service (ADS) has nothing to do with calculating a cap rate!
• Cap Rates don’t care if you borrow money against the property or not.
•  Cap rates only care about the relationship between NOI and purchase price.

Here is one way I look at it:

You take $100,000 to your local bank and they pay you an interest rate of 1% – To me, you just invested your money at a 1 cap. If you take that same $100,000 and buy a couple of apartments that are netting you $5,000 each year in cash flow, then you have invested your money at a 5 cap.

The best way to always remember what is a cap rate

Assume you are always paying all cash for the property!

Now of course, you rarely will – but to determine the cap rate, ask yourself, “If I paid all cash for this property, what would be my annual return?” If you buy a property all cash for $100,000 and the NOI is $7,500 per year; you just bought that property at a 7.5 cap rate!

Conversely, if a property is generating $12,000 each year, and you will only pay a price that gives you a 6 cap, then be ready to pay $200,000 for that property ($12,000 NOI/$200,000 (Purchase Price) = 6 Cap.

In the last example, the Cash on Cash Return percent will also be 6. That’s because, when you pay all cash for real estate, your Cap Rate is the same as your Cash on Cash Return.

5 major factors that indirectly impact cap rates

1. Interest rates:

The lower the interest rate a person can use to leverage his or her purchase, the lower the cap rate that person will typically pay for the property. That is because they are looking for positive leverage.

For instance, for investment property, many investors like to borrow their funds at a lower rate than the cap rate they are buying at. If they buy a property at an 8 Cap, they want to finance the property at a 6-6.5% interest rate.

This results in a positive Cash on Cash Return. The larger that spread between the cap rate they are paying, and the interest rate they are borrowing at, the more positive cash flow they make.

If interest rates increase to a number higher than the cap rates being paid in the marketplace, then negative cash flow is created, and few people want to buy real estate at a negative cash flow.

2. Quality of the property:

Buyers are willing to pay lower cap rates for a property if they believe that it will appreciate in value, continue to stay rented, garner increases in rental rates, physically stand up over a long period of time, and be relatively easy to manage.

3. Supply and Demand:

Not all investors purchase strictly for economic reasons. For the owner-occupied retailor, doctor, or office tenant, who believes they must be in a certain area for their business to prosper, the value of the building might become secondary – at which point limited supply in a particular area might drive down cap rates.

4. Like Kind Exchange Activity:

When there is a great deal of selling activity in a particular market, the desire to defer capital gains taxes often results in a flurry of buying activity that drives down the cap rate.

 5. Alternative Investments:

When competing investment rates, either from banks, the stock market, or pension funds, goes down, investors more easily rationalize accepting a lower cap rate when buying investment real estate.

Remember, not all cap rates are created equal!

Be careful when negotiating a deal where everyone is throwing around the term ‘cap rate’. When someone says, for instance, “All I am asking for my property is an 8 cap? That’s fair, don’t you think?” My first thought is to find out how that person arrived at their NOI number?

• Have they inflated income to reflect street rents, or are they using actual rents that they collected over the last 12 months?
• Did they include a property management fee in their expenses ? A very popular comment you will hear is,”Oh, we just manage it ourselves, so we didn’t put in a management fee expense.” But what if I decide to hire a management company to run these apartments for me. I will have that expense!
• If I am buying the apartments in partnership with other people, I might simply want to be compensated for my managerial efforts.

There here are dozens of ways to arrive at an NOI figure. Their way of calculating NOI is oftentimes different than yours or mine. And, even if do they calculate it the same way we do, there are expenses that we will have as the new owners, that they don’t have. For instance, our tax rate will be based upon the new transfer price, which might be higher than the assessed value currently being used to determine the property taxes.

The Cap Rate, and other ratios used to determine market value of property, can be found in my 6 page laminated flyer titled, Understanding the Fundamentals of Multifamily Property which will soon be made available at my site, www.GarrettScanlon.com

The post What is a Cap Rate? appeared first on Walking and Talking.

