Why Cali Engineer Got 24 Unit in Kentucky

Discover why a California IT engineer bought a 24 unit multifamily apartment property in Kentucky (rather than in his own backyard) as well as how Ken is going to increase the value by $1 Million in 12-24 months!

Why Ken Invested Long Distance

Like many busy professionals, Ken’s goal is to generate passive income and build wealth through Multifamily Investing so that he can exit the rat race. Currently, this is extremely difficult to do in California’s real estate market because property prices remain very high despite increasing interest rates and dropping cap rates. In fact, by investing long distance, Ken was to able to purchase a 24 Unit apartment complex for the same amount of money as a 4 Unit in California! Multifamily real estate is extremely market dependent and while it is difficult to be profitable with apartments in many parts of California, the grass can be much greener (or should we say “bluer”) in place like Kentucky.

24 Unit in Kentucky

Ken’s property is a 24 unit apartment complex in a class C neighborhood. Originally the seller wanted $1.3 million, but because Ken found this deal off-market and negotiated directly with the seller, he was able to structure better terms and got the price down to $1.2 million. The seller was highly motivated because he had located a potential 1031 exchange property to transition into. By doing a 1031 Exchange, the seller can roll the profits from the sale into a more expensive property and defer the capital gains taxes. Because the timeframe for this transaction is short, the seller was very motivated to get this deal done.

But there was a big problem that almost killed the deal. The property was rental income restricted, meaning the previous owner signed onto a government rent subsidy program to keep the rents low. If Ken purchased the deal as-is, he wouldn’t have been able to raise the rents and get the potential million dollar value increase. The seller was not interested in the day-to-day operations of the property and was unaware or uninterested in removing the rent restriction to get the rents up to market level. And this is where Ken’s problem solving skills became helpful. He did his legal due diligence and found out that the agency process for removing the rent restrictions. But he didn’t stop there. He also evaluated the market and consulted with local agencies to confirm that the market could handle the rent hikes.

1. Financing

Because the seller wanted to do a 1031 exchange, he was not interested in seller financing, which meant Ken had to go with a traditional multifamily bank loan. Since banks are favoring multifamily over residential, and Ken presented them with an amazing value-add deal, he was able to get favorable lending terms: 20% down (provided by Ken), 6.75% interest rate/25-year amortization/7 year arm.

2. Value Add Potential

There are several factors that kept this property underperforming, so Ken’s multifamily deal has great upside potential. Currently the monthly rental income is $13,000 because the current property management team failed to fill all the units or market to the right tenant. Ken’s first move is to replace the property manager, do some updates and maintenance, begin marketing the property, and raise the rents. When performing well, the property has the potential to produce $24,000 in rental income, which is a huge jump.

The property is under Section 8 and has to follow certain guidelines that keep the rents low. Once the property is free of it’s section 8 status, the rents can be raised. With these restraints removed, the two bedrooms can go from $724 to $953 and the 3 bedrooms which are currently renting at $753 will rent for $1,100/month.

3. Value Add Plan

Ken is in the process of removing the 89% maximum rent restriction and getting the vacant rental units ready to rent at market value. The first stage of his value-add plan is to update each unit, plus deal with other maintenance issues around the property. Ken has set aside $70,000 for the initial renovations and repairs that bring the property up to standards. In total, Ken has budgeted $200,000 for renovations so that overtime he can increase the cash flow and NOI even more. And because the NOI is a value driver in commercial real estate, his asset will increase in value tremendously.

4. $1MM Value Increase

Currently the property value is $1.3 MM (at a 7% cap rate). With the new upgrades and the cash flow increased to $24,000/month, the new property value is $2.3 million. That’s 1 million in upside!

What Ken Learned from His First Multifamily Apartment Deal

“I thought about doing commercial real estate back 10 years ago, but I just didn’t have the know how. I do try to read books and try to implement what’s in the books, but there is some missing ingredients in the books to make it work.

My first advice is try to partner with an advisor like Peter Harris and your company. He has done these types of deals, hundreds if not thousands of times before. And now, working with this deal, I understand why sometimes it doesn’t work because each deal has subtle differences. These subtle differences will make and break the deal. But you cannot have all these scenarios written down somewhere in a book for you because it has to do with experience – what you say, when to say it, how you structure the deal. The nuance is so much and that’s why I will continue working with the program because there’s still so much to learn.”

My second advice is you take the first step, the first step is hardest. You’ve got to take the first steps and put in the hours with the understanding that there’s no free lunch. You need to go in there and learn and grind it out to make it through and be patient.”

Technical Takeaways from Ken’s Deal

Know the Real Numbers: You need to know the numbers on the deal, meaning the actual numbers (the current income and expenses) vs. the proforma numbers (the future potential financials). Now, calculating those numbers is harder than you think. How can you project future numbers? What improvements or adjustments need to be made to achieve those numbers? Accurately calculating the numbers is an absolute must when evaluating a value-add deal because you are predicting how profitable the property can be. With twenty years of experience behind us, we helped Ken calculate these numbers precisely so he could make wise decisions.

Stress Test Your Value-Add Plan: Stress testing your value-add plan is part of your financial due diligence. Ken structured a value-add plan and then brought it to us to stress tests that plan. He put together a plan on how to reach a million dollars in future value, and my job as a coach is to poke holes in it and then to build it back up. You need to engineer a value-add plan that’s stress tested.

Get Hands-On with the Market: Ken visited the area and hired a local property manager and local contractors. He also did a thorough evaluation of the market before he made any decisions.

Practical Takeaways from Ken

Videos and Books Are Not Enough Training: Vidoes and books can only take you so far. Ken was smart enough to know what he didn’t know and came to us for mentorship.

Take the First Step, Work Hard and Be Patient: “Patience and time do more than strength and passion”. It took Ken five months to construct a deal with $1 million in upside. It doesn’t happen overnight. So take the step, get your training, and then get out there and find a deal. Then come back to your coach to help you structure a deal.

Overcome Analysis Paralysis: Ken overcame analysis paralysis. Engineers suffer from analysis paralysis because we want all the answers before we jump in and then we end up doing nothing. Ken overcame analysis paralysis by realizing he needed a coach, taking the first step and being patient. You too can accomplish what Ken did by having the right mindset. I have a video called Do You Have the Right Mindset to Own Commercial Real Estate? In this video, you’ll discover what the right and wrong mindsets look like as well as practical strategies on how to replace the wrong with the right so you can overcome analysis paralysis and be successful in commercial real estate.

Why do engineers make good commercial real estate investors?

Another lesson you can takeaway from Ken’s example is that engineers make good commercial real estate investors. Why?

1. Engineers are problem solvers and Ken’s multifamily deal had a significant problem to solve. As a former engineer myself, I can really relate to how Ken went about the process of vetting his deal, doing his due diligence, arranging financing, and setting up the operations. He was able to come up with a solution to the obstacles in this deal and create a million dollars in upside.
2. Engineers are numbers people. They work with numbers and formulas everyday and this skill is a great asset to have when evaluating a potential multifamily property.

Every Successful Multifamily Real Estate Investor Has a Mentor

Ken plans to continue expanding his portfolio. With so much to learn in commercial real estate, he is confident that he can continue to learn and grow his business through our mentorship. Learn more about our Protege Program here: https://www.commercialpropertyadvisors.com/protege-program/.