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CRE Insights Blog

Last updated on Mar 31, 2023

10 min read

by Jeff Hamann

7 Reasons Multifamily Should Be in Your CRE Portfolio

Multifamily properties are sometimes overlooked by commercial property investors — but that could be a huge mistake. Learn why apartment buildings can be such powerful investments.

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Multifamily properties are often overlooked in the world of commercial real estate (CRE) investing. That may be a major mistake.

There are plenty of reasons why multifamily should be a part of your CRE portfolio. But the main reason? By ignoring multifamily properties, you may be closing your eyes to some of the best, most lucrative investment opportunities available to you.

In this article, we'll explore seven key reasons why multifamily properties are attractive investment options. We’ll wrap up by providing insights into financing and market considerations, closing with a hypothetical case study.

7 Reasons Why Multifamily Could Be a Strong Part of Your Portfolio

1. Stable Cash Flow

One of the primary benefits of investing in multifamily properties is the stable cash flow they generate through rental income. Unlike other types of CRE investments, multifamily properties typically have multiple sources of income from various tenants, which helps reduce the impact of vacancies on your overall cash flow. As a result, multifamily properties can provide a consistent source of income for investors, making them a solid addition to any CRE portfolio.

2. Lower Vacancy Rates

Multifamily properties generally have lower vacancy rates compared to other types of CRE, such as office or retail spaces. This is because people always need a place to live, and the demand for rental housing often remains strong even during economic downturns. Lower vacancy rates mean more consistent rental income, which translates to a more stable investment for your portfolio. This may not be as true for luxury properties compared to, say, workforce housing, but even high-end communities tend to have less vacant space compared to most other commercial properties.

3. Easier Property Management

Managing a multifamily property can be more efficient than managing several single-family homes or a group of smaller commercial properties. This is because all your units are in one location, making it easier for property managers to handle maintenance, tenant issues, and other tasks. By streamlining property management tasks, you can save time and resources, which can ultimately lead to higher returns on your investment.

4. Economies of Scale

Investing in a multifamily property can result in economies of scale, allowing you to reduce expenses and increase profit margins. By having multiple units under one roof, many costs, such as maintenance and property management fees, can be spread across multiple units. This cost-sharing can lead to lower overall expenses and higher profitability for investors compared to managing multiple single-family homes or other types of CRE.

5. Resilience During Economic Downturns

Multifamily properties are known for their resilience during economic downturns, as they tend to maintain relatively stable occupancy rates even when other CRE sectors experience significant declines. People still need a place to live, regardless of the economic climate, which makes multifamily properties a safer bet during times of market volatility. This resilience can offer investors a degree of protection and help maintain the overall stability of their CRE portfolio.

6. Diversification

Adding multifamily properties to your CRE portfolio can help you diversify your investments and reduce risk. By investing in a variety of property types, including multifamily, you can create a more balanced and stable portfolio that is far less susceptible to market fluctuations. Diversification is a crucial aspect of any successful investment strategy, and incorporating multifamily properties into your portfolio can contribute to its long-term success.

7. Strong Historical Performance

Multifamily properties have consistently delivered strong returns on investment, with lower volatility than other commercial real estate asset classes, such as office, retail, and industrial properties. This strong historical performance demonstrates the potential for multifamily properties to enhance your CRE portfolio's overall performance and stability.

How to Finance a Multifamily Property

Understanding your financing options is essential when considering investing in multifamily properties. Some common financing options include conventional loans, government-backed loans, commercial mortgage-backed securities (CMBS), bridge loans, and private money or hard money loans.

Each financing option comes with its own set of requirements, terms, and benefits, so it's important to carefully evaluate which one best aligns with your investment strategy and financial situation.

Conventional Loans

Conventional loans are provided by banks and other traditional lending institutions. They typically require a down payment, good credit, and strong financials to qualify. Loan terms and interest rates can vary widely, so it's essential to shop around for the best deal. These loans offer flexibility in terms and conditions, but it's important to keep in mind that the qualification process can be more stringent compared to other financing options.

Freddie Mac Multifamily Loans

Freddie Mac, a government-sponsored enterprise, offers a variety of multifamily loan products designed to meet the needs of different types of investors. One popular option is the Freddie Mac Small Balance Loan program, which caters to investors seeking financing for smaller multifamily properties. These loans offer competitive interest rates, flexible terms, and are generally more accessible for properties with a lower loan amount.

There's also Freddie Mac's conventional financing program, which provides financing for larger multifamily properties. This program is designed for investors seeking long-term, fixed-rate financing for stable, income-producing properties. With competitive interest rates and various term options, Freddie Mac multifamily loans can be an attractive choice for even relatively inexperienced investors looking to finance a multifamily project.

Fannie Mae Multifamily Loans

Fannie Mae, another government-sponsored enterprise, also offers a wide range of multifamily loan products tailored to various investor needs. The Fannie Mae Small Loan program is specifically designed for smaller multifamily properties, offering competitive interest rates, flexible terms, and streamlined underwriting processes.

For larger multifamily properties, investors can consider the Fannie Mae DUS (Delegated Underwriting and Servicing) program. This program allows experienced lenders to underwrite and service Fannie Mae loans, providing borrowers with more efficient access to financing. The Fannie Mae DUS program offers long-term, fixed-rate financing options, making it an attractive choice for investors looking to lock in favorable loan terms.