I will never forget the day I learned my first lesson in commercial real estate. It came shortly after I joined a team of 25 brokers at Coldwell Banker Commercial Real Estate. They ultimately became a who’s who of Columbus real estate that included Richard Schuen, Ed Joseph, John Hall, Don Matsanoff, Greg Schenk, Chuck Manofsky, Doug Goddard, Ted Hobson, Bob Matias, Benton Benalcazar and several others.

The Day I Learned About Walking and Talking

One of those brokers was Wayne Harer. Wayne played 10 years of minor league baseball for the Red Sox and Yankee organizations and actually won theAAA Batting Crown one year. Unfortunately for Wayne, that was not enough to dethrone American League MVPs Freddie Lynn and Jim Rice, or Hall of Famer Carl Yastrzemski from their spots on the roster.

I considered Wayne a ‘veteran’ commercial broker because he had all of 2 years of experience leasing downtown office space. One day as he was walking through the lobby, I called out, “Hey Wayne, do you have a couple of minutes?”

“Walk with me, talk with me!” he said as he got on the elevator.

“What?”

“C’mon Scan. Walk with me, talk with me. Let’s go!”

Being new in the business, I jumped at the invite. Not only was Wayne a successful broker, he was the only guy I knew who had his own baseball card!

A 2-hour walking and talking tour of downtown Columbus.

I spent the next 2 hours tagging along with Wayne as he conducted business downtown. He visited a dozen offices, dropping off brochures, talking with tenants and owners. A business card handed out here, a “Howyabeen” there. We took elevators and escalators; we cut across parking lots and through retail stores. I kept asking Wayne real estate questions. Wayne kept walking and talking.

Five miles later, it was obvious that Wayne knew every floor of every downtown building, every owner, and every tenant. He knew everyone by name; the secretaries, the lobby clerks, even the policeman on the corner. You were never a stranger for long when ‘Wayno’ was walking and talking.

They told me, “You’re going to be an office broker.”

Wayne said, “When I was hired by Coldwell Banker, they told me, ‘You are going to be an office broker.’ That sounded great to me, but I really did not know what they meant. When I asked them exactly what an office broker did, they pointed outside their office window and said, ‘Do you see all of those buildings out there? You are going to learn everything there is to know about every single floor of every single building.’ ”

“They told me I needed to meet with every tenant leasing agent, property manager, lender, and owner associated with those buildings. I needed to learn all about the square footages, the rental incentives, and tenant improvements. Basically, I needed to learn details of every lease.”

Wayne added, “That can seem like a daunting task for a new real estate agent, fresh out of professional baseball. It took me about 18 months to do that groundwork. And it is groundwork! Your energy level has to be very high. When you start at the top of the LeVeque Tower and start working, floor by floor, it can be exhausting.”

One time someone asked Wayno, “What if there is a ‘no-solicitation’ sign outside the office?”

“Better yet!” he replied. “That means there is a good chance some of the other brokers were scared off. The reality is, if you haven’t been thrown out of every building in your territory at least once, then you’re not doing your job.”

The Lesson I Learned that Day

The questions I had the day were insignificant compared to the education I received, walking and talking. This is what it is all about; getting face-to-face and personal with the people with whom you want to do business. It was the best lesson I ever learned in commercial real estate. The best result has been the close friendships that have resulted from walking and talking.

www.talkingandtalking,com

The post My First Lesson in Commercial Real Estate – Walking and Talking appeared first on Walking and Talking.

My book, Single Page Life Plan for Realtors explains how you can extend single page planning to all of your important projects and ventures. Single Page Checklists are a ‘catch-all’ for special projects that you can review regularly to stay focused.

Click here to enroll in my online class, Buying the Apartment Next Door at 50% off (Coupon Code is Plan2022) and receive a signed copy of the book: https://bit.ly/3rqBquh

For example, the Single Page Checklist for Buying Apartments summarizes on a single page the 4-color, 6 page laminated flyer I created that explains:

• How to build your team of advisors.
• Things to consider in putting together contracts.
• Important questions you need to ask the seller of apartments you are buying.
• The important questions to ask to obtain favorable financing.
• How to select a good property management company.
• The types of insurance you need to consider.
• Criteria of good multifamily property.
• Ways to continue to learn more about investment real estate.

