Does Size Matter? - Small vs Large Multifamily Properties
When we were first getting into the multifamily space, there seemed to be two schools of thought. Some investors advised us to start small with properties less than 100 units and scale our way up into larger properties. Others encouraged us to go straight into larger, 100+ unit properties. We knew larger properties was the end goal for us, but we were also attracted by the idea that starting small would allow us to learn the ropes and develop our multifamily expertise overtime.
There are pros and cons to both options. But as we learned about both paths, we realized that there was an ideal path for us.
Below, we’re diving into the differences between small multifamily and large multifamily - and which may be the better option for you.
If you don’t have access to a large amount of capital, investing in larger 100+ unit properties may not be a feasible option. With smaller multifamily deals, it’s more realistic to be able to save up for a down payment on a triplex. This means a lack of capital won’t stand in the way of you jumping into the multifamily game.
With larger multifamily deals, the minimum investment as a passive investor can range from $50,000 to $100,000 or more. As a general partner, for a 100 unit deal, the equity investment can be upwards of $5 million. If you don’t have access to this capital or know anyone that does, 100+ unit apartment deals might not be an option.
There’s a narrative out there that smaller multifamily deals are easier to manage. While this might be true, the answer is a bit more complicated. Yes, smaller multifamily properties have less units to renovate and manage. So there is less responsibility. But there may not be enough cash flow to outsource this to a property manager, leaving the property management responsibilities to you. If you like dealing with tenants, toilets, and termites, then power to you! But if you’re looking to outsource this, going bigger is likely a better fit.
Using a third party property management is a great way to make your multifamily investments more hands-off. Professional management companies prefer larger properties with more units because they’ll see it as a better use of their time. And as the unit size increases, the property management company’s fee also gets smaller as a percentage.
The property management company operates the property, communicates with tenants and handles complaints, collecting rent, unit leasing, unit turnovers, property maintenance, and more. The value of a property management company is evident if you’re looking to scale a real estate investment portfolio.
If you’re doing a syndication to buy multifamily properties, bigger deals will be more bang for your buck. A syndication simply means you are pooling investor capital together to buy a multifamily property. During the process of a syndication, there are many expenses involved. You have to form LLCs, create a private placement memorandum that’s compliant with SEC guidelines, and more. These legal fees are the same cost whether the property is 17 units or 170 units.
This means that as the property gets bigger in unit size, these fixed costs as a percentage of the overall property get smaller. Fixed costs can also include marketing. Sourcing leads to fill your units is the same for a 27 unit property as it is for a 170 unit property.
Bigger properties allow you to run the property more like a business than a mom and pop operation.
Despite what you might think, it isn’t always necessarily easier to finance smaller properties. Lenders are typically looking to lend money on bigger, more reliable properties. Government agencies like Fannie Mae and Freddie Mac will give out loans that are normally between $1 million and $10 million, with $1 million as a minimum. Many smaller properties wouldn’t fit into this category.
Real estate investors benefit from lower interest rates on their agency loans for larger properties because agency loans are guaranteed. Smaller properties don’t qualify for these types of loans. Lenders that provide loans for smaller properties use the borrower’s credit score, while lenders on larger multifamily properties mainly look at the property’s income.
Bank loans are better with smaller properties, but they’re also typically recourse, which means if the loan defaults, the bank can go after the borrower’s personal assets. Agency loans are usually non-recourse, and this is ideal for investors.
At first thought, it might seem like smaller properties require less work, money, and time than a small multifamily property. But in reality, finding and buying a large, 100+ unit apartment building is just as much work as a 25 unit property. Yes, due diligence might take a bit longer, but the process of sourcing the deal, negotiating, and going through the closing process is essentially the same requirement. So, in the same amount of time it’d take you to buy a 20 unit, another investor could have gone and purchased a 100 unit property.
For the reasons listed above, my brothers and I decided to skip the small multifamily steps and launch into the larger apartment space. There were multiple challenges we had to face, and a large learning curve, but we were able to do it. Today, we’re partnered on over 1,000+ apartment units, all in apartment buildings that are 100+ units. We’ve seen first hand the efficiency that comes with larger apartment buildings.
We hope that after reading this, you’ll be able to identify which option is the best vehicle for you to take to reach your real estate goals and earn more time freedom.