Buying large commercial multi-families can be different from buying in the residential sector (2-4 units). Once you start looking in the five units or more range, you are in commercial territory which involves using commercial loans. Commercial real estate is underwritten differently than residential; whereas residential is valued based upon comparable sales, commercial assets are valued strictly based upon its income. As a result, the property has to show income potential and the operator must show the ability to achieve this income growth. I share all of this as a backdrop to holding periods of larger multi-families.
Buying Real Estate Through Syndications
In order to acquire these larger assets, syndications are formed. Investors are invited to the opportunity and choose to invest based on the income potential of the property, deal structure and opportunity to sell at a higher price in the future, thus allowing all involved to recoup their investment and hopefully generate the targeted returns. Whereas single-family rentals and small multi-families can be acquired using personal funds by an individual investor, larger assets require this structure in order to take them down.
The Right Balance of Hold Period
Too Long of a Hold: As an individual investor, the desire my be to hold the rental for the long term (greater than 10 years) and enjoy the cash flow, as I do with my personal rentals. In multi-family syndications, investors are less likely to desire to have their capital deployed for ten years; as a result a shorter hold period is ideal. Furthermore, too long a hold period creates market risk. No one knows what the real estate market will look like five years from now; how much less is the visibility for 10 years from now? To commit to investors such a long hold period creates risk down the road as there are now more possibilities for downturns and the unforeseen.
Too Short of a Hold
On the other hand, to plan to hold the asset only one or two years does not give it much time to grow in value due to market forces nor does it give the operator much time to execute the business plan in order to achieve that higher net operating income. Some of these strategies include raising rents on units during turnover, capital expenditures such as new roofs and renovations, negotiation contract services, and more. Those value-add efforts take time, potentially much longer than 1-2 years.
When Opportunity Knocks
However, there are occasionally some pretty cool opportunities to sell a property within 1-2 years for a great price, allowing investors to make outsize returns without having executed the business plan. If you could sell a property now and achieve the 18% targeted IRR versus wait three years and do it, what would you do? I think you follow! Do not bet on these opportunities, as they do not happen with every deal and they are the result of growing market demand, something we cannot predict with prophetic perfection. Just know those opportunities do exist!
Summary
In apartment syndications, finding the right balance of the hold period is essential. Flexibility is key, so seeking the longest-term financing allows for more flexibility, committing to moderate holds allows investors to sell when the market is great and hold for longer periods when the time to sell is not best. The optimal position for any operator and passive investor is flexibility, as it leaves more options for investors.
💡Invest Your Retirement w/ eQRP
– How To Use Your 401k To Invest In Real Estate