This format can work for all of your projects.

Other examples of Single Page Checklists that I have on my blog include:

• Real Estate Brokerage and Sales
• Wedding Plan on a Single Page

You can use a Single Page Checklist to implement a social media plan for your company, a new product plan, or a new fundraising campaign. And the great thing about having your plan on a single page, is that it keeps every on your team on the same page together. Everyone stay laser-focused on the steps needed to achieve the goal!

Click here to learn more about the online class and book

With a Single Page Checklist, Priorities must earn their way to page one!

The post Single Page Checklist for Buying Apartments appeared first on Walking and Talking.

They took the refrigerator!

I immediately called the seller, who explained that those particular tenants had previously sold their home, and so they had brought their own refrigerator with them. He had simply forgotten, and there was no mention of it in the lease.

Download 32 Questions PDF

“Garry, I just put the fridge that was in their apartment into storage, and used it the next time one of my other ones broke down.” The seller delivered a replacement-refrigerator, which was included in the sale of the apartments, and everyone was happy.

If we had asked the seller, prior to closing, if he owned his appliances, it might have prompted his memory and helped us to avoid all of the hassle. Attached is a checklist that has some of the questions you can ask an owner prior to writing a contract. What questions do you ask before buying apartments?

There are more questions to ask!

32 Questions to Ask When Buying Apartments is by no means an exhaustive one that includes everything you need to discover before making a purchase, but it will get you started. In places like Manahattan and San Fransisco, there are a host of additional questions that need to be asked regarding rent protection that limits what you can charge in rent and how quickly you can raise rental rates. It is important to contact attorneys, brokers, and property managers who are familiar with the particular city in which you are making your purchase.

Questions, questions, questions! Keep asking questions to make an informed purchase.

What questions do you ask when buying apartments?

32 Seller Questions Attachment

The post 32 Questions To Ask When Buying Apartments appeared first on Walking and Talking.

What they all have in common. This was what I wanted to know. In my first book, Walking and Talking – 57 Stories of Success and Humor in the Real Estate World of Business, I recounted stories from some of the top real estate professionals in the Midwest. After observing their careers and listening to their stories, I asked myself this: Other than their sheer success, what do all of these winners in real estate have in common? This is what I learned:

Photo courtesy of @iStockphoto.com

4 Characteristics of Top Real Estate Pros …

1. They create structure in an unstructured environment.

Real estate is not your typical 9 to 5 job, where opportunities are clearly identified and day-to-day responsibilities are well-defined. It is up to the real estate professional to identify the problems and opportunities; to set a plan of action that will bring success. They are not told how to allocate their time, or which deals to pursue or ignore.

The successful ones create a great framework for activity.

2. They share characteristics of creativity, optimism, confidence, and persistence.

Not all of the contributors to Walking and Talking were particularly good students in school. Surprisingly, not all of them are consistently hard workers. Nor are they all exceptionally talented. But, all of them share the traits mentioned above.

As a result, they are very good at:

a.) Teaching themselves what they need to know to excel,
b.) Focusing their energy on the most important tasks at hand, and
c.) Working effectively with other people.

3. Top real estate pros are not deterred by risk.

Very little, if any, of their income is guaranteed.

Their time and effort is always at risk. They incur the costs of failure and enjoy the rewards of success that result from choices they make, efforts they put forth, and conditions in the marketplace. They respect risk, but are not deterred by it.

4. They succeed in very unique and different ways from each other.

This is their most important character trait: They all take different paths, thereby taking advantage of their individual skills and talents.

There is not one formula for success to follow, but hundreds!

This is why it is almost impossible to predict, out of a group of newcomers to real estate, which individuals will ultimately succeed.

The commonality among these high achievers is that they all take a unique approach to their business. If their shoes fit, they wear them, and keep walking and talking!

They have unique plans, which is one of the reasons I wrote Single Page Life Plan for Realtors (available at Amazon). To learn more about the book, click here.

Question: What other common traits or skills do they share?

The post What They All Have in Common appeared first on Walking and Talking.