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5 Reasons to Think Twice Before Investing in Multifamily Rentals

Sep 20, 2022 9:30:00 AM

Side view of apartment building

In the real estate investment industry, a war is always waging between single-family rentals (SFRs) and multifamily rentals. Which one is better? Which should you invest in?

While personal preference certainly plays a significant role in the answer to those questions, there are certain realities that every real estate investor should consider before they jump into the multifamily housing market.

5 Big Roadblocks to Successful Multifamily Investing

#1. Lack of Liquidity

Talk to any critic of real estate investment and one of the first things they’ll point out is the relative lack of liquidity in the industry. Even in our fast-paced real estate market, it can take months to get your house on the market and sold with a profit in your pocket. If you need quick cash, real estate is not the fastest way to get it.

That’s even more true of the multifamily sector. Multifamily properties are niche – typically they’re being bought by independent investors or large investment companies. When you’re selling a single-family property, you can market it to homebuyers at large, who aren’t worried about investment performance.

The buyer pool is simply smaller for multifamily. It may take longer to get a sale, and if selling is your exit strategy, you could get stuck with a dud.

#2. Barriers to Entry

The multifamily investment sector isn’t exactly friendly to new investors. Obviously, buying an entire apartment building or complex is going to be expensive. It is true that one purchase potentially gives you dozens of income streams (one for each occupied housing unit), but your portfolio won’t be as diverse as it could be. All the physical and market-specific risks apply to every unit you own, effectively tying those streams of income to the same fate.

GIF of dog trying to get through gate with big stick

And buying a multifamily property is considerably more expensive. That greater expense means bigger down payments, bigger debts, and more time before you can acquire new properties. The ask is big for a new investor!

#3. A False Sense of Security 

The cost isn’t the only problem. Real estate investors may feel a certain false sense of security because they feel like they know something about real estate. After all, anyone who has bought or sold a home does know something. But living in a house and managing one for profit are two different beasts. Making a multifamily property profitable is tough even for experienced investors.

Demand might be high, but market saturation means that investors will have to go above and beyond to stand out and meet their key metrics. You’re dealing with complex legalities and loan structures on top of managing what is very likely a multi-million-dollar property. Just because you’ve lived in an apartment doesn’t mean you know how to run one.

#4. Concentration Risk

Let’s touch on diversification again. Because multifamily properties are so much more expensive than single-family properties, growing a multifamily portfolio demands significantly more resources. While you may benefit from every occupied unit of your property, occupancy must remain high, and you have to hope nothing happens to your property.

One pitfall for investors is sinking most of their net worth into one or two investment properties. That’s easy to do when the price tag is so high! This is called “concentration risk.” Because in real estate investment, it’s not enough to own multiple properties or units. Those properties need to be spread out to mitigate risk most effectively.

They say not to put all your eggs in one basket. Ideally, you have different classes of real estate across multiple markets, in addition to other asset classes in your portfolio.

#5. It's OverpricedCartoon gif of shoveling money into furnace

According to Motley Fool, multifamily housing is overpriced. Considering the average price-per-unit rose by 21.6% in 2021 (up to $192,105 per unit) but rent growth was only up 14%, we can understand that conclusion. Rental demand is there and there’s more investor participation in the multifamily sector than ever – but it’s hardly a sure thing. We all saw how rocky it was for multifamily in 2020. The SFR market didn’t experience such a fluctuation – if anything, demand soared and has sustained without seeing the sort of crash multifamily went through.

To put it plainly, multifamily investing isn’t a sure thing, and the way prices are going, the margin for error is shrinking.

 

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