Is This A Good Time To Buy Commercial RE
I have been rehabbing properties for a while and I would like to get into owning multifamily properties for a change. But what concerns me is the timing and future trend. In other words, if rental rates don't keep up with mortgage rates and in 4 years, I try to sell the property, the property won't look attractive.
Say, I buy a 10 unit building(assuming 100% financing) for 700K at 6% interest with NOI of 75K and in 4 years down the road, the prevailing interest rate is 9% and NOI only increased 10% to 82.5K, the property wouldn't look attractive to a prospective buyer. In other words, if rental prices don't keep up with mortgage rates, I am screwed if I want to sell the property after 4 years.
What are your thoughts on this issue?
Thanks
First of all, where do you plan on getting 100% financing for a commercial property? 25% down is generally required (although there are ways around this).
However, using your numbers, after 4 years and with average apreciation (3.5%), and 25 year amoratization, here's what it will look like:
Balance of loan: $647,902
Value: $803,266 (and if you can increase the rents it will be more than that)
Tax D3ductions over 4 years: Aprox: $200,000 for depreciation and interest payments
Cash Flow: (this is just a guess) $35,000
Asuming your're in a 30% tax bracket your total gains over 4 years are about $261K
If that's what you mean by "Screwed" then I suppose that you would be.
If you want to play the "What if" game, you can do a lot worse than what you've come up with:
What if there's an earthquake and your insurance doesn't cover it (few do) and you owe $700K
What if a tenant gets raped and they sue you and win and keep the property and you keep the mortgage (It's happened before)
What if market rents drop by 25% and you're paying out $2000 per month and doing everything yourself.
If a deal makes sense, and you want to take the risk, then do it. If you don't want the risk, then stick with your day job. As for your specific concern, I don't think that it makes any sense at all. If interest rates go up, you have a great bargaining chip. You can "pack your loan" and sell your property on contract and give them an 8.5% rate (lower than their bank) and you keep the spread. Good for you, good for them. Commercial properties are valued based on comparable cap rates. What you're REALLY asking, is what if cap rates go up because mortgages go up? Well...worst case is you hold onto it for a few more years, sell it on contract with favorable terms, or take some money (but less than you hoped) from the deal.
My thoughts....this fear is irrational. Start finding deals and move on it if the numbers make sense.
Well tzachari part of your answer is that cap rates don't move as much as interest rates do. If you buy your $75,000 NOI building for $700,000 you are buying at just over a 10% cap rate. That cap rate for apartment buildings has remained remarkably stable (i.e. it has shifted some but not as much as interest rates) for at least the 25 years I've been in the Real estate biz.
So when you sell your building with the $82,500 NOI you can expect that the cap rate will be about the same.
Thanks a lot both of you for your valuable feedback. I appreciate it.