Tag Archives: apartment

Colorado Springs Apartment Rents Continue Upward Trend

The Colorado Springs apartment market continues to show strong growth through the third quarter of 2013. Not only has the vacancy rate stayed at its 12-year low of 5.4% (down from 6.1% a year ago), but the average rental rate set a record at $830.34 per month, breaking the previous record of $807.21 set during the previous quarter. That makes 15 quarters in a row that the Colorado Springs apartment rental rate has increased over the previous year.

English: Centennial Plaza Apartments, 516 E Ki...

Centennial Plaza Apartments, 516 E Kiowa St, Colorado Springs, CO (Photo credit: Wikipedia)

The average rent for a one-bedