If you’re an investor who enjoys investing in fixer-upper property, then you know the joy of renovating, releasing, and selling a property at a profit.
In fact, if you can find a fixer-upper property whose numbers make sense, CRE rehabs are actually an easy way to see an instant value increase. But only if the costs to rehab the property make sense.
Here are some tips for some things to watch out for if you’re an investor considering investing in fixer-upper property.
Cost Of Renovation vs. Length Of Rent Increase: Do They Really Add Up?
A common misconception about renovation is the assumption that profits accrued by renovation will last forever. In fact, a fixer-upper property will only be considered “new” for a set period of time.
If you think about it, it makes sense. After all, even if you replace every item in the kitchen, after a certain number of years, that kitchen will look outdated, even if it’s never been used.
The investor needs to make sure that the ratio of rent gain to investment cost be high enough to ensure that the initial investment is made back quickly.
Other factors to consider include:
- the increase of vacancy time while waiting for the renovation to be completed
- the disruption to other residents while the renovation occurs.
For example, will you have to reduce the rent on other units in order to compensate for the inconvenience? And lastly, you’ll also need to determine whether the cost of planning, overseeing, and managing the inspection will be high.
Do You Know Which Renovations Are Likely To Support Rent Increases?
Another important factor to consider is which renovations are more likely to support rent increases.
Kitchen and bathroom renovations are generally the most obvious. But it’s not easy to determine exactly which upgrades within a kitchen or the bath were responsible for the increase.
Was it the new backsplash or the tub surround? Was it the stainless steel appliances, or the new granite countertop?
It may be hard to pin it down. However, it’s important to try and determine which renovations are likely to produce ROI in order to avoid profit loss.
Renovating an apartment should bring a rent increase between 10%-30%. According to some investors, the most profitable renovation is replacing the flooring to wood (or wood-like), or at least replacing the carpeting or tile to wood in some areas of the apartment.
Kitchen upgrades are the next most common upgrade. Several investors state that adding a washer and dryer has added to significant ROI.
Not all improvements need be big ones. Sometimes a small change such as adding pendant lights and track lighting can increase value as well.
At the same time, renovating an apartment won’t help if the building lacks curb appeal. Make sure to include quality improvement like upgraded landscaping, adding amenities, renovated common areas, and new signage on your list.
Hidden Expenses
There are a few cons when renovating a fixer-upper property. The most common are the hidden expenses that reveal themselves when a wall is opened up or the electrical wiring is replaced.
As an investor, it’s often very hard to estimate renovation costs. Especially since they will always be more than your contractor estimate no matter what is written in the contract.
The second problem is that it can often take a considerable amount of time to complete the renovation. During this time the increased vacancy – especially if the entire fixer-upper property is renovated at once, can make it harder to turn a profit.
Upgrading For The Urban Wannabee
The second type of improvements you can make on multifamily properties are upgrades. Upgrades involve adding amenities to a property and can range the very basic – like added parking- to luxurious, such as rooftop infinity pools complete with large screen TV’s, pizza ovens, and cabanas.
Rather than randomly installing upgrades, it’s best to first survey tenants or ask fixer-upper property managers what type of amenities would be appropriate for tenants. Right now the trend is for buildings that offer live/work/play areas (for millennials) or are close to urban centers (empty-nesters).
Many fixer-upper property owners are choosing to upgrade by adding amenities for those who want affordability with a dose of luxury. Common areas that look more like hotel lobbies, private workspaces connected to Wifi, pet grooming or extensive exercise centers are just a few of the amenities being offered.
Another category of upgrades that appeal to a wide variety of tenants includes “green” upgrades that improve the sustainability of the property. Solar water heating, HVAC units that are controllable by each tenant, and LED lighting are a few common examples being implemented by investors lately.
The Most Common Upgrading Mistake
The most common mistake investors make when upgrading a fixer-upper property is failing to upgrade based on the tenants’ lifestyles.
If you own a Class B or C building, it’s unlikely your tenants will want luxurious amenities since those will cost an extra several hundred dollars a year more.
Even if your tenants can afford better amenities, adding the wrong amenities can fail to add value. But it can also anger tenants, who feel the money should have been spent on more important projects.
And lastly, as with renovation, be sure the rent bump you obtain from an upgrade will last long enough for you to recover the amount spent and gain profit. There’s nothing more frustrating than spending thousands of dollars on an upgrade only to find your costs won’t be recouped for another ten to twelve years.
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