Jansen Multifamily Team Blog – Insight and commentary on the Seattle/Puget Sound apartment market

2010 is a year ripe with opportunity for Puget Sound multifamily investors. You’ve heard the Jansen Multifamily Team recite this mantra ad nauseum. But how, with the credit markets still reeling, does an investor take advantage of upcoming investment opportunities? Answer: Seller financing. Seller financing eliminates the “banking variable” from a transaction, provides the purchaser with acceptable leverage, and enables the seller to maintain a strong income stream while both simplifying their life and increasing their liquidity.

Lending options for multifamily investments are still in the market, such as the GSE’s and some local Savings and Loans, but their underwriting standards seem to be constricting daily. Thus, any transaction contingent on “bank financing” has a lower likelihood of success than those offering seller financing, thereby eliminating the “banking” variable. Further, seller-financed transactions enable the buyer and seller to include in the Purchase and Sale Agreement the repayment terms and all loan documents. As a result, once mutual acceptance is reached, the only remaining contingencies prior to a successful closing relate to feasibility and title review.

For Buyers

Leverage is the component of the aforementioned banking variable that most often “kills deals.”  Quite simply, leverage drives returns, meaning a leveraged internal rate of return (IRR) will always outpace an unleveraged IRR. In a declining rental market, with traditional financing, most multifamily investment opportunities are going to be constrained by debt coverage ratio (DCR), which correlates to a lower loan-to-value (LTV) and more money down. Lower leverage translates to a decreasing net operating income (NOI), provoking lenders to view a property’s actual trailing 12-month income stream as “risky,” thereby correlating to higher capitalization (CAP) rates. For the rare transaction that is actually LTV-constrained, investors are finding that they are forced to come up with 30%+ as total cash to close. Seller financing eliminates these fear-based loan sizing constraints. Most often, seller-financed LTV’s are negotiated based on the strength of the buyer’s balance sheet and the property’s pro forma potential (Yes, you can consider pro forma in a seller-financed transaction).

For Sellers

Acting as the bank enables sellers to move out of the active management of their asset and virtually maintain their monthly cash flow from the property. For example, “Seller A” owns a 20-unit apartment building with no underlying debt that he self-manages to an annual NOI of $129,600. After small-ticket capital expenditures, Seller A realizes an annual cash flow of $120,000. Seller A eventually becomes tired of actively managing his asset and decides to sell his 20-unit building to Buyer B for $2,070,000, roughly a 6.25% CAP rate. Seller A and Buyer B agree to the following loan terms: 85% LTV, 6.0% interest only payments, 5-year term. Seller A gets $310,500 in cash as down payment from Buyer B and will collect monthly mortgage payments that amount to an annual income of $105,570, thereby simplifying his life, maintaining a strong cash flow, and increasing his liquidity.

Creativity, such as seller financing, is the key to success in 2010. A market wrought with change is a market ripe with opportunity, as long as one knows where to find said opportunity. Puget Sound apartment investors that are willing to “step out of the box” in 2010 will be able to take advantage of investment opportunities that their “nay-saying” peers will miss.

Warren Buffet has been quoted as saying:

Be fearful when others are greedy. Be greedy when others are fearful.

For Puget Sound apartment investors, now is the time to be greedy.