5 Tips for Purchasing a Multifamily Home and Leveraging Rental Income to Offset Mortgage Expenses
When it comes to homeownership, it can seem like we can't catch a break.
As the soaring costs of housing persist, the prospect of homeownership for younger generations, including millennials and Gen Z, often appears unattainable. However, a time-tested solution has emerged: purchasing a duplex or triplex, residing in one of the units, and seeking tenants to cover the mortgage through rental income.
While this arrangement can make homeownership more feasible, it's not without its challenges. The search for the right property is essential, and assuming the role of a landlord is only suited to some.
However, the prime advantage of residing in one unit of a duplex or triplex is having great potential to cover your mortgage through rent collection as long as you don't mind sharing walls with your tenants.
There are many things to know upfront before investing in a multifamily property. Assuming landlord responsibilities won't be a walk in the park. Also, multifamily units are often pricier compared to single-family homes, demanding a more significant financial commitment, but the efforts can pay off handsomely and be offset by rental income and appreciation.
Here are five things to consider when looking at purchasing multifamily units.
1. Sourcing the right multifamily property
Finding a duplex or a building with multiple units can be challenging based on the desired neighborhood. Exploring properties with attached or detached accessory dwelling units (ADUs) could provide viable alternatives, such as finished spaces above garages or converted cottages or barns.
Also, focus on location, which will significantly determine attracting and keeping good tenants. By looking at neighborhoods that attract young professionals, you're more likely to maintain steady tenants.
To get a better deal, look for properties that need light cosmetic work, such as paint or new appliances.
2. Tenancy considerations
Acquiring a property with existing tenants can streamline loan qualification, using actual rent rather than estimated figures. However, inheriting tenants may mean settling for lower rents without the chance to screen them personally.
Conducting background and credit checks on potential tenants is crucial. One tenant screening service is Smart Move, which costs between $25 and $42 per screening. Or you could employ a real estate agent for tenant vetting. It typically costs you one month in commission, but it will likely make you feel more assured.
3. Multifamily property financing options vary
Owner-occupant status, meaning you will live in one of the units, simplifies securing loans for a property where you'll live. This is different than being an investor alone, who face stricter criteria. Investors need higher credit scores and larger down payments, typically at least 20%, because they are considered a more significant risk.
As an owner-occupier, you can take advantage of better down payment options than investors. For instance, in November, Fannie Mae announced it would accept 5% down payments for owner-occupied 2-, 3- and 4-unit homes. This is a marked departure from previous multifamily requirements of 15-25% down payments for duplexes, triplexes, and four-plexes. This progressive change makes the dream of owning a multifamily home while generating rental income much more attainable.
As for some other general tips when purchasing a multifamily home, your chances of being approved for a loan are much better when you have a higher credit score (700 or above) and a lower debt-to-income ratio (43% or less). A debt-to-income ratio compares the minimum monthly payment on your recurring debt with your gross monthly income.
You'll also need to prove that you have cash reserves in case of unexpected repairs, vacancies, or if your tenant doesn't pay. How much varies case by case, but experts recommend having six months of mortgage payments in the bank.
4. Landlord Skills and Reserves
Owning a multifamily property entails responding promptly to tenant calls for maintenance. Maintaining a roster of reliable contractors is a good idea, but most owners who only manage a few units opt not to hire property managers. That's because it can run 8-10% of the rent for a property manager, depending on the services provided.
Unexpected tenant calls, especially at odd hours, can sometimes deter people from either buying or maintaining a multifamily property.
5. Familiarity with Local Rental Regulations
Adherence to diverse rental regulations across jurisdictions is imperative. Thoroughly do your research and seek guidance from your real estate agent. Many cities impose specific landlord licensing requirements, and non-compliance may result in fines.
Be sure to understand tenant laws and rent control regulations. But the most important thing you can do is be prudent in your tenant selection and be a responsible landlord.
Investing in real estate can be a lucrative venture, and one popular option, especially for Millennials and Gen Z today, is purchasing a multifamily property. Multifamily properties offer the potential for consistent cash flow and increased returns compared to single-family homes. However, there are many factors to consider, especially if it's your first-ever home purchase. These five tips are only the start to ensure you can make an informed decision.
Nestment, Inc. does not guarantee and is in no way responsible for the accuracy of the information provided in this blog post. All information is provided “AS IS” and with all faults. Data presented here may not reflect all real estate activity in the market. While the information on this site is about legal and tax issues, it is not intended as legal or tax advice or as a substitute for the particularized advice of your own attorney and tax professional.
