patientrenter – the first property I ever bought was a 4plex – got to a point where I could afford real estate (1998) but buying a single family house didn’t make sense for me at the time (single guy, done with room-mates) – the more I looked into small apartment buildings the more it made sense
first thing to understand: 2 to 4 units is considered residential and qualifies for residential financing – once you get a 5th unit you are talking commercial property and have to get commercial financing (much more expensive)
here are some of the bennies:
– owner-occupied interest rates – 1/2 point to 3/4 point savings maybe
– 75% of the rental income from the non-owner-occupied units is added to the purchaser’s income when qualifying for the loan
– tax deductions on both Schedule A (most bang for the real estate buck) and on Schedule E (this is where depreciation games, etc are played)
here are some drawbacks:
– your tenants will eventually realize that you own the property (this is not a good thing – trust me)
– you will be living in an apartment building (pick a nice one and think about your privacy needs)
– being a landlord sucks – people will lie directly to your face and expect you to believe whatever garbage they are spewing (on the other hand, being a landlord provides an excellent education on human nature)
– exit strategy from property can become more complicated (or beneficial) because you owner-occ some of it but not all of it
let’s play with some numbers just for fun: we want to buy a 4plex to get the most bang for the buck – remember that the income from the non-owner-occ’d units is going to help us qualify for the purchase loan
let’s say we want to buy 4 units just North of Adams in Normal Hts – we find something with a mix of units: (1) studio, (1) 1/1 (bdrm/bath), (2) 2/2s – rents are: $850, $1075, $1775 and $1775 for annual rent of $65,700 – let’s say we are willing to pay current rent multipliers and use 20 – $65,700 * 20 = $1.314M we’re going to pay for this puppy – we could probably get 95% financing but let’s put 10% down and get a loan for $1.183M
on our loan application we will have projected rental income added into our income – in this case we have $850, 1075 and 1775/mo or $3700/mo – that’s how we qualify for $1.183M
at tax time we will determine the SQFT of the property that we owner-occ and deduct that percentage of the mortgage interest paid from Schedule A – the rest of the mortgage interest paid, operating expenses and depreciation (only the % of these expenses for the non-owner-occ’d portion of property) go onto Schedule E and are offset by rental income
I’m bored with the example – if you want to you can see what kind of payment is req’d on $1.183M – I’m sure you will find that this property would have horribly negative cashflow even if you ignore ‘minor’ expenses like: taxes, insurance, maintenance, vacancies
~
Something to watch out for – if you are making enough W-2 income to push you into AMT territory the benefits from Schedule E become limited – in my experience people should be VERY conservative about buying real estate based on expected tax savings
