Property is in A- location in Los Angeles owned by my wife's family since mid 1980's. Grandparents originally purchased, when they passed away, was inherited by her parents.
Without going into detail, it's not being run efficiently. 7 units, based on market comps, should be renting for about $2,600/month. Currently 6 units are rented at average of $1,700/month, with the 7th unit being occupied by a family member rent-free.
Outside of property taxes (low given how long they have owned the property) and insurance, they have had a handyman for the past 15 years who basically does everything, R&M - unit turns - landscaping - etc. I'm guessing they pay him cash each month, can't imagine more than $800 or so.
Due to some questionable decisions, namely getting 10% hard money loans a few years ago due to poor credit and not knowing what they were doing, they are now in a position where they are basically breaking even or burning cash each month to keep the property.
My experience in apartment acquisitions has been $20M and up, I have financed a bunch of deals almost exclusively with GSE debt. On a small deal like this, I am assuming bank debt would be a popular option.
That being said, I'm also assuming a lender would re-underwrite the expenses based on "normal" operations, in order to size the loan. Would the property taxes, for lender's underwriting purposes, be reassessed based on market value?
Also, since the delta between actual monthly income ($10,000) vs market rents ($18,000) is significant, would it be better to pursue a bridge facility as an interim? Or would a balance sheet bank lender be willing to lend against the market rent based on future unit turns?
Not sure how these smaller assets typically are or can be financed. Any help would be appreciated.
Thanks
This sounds kind of sticky. Not sure how a lender will feel about a family member living there for free and rents being way below market.
This does sound like the perfect value add play though.
The idea is that the family member would move out, unit renovated and rented for market rent, then approach lender with refinance request.
For all that writing, you sure didn't give a lot of information that would enable anyone to give you solid advice.
What is the current NOI, Valuation, and Cap Rate? Is there a mortgage on the property they are looking to refinance, and if yes what is the balance and rate, and maturity?
-Plenty of lenders will lend on below market rents, I don't understand why they would balk at this? This could affect proceeds however. I don't think a bridge play is a good idea especially if the owners are already paying hard money rates because of bad credit. You're bridge rate will be what the hard money rate should be 9-12% with 1pt in and 1pt out.
Not knowing anything further if the loan is above 1mm then Chase CTL group will do it with no credit or taxes I believe. I think there are also some small national banks they will lend at like 5-7% for a conventional 10-year balloon mortgage, the rate reflecting the bad credit.
My point was that based on how the family is operating the building, the NOI will likely be recalculated by a lender. I can say that based on comps, $300 PSF is justifiable. Which would make the value of the property roughly $2,400,000. At market rents, the GRM would be roughly 11.5. And assuming 35% expense ratio ($10k per unit) the cap rate would be 5.6%.
The actual expenses being incurred are closer to $3,500 per unit due to no third party prop management, low prop tax due to purchase 30 years ago, and no payroll expense since 7 units does not mandate an onsite manager.
My question is, would a lender sizing a loan take the expenses, toss them out, and reunderwrite based on reassessed taxes, prop Mgmt fee, payroll, etc even though they aren't being incurred?
all lenders toss out expenses, for a loan of this size regional banks should be pretty comfortable with exp ratios. However they almost always use internal $psf ratios to size a loan. They would use 3% management fee, payroll expense would just be the llcs legal cost or aprox 2,500 a year and unless there is real capex being done and on the books via DOB(Department of Buildings) then I doubt they will be hit with a reassementment(sp). Though most banks should be factoring in a likely resaasssement otherwise.
Personal note, I don't see 35% exp ratio as being high for a 7 unit property. I also see some lender balking at the 2 year rent rolls that they usually require, that's one hell of a lease up. So your biggest hurdle is to sell a bank why all of a sudden is your property going to generate a much higher rent roll, even though..."comps". Banks refinance off of previous rent rolls, properties sell off of future cash flow.
Find a community bank, they will most likely offer you 5-10yrs with 5-8% depending on LTV and the asset itself. Becomes trickier if the asset is in an LLC. Try looking on biggerpockets and searching for commercial lending in your area and you may find some additional information or lenders that others have had success with.
90% of sub 20mm properties are owned as LLCs I don't see it as being a problem for a community bank
Well, most people state it's tricky because a lot of people [want to] buy property in their own name and want to transfer through a warranty deed or land trust method and violate their due on sale. Lenders will lend on LLCs, but it'll be a commercial loan for sure.
Yes, nearly all are in an entity of some type. Mostly LLC's.
There is 4% money out there for this deal. It's not that hairy for those that play in this space, which I do. I'll shoot you a PM.
Almost though about @'ing you. I know you play in this space and region.
Haha, thanks. Basically what I would call a Chase/Wells turndown is in the 3.7% to 4.2% on a 5yr fixed. The lenders that do these deals like loans under $2mil. Some will and have gone higher on loan amount, but small regional banks get quirky as you approach $4 to $5mil. But a SoCal apartment deal with A-/B credit around the $1mil mark is def regional bank material.
I have a $6.3mil loan and enviro is done, appraisals are done...cause it was over $5mil, this bank (that only has 1 branch) had another bank cooperate on the last $1.3mil.
I would sell and buy into a bigger building.
Biggest issue doing this would be that you'd have to sell the value-add dream to any potential buyer. Your taxes are going to get reassessed upon sale, so you'd have to be able to float the higher carry costs while you sink in capital to roll the rents to market.
Yeah but if you are in an A location in LA without rent control, the value add dream is pretty strong. I'd assume it would sell in the 3 cap area. But it seems like part of the problem here is the amount/type of debt on the property.
Gotta love old ass apartments "purchased my grandparents" going for $1,700/month that "should be" around $2,600/month. And 3 caps? California is a different planet.
Look at community or smallers banks that will give you an earnout option if you intend on implementing a value-add program after the refinance.
Let's say intial proceeds are 40% LTV, just enough to pay off whatever hard money debt you have. As net cashflows improve you would reinvest it into capital expenditures. Renovating units, common areas, etc. I'm assuming if you're in LA then this property may be rent controlled. See if any of your tenants would be interested in a buyout, legally, of course ;).
Re-approach your current lender 2-3 years out when your IO is about to burn up and either take out additional proceeds and reduce your skin in the deal, or refinance completely for a fresh set of IO and watch your NOI skyrocket along with a nice return of equity.
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