Benefits to Investing in Small Multifamily Properties: The long term hold

While the multifamily syndication industry typically pushes large 100+ unit apartment complexes, there are many benefits to investing in properties below 100 units. One of them being: more flexibility around when to sell the property.

The larger the deal, typically the more investors involved. The more investors involved, the more the operator needs to stick to the original project timeline as it is harder to get consensus to hold longer. But with smaller deals and fewer investors, it is easier to say, “Hey, this property is performing really well, should we just keep holding it?”

But doesn’t a longer-term hold ruin your Internal Rate of Return (IRR)?

For those who don’t know what the IRR metric is, it is essentially the Average Annual Return of the project, but it takes into account the time-value of money.  So, the sooner investor capital is returned, the better the IRR will be.  IRR is a leading metric real estate investor’s look at when determining whether a property is a good investment.  But the IRR metric does not tell the whole story.

If IRR is the only metric considered, why not just invest in fix-and-flips?  Fix-and-flips return capital faster, and can generate a strong return when executed properly.  However, they typically require significant renovations to be done in short period of time creating more execution risk.  They also don’t provide the same tax benefits longer term holds do.

In multifamily syndications, the 5-year hold is generally the sweet spot to maximize IRR, participate in the highly-touted tax benefits real estate can provide, and get some cash flow along the way.  But after 5-years, if the property is performing well, in a good market, and still has value to be added, why sell?

Every time a property is bought and sold, taxes need to be paid (yes, I know the tax experts will say there are strategies for this, but still not always easy to execute), transactional fees need to be paid (attorney, lender, municipality, etc.), and there is always new inherent risk in the next investment the capital is rolled into.  Not to mention, the time in-between investments.  When considering IRR, are you accounting for the time the cash is sitting in your bank account while looking for the next investment opportunity?  After 5-years of holding a well-preforming asset, a majority of the risk has been mitigated as strong management should be in place, debt should be low, cash flow should be steady, and equity will continue to grow monthly as debt is paid down.

If creating wealth is a goal, long-term real estate holdings is one of the best ways to do this.  Longer term holds can generate tremendous equity creation over time.  Holding strong performing assets in good locations can create more equity over time than continuously churning through assets.  And it is much easier too.  The problem?  As Warren Buffett puts it, “No one wants to get rich slow”.

Not every property is meant to be a long-term hold.  There are many reasons to sell a property.  But FLEXIBILITY is the key word here.  Participating in smaller deals with fewer investors provides more flexibility to hold over-performing assets beyond the initial hold period outlined in the investment strategy.  For these reasons, smaller multifamily properties with fewer investors should certainly be considered in your investment portfolio.