An overlooked investment strategy is seeking out lease option purchase agreements for multifamily properties. This can be a very good way to grow your investment portfolio for a small cash investment.
These are small three to four unit properties that are still considered residential properties by banks and the IRS, rather than larger apartment buildings that are considered commercial properties. Three to four unit properties can be a good place to look for owners willing to sign a lease option purchase agreement. These properties often burnout the landlords. They are too small to justify having an on site manager but having multiple tenants can lead to multiple problems.
Tenants blame other tenants for all kinds of things. Cars parked in the wrong place. Loud noises. Dog droppings in the shared yard. You name it and tenants complain about it. Landlords get tired of this and become more open to a lease option to hand off the responsibility.
This is a strategy for beginning investors rather than successful experienced investors because of the intense management that is often required. However, being able to take control of a multifamily property for the cost of a lease option fee can be a great way to quickly expand the holdings of a young investor to create serious positive cash flow for a minimum investment.
It's part of a long term plan where you'll eventually want to move up to larger apartment buildings that do have an on-site manager that keeps this level of detail away from the real estate investor. Or your long term strategy could be single-family houses that don't have multiple tenants and that keep complaints to a minimum. However, the multifamily properties are more likely to put more money in your bank account.
As most investors know, the separation between residential and commercial properties is between four and five units. Anything up to four units is considered a residential property. Anything with five units or more is considered a commercial property.
You can certainly lease option commercial properties. The biggest difference between residential and commercial is financing the property when you decide to buy. Commercial financing is very different from residential financing. You will most likely need a much larger down payment. Also, it's common for banks to require you to have up to six months of reserve funds. This means having enough financial liquidity to cover six months of both loan payments and operating costs.
Getting back to investing in small multifamily properties. Investing in these gems with a lease option is a great way of adding long term cash flow to your portfolio. If a current owner wants out, a lease option can be appealing to them because they know loans are tough for investors to get right now. However, everyone expects financing to loosen in the future. Proving your ability to manage the property during the option period increases the likeliness that you will be approved for a future loan. Also, sellers don't need the cash right now to buy something else the way homeowners do when they sell their primary home. A lease option can be a lifesaver for a burned-out landlord.
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Author bio: Brian Kline has been investing in real estate for more than 35 years and writing about real estate investing for seven years. He also draws upon 30 plus years of business experience including 12 years as a manager at Boeing Aircraft Company. Brian currently lives at Lake Cushman, Washington. A vacation destination, a few short miles from a national forest. In the Olympic Mountains with the Pacific Ocean a couple of miles in the opposite direction.