HUD or FHA Multifamily Loans

The Federal Housing Administration (FHA) offers loans specifically for multifamily properties — and not only for affordable properties, as some might believe. These loans often have more favorable terms, such as higher leverage, lower interest rates, and fully amortizing, lengthy terms. However, they may also have additional restrictions and requirements compared to conventional loans.

Government-backed loans can be an excellent option for investors who meet the qualification criteria and are looking for more accessible financing options. Some examples include the HUD 221(d)(4) loan for multifamily construction and the HUD 223(f) loan for acquiring or refinancing apartment buildings.

CMBS Loans

CMBS loans are a type of commercial real estate financing that is backed by a pool of mortgages on commercial properties. These loans can offer competitive interest rates and flexible terms for qualified borrowers.

They provide investors with access to larger loan amounts and longer loan terms than some traditional financing options, even if you have relatively poor credit — as the loan is based on the strength of the property, not the borrower. However, CMBS loans can be more complex to navigate, and it's essential to work with an experienced lender or broker to ensure a smooth transaction.

Bridge Loans

Bridge loans are short-term financing options designed to help investors secure a property quickly, often while they are working on obtaining long-term financing. These loans typically have higher interest rates and shorter terms than traditional financing options.

Bridge loans can be an excellent solution for investors who need to close a deal quickly or require interim financing while waiting for long-term financing to be approved. Keep in mind that these loans are not meant to be a long-term solution and should be refinanced or paid off as soon as possible.

Hard Money Loans

Hard money lenders can provide financing for multifamily and other properties, often with less stringent qualification requirements than traditional lenders. These loans can be more expensive, with higher interest rates and fees, but they can be a good option for investors who need quick financing or have difficulty qualifying for other types of loans.

Hard money and private money loans are typically best suited for investors who are experienced and have a solid exit strategy in place, as the higher costs can quickly erode your profits if not managed carefully.

Choosing the Right Market

The best markets for multifamily investing will depend on factors such as job growth, population growth, and rental demand. Markets with strong economic fundamentals, low vacancy rates, and high rent growth may be more attractive for multifamily investors.

It's essential to conduct thorough research and due diligence on potential markets before making any investment decisions. Factors to consider include employment trends, local demographics, and the overall health of the real estate market (and each of its sectors) in the area.

Identifying the Best Multifamily Properties for Investment

The ideal multifamily investment for you depends on your individual goals, risk tolerance, and investment strategy.

Some investors may prefer to focus on newer, Class A properties in prime locations, while others may find better opportunities in older, Class B and C properties that offer potential for value-add improvements. Carefully evaluate each property's location, condition, and potential for growth in the context of its market to determine the best fit for your portfolio.

Multifamily's Benefits: A (Hypothetical) Case Study

Meet Jane.

A seasoned commercial real estate investor, Jane had built a successful real estate portfolio primarily consisting of office and industrial properties. With a keen eye for promising investments, Jane had always prioritized diversification to minimize risk and maximize returns.

However, she had not yet ventured into the multifamily sector. Recognizing the potential benefits of multifamily properties, Jane decided to explore this new avenue to further diversify her portfolio.

The Multifamily Acquisition

In 2022, Jane identified a value-add multifamily property in a smaller, growing market with strong economic fundamentals. The property, a Class B apartment complex with 150 units, was priced at $15 million. She saw potential for increasing the property's value through renovations and improved property management. After conducting thorough due diligence, Jane secured financing through a Fannie Mae DUS loan with a 4.5% interest rate and a 30-year amortization period.

With an initial investment of $3.75 million as a down payment (25% of the purchase price), Jane set aside an additional $1.5 million for renovations and operational improvements. Over the next two years, Jane successfully executed her value-add strategy, which led to increased rents, higher occupancy rates, and overall improvement in the property's performance.

The Impact of Diversification

In 2024, the commercial real estate market faced a downturn due to an economic recession. Jane's office properties took a major hit in terms of occupancy and income, while her industrial properties took minor losses. This negatively impacted her overall portfolio performance. However, her multifamily investment proved to be resilient during these challenging times.

As people still needed a place to live, the demand for rental housing remained relatively stable. Despite the economic downturn, Jane's multifamily property maintained a 95% occupancy rate, with rental income increasing from $1.8 million to $2.2 million per year after renovations. This stable cash flow from the multifamily property helped Jane offset the losses experienced in her office and industrial investments.

The Outcome

By adding a multifamily property to her portfolio, Jane successfully diversified her investments, reducing her overall risk exposure and maintaining a stable income stream during the economic downturn.

This hypothetical case study highlights the benefits of multifamily properties as a valuable asset class in commercial real estate investing and demonstrates the importance of diversification to ensure a well-balanced and resilient portfolio.

Conclusion

Multifamily properties offer numerous benefits for CRE investors, including stable cash flows, lower vacancy rates, easier property management, economies of scale, resilience during economic downturns, diversification, and strong historical performance.

By understanding the advantages of multifamily investing and considering various financing options and market factors, you can determine whether multifamily properties are the right fit for your CRE portfolio. Remember to carefully research potential markets and properties, and consider diversifying your investments across different property types to minimize risk and maximize returns.