Sunday 20 October 2013

Single family investing vs. multi unit investing... which is best?

By: Mark Frentz
www.akerahomes.com
mfrentz@akerahomes.com

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SFH vs. MFH: Is one better than the other?

At time, I hear someone speaking of a certain type of real estate investing as being much better than another type. I know people who would bet their first-born child that Single Family Housing (SFH) will always be a better investment than Multi Unit Housing (MFH) as well as those who will argue the exact opposite. Is one better than the other? In short... Yes. Which is better? That depends.

Why the cryptic answer?

The decision to go into SFH or MFH needs to be one that is informed by your individual investing plan. SFH tends to appreciate faster, so if you are simply investing in real estate for future appreciation it may be the way to do. MFH tends to cash flow better, so if you want money throughout the investment maybe this would suit your needs in a more fitting way. What I hope to do in this post is handle the major reasons why people might choose one or the other. In the end, I hope you work hard on an investing strategy that best meets your individual and family goals rather than investing in the 'shiniest object' at any given time. Before I get into the major points I would like to admit that some of the information in this post came from a book by Julie Broad (More than Cash Flow), but that all of these points are pretty standard and every professional real estate investor should know and understand them. 

SFH

1. I made the statement that SFH tends to appreciate faster than MFH. The reason is that SFH is valued differently than MFH. SFH is valued at current supply and demand and real estate cycles of the centre you are purchasing in and it tends to be an essentially emotional decision more often than not. As an example: The average family that purchases a house in Calgary is doing so in order to live in that house. This family will choose a house that fits their needs, but is also buying because they like the location or floor plan. Families that choose a house do not purchase because it fits their budget perfectly or because it is in a location the city is investing infrastructure into over the next 10 years. SFH is also valued by supply and demand in a city or an area of the city. The Canadian average appreciation of housing tends to be around 5% annually, which is higher than the posted rate of inflation. MFH is valued at its CAP rate. If you don't know what a CAP rate is I will attempt to give a great description as well as the perils of trusting CAP rates in a future post. The brief explanation is that MFH is valued by how much revenue the property generates on an annual basis. In other words, when rents go up and expenses stay low MFH will increase in value independently of what SFH is currently doing. 

2. SFH is more liquid than MFH. If your plan includes purchasing AND selling real estate frequently, then SFH may better suit your plan. If you have a house to sell, there is a huge pool of people who may be both willing to look at it and be able to afford it, not so with an apartment building of 35 doors (they tend to cost more than just a few hundred thousand dollars). 

3. SFH tends to be easier to manage if you only have one building. In MFH you will often need to manage many people, not just one family. If your plan is to self manage, this may be easier. If you have a full time job, it may be difficult to self manage MFH (even just one building with 12 doors). 

4. There isn't a lot of tenant to tenant problems with SFH. When tenants aren't sharing a building there simply isn't as much friction (this is another management consideration).

5. It is so much easier in SFH to have your tenant pay for all utilities, which is difficult to do with even an up and down duplex. 

6. Financing is much simpler and easier to obtain than MFH. By the way... if you are having trouble financing an investment please give me a call or email. I work with a few fantastic mortgage brokers who may be able to help you much more than your current broker (and definitely can help you more than any bank). If you haven't financed a lot of properties, this may be less daunting at the beginning of yoru investing plan. 

7. There are fewer big ticket maintenance costs. You don't have a huge parking lot on your property that needs snow removal in the winter by a professional contractor. Worst case scenario is that you go over and shovel the driveway yourself a few times a week, but tenants will often be responsible for this upkeep. If big ticket costs scare you, it might be better to stick with SFH (where the biggest cost tends to be a new roof for $5,000).

8. There tends to be less turnover with tenants in SFH. I currently have a family who has signed another 2 year lease after already living in our place for 2 years. Our next door neighbours have rented their current house from their landlord for 18 years! Again, this is a management issue... if you don't want to deal with renting out a place consistently, SFH can be simpler.

MFH

1. I wrote about the appreciation of SFH... well, MFH has a decent advantage for forced appreciation. Either investment will be worth more if you fix the place up, but MFH will be worth more by simply managing the property more efficiently. If you purchase MFH that is only 50% filled and hasn't seen rents increased in a decade you can appreciate the property by simply filling to capacity and increasing rent. What I'm saying is that if you know how to properly manage property and aren't afraid of the work, you can easily force the appreciation of your property. 

2. Continuing with the theme of management... if you are hiring a company to manage your property for you, the companies will typically give you a discound per unit on MFH because they have 25 units all placed together and it is easier to manage than 25 separate houses. 

3. MFH tends to cash flow better than SFH. If you purchase a house in Calgary right now it is very difficult to have rent cover all expenses as well as put money into your pocket at the end of the month whereas MFH will, in a good scenario, cash flow quite well and, in a worst case scenario, not lose as much money each month. Rent to value ratios are higher in MFH than in SFH. Here I need to bring up something I have a strong opinion on... If a property, or any 'investment' does not put money into your pocket consistently... it isn't an investment, its a liability! Don't ever purchase property that costs you money each month. It is both highly risky and unwise for future growth. 

4. There is less vacancy risk in MFH. When you have SFH and your tenant leaves for a month you will have 100% vacancy that month. In even just a 4plex, when a tenant leaves for a month you only have 25% vacancy. The advantage here is that you still have 75% of the normal rental income to cover that month's expenses. You can also wait for a vacancy and reno one unit without high risk because you are still bringing in rental income from 3 other units!

5. It can be easier to find tenants because of the lower rental costs (you will have a larger pool of tenants to draw from). 

6. Maintenance costs are lower per unit than in SFH. When you replace all the windows it is a large cost, but cheaper per unit because you can get a discount on the amount of work you are doing. An aside.... you should always be including future replacement and renovations costs in your month expenses! That way you will have money sitting in the account ready to be used when the costs comes up rather than scrambling to come up with the money on short notice. I only ever calculate cash flow (money in your pocket after all expenses each month) after including these extra maintenance costs. IF you aren't planning for the future, you aren't an educated and risk adverse investor. 

7. MFH is often built closer to major population areas like malls and universities, so accessibility tends to be easier/better, which helps with filling vacant units. 

8. MFH has financing perks as well, they're simply different. Did you know that with SFH you have to personally qualify for financing (ie. the lender will determine if your annual income can support the mortgage payments). With MFH over 4 units the property can qualify itself (ie. if the net income is stisfactory, the lender will be quite willing to qualify the mortgage). There is another qualiification for MFH; lenders are typically looking for the purchaser to have a networth of over $100,000. 

So... who is the winner?

Maybe a mix of both can work best in Calgary. An example is up and down suited detached houses. This has the MFH benefits of less risk with vacancy (50%) and rental income that covers expenses while retaining a lot of the SFH benefits (liquidity, appreciation, time commitment of self management). 

Here are some questions to ask yourself when it comes to deciding which strategy will work best for you:

-Who will manage the property and respond to late night squabbles and maintenance issues?
-Can I carry vacancy costs?
-How long do I plan on holding the property? Is the purpose to keep it forever or sell each property every few years?
-Do I more value appreciation or cash flow?

Before you invest in any type of real estate do a ton of research and make sure you have a strong and specific plan put together. Investing without a plan is never recommended by anyone as it is similar to taking a road to travel somewhere without understanding where the road leads. I will leave you with a quote I have often heard. It is attributed to Lewis Carrol and I have paraphrased. 

"If you don't know where you are going, any road will get you there"




If you would like to learn more about investing in real estate please contact me at the email address listed at the beginning of this article or go to my website at: www.akerahomes.com/investing-in-real-estate.html

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