Investor Education

5 Reasons you should invest in multifamily homes

There are many reasons to consider investing in multifamily homes, some of which we’ve already discussed above, but one of the primary reason people choose multifamily investment is to diversify their investment portfolios to non-correlated assets. The average person tends to invest in their 401k or IRA as their primary investment vehicle. Doing so puts you at the mercy of the stock market, which can experience dramatic swings, even on a day-over-day basis. Investing in real estate is a good way to diversify your holdings and hedge against stock market fluctuations.

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This isn’t to say that multifamily home values don’t also fluctuate in value. The housing market bottomed out in 2008 and in the process, many real estate investors were crippled. That said, real estate cycles generally last about 10 years, so anyone who sat tight during the market downturn is likely to have seen their properties recover in value – and as an added benefit, many were collecting substantial cash flow during the down turn, as well.

Here are five other reasons to invest in multifamily homes.

Reason 1 – Leverage.

One of the main benefits to investing in real estate is the ability to leverage the asset. In real estate, the term leverage refers to the ability to move more money with less effort. Think about how this works in practice: in order to purchase $1 million worth of stocks, you’d need to have $1 million in cash on hand. In order to buy a $1 million rental property, you only need $250,000 – you’d get a mortgage for the remaining $750,000. By using leverage to help finance your multifamily investments, you are increasing your average rate of return. (Note: this also increases your risk, as you are borrowing against the asset and paying interest on the loan). Many investors believe leverage is the gateway to building a greater net worth.

Reason 2 – Scalability.

Unlike investing in one-off single-family rental properties, investing in multifamily properties allows you to grow your real estate portfolio quickly. Your ability to scale is also a result of the leverage concept discussed above. If you had $1 million in cash on hand, rather than investing in $1 million worth of stocks, you could invest $250,000 in four $1 million properties. The cash flow from the rentals would go toward paying down the loans, and over time, you would have accumulated a portfolio worth $4 million by only putting down $1 million. Many investors use leverage to scale their portfolios in this way.

Reason 3 – Tax Benefits.

Real estate is one of the most tax advantaged asset classes. The two biggest benefits are the mortgage interest deduction and depreciation. Because larger investment properties typically require large mortgages at 5%+ interest rates, this can result in a high annual deduction for multifamily investors.

Meanwhile, depreciation is one of the biggest real estate tax shelters for rental property owners. Depreciation works on the premise that properties depreciate over time, even if they’re technically appreciating in value. Depreciation is intended to cover the property’s exhaustion or “wear and tear” over time. Residential properties are depreciated over a 27.5-year period (the property’s “useful life”) whereas commercial properties are depreciated over a 39-year period—or sooner, depending on whether the owner utilizes a cost segregation study.

Reason 4 – Appreciation.

In addition to investing in a multifamily home for its cash flow potential, many investors buy multifamily properties given their appreciation potential. While properties may not experience major upticks in value, those who hold for long periods of time will generally eventually benefit from some degree of appreciation given routine inflation. That said, those who add value to multifamily properties through upgrading systems and generally improving the properties can reap outsized returns selling to investors who are looking for yield.

Appreciation can also help you grow your investment portfolio. Consider the investor who owner-occupied a two-family property that she purchased for $400,000 five years ago. Because she owner-occupied the property, she was able to get a mortgage that required her to only put 3% down, or $12,000. This property is located in an area that has substantially increased in value, and now the property is worth $850,000. Over the past five years, she has paid down her loan and now only owes $300,000 on the mortgage. She now has $550,000 in equity in the property, a dramatic increase from the initial $12,000 she put down as a down payment. Now she’s able to tap that equity, or leverage that equity, to invest in other properties. Some would like to say she’s playing with the house’s money at this point. Savvy investors will repeat this cycle to grow their real estate portfolios over time.

Reason 5 – Passive Income.

A final reason people like to invest in multifamily rental properties is that it allows investors to generate passive income. In other words, once the property is rented and generating cash flow, an investor can sit back and collect the rent payments without having to lift a finger (this is particularly true when hiring a property manager to oversee the day-to-day operations and maintenance of a property).

No matter how wealthy an individual, the same holds true: we all only have 24 hours in each day. One can only work so hard during a 9-to-5 job in order to become wealthy. Finding opportunities to generate passive income is a great way to build wealth, which is why multifamily investing has become so attractive to investors of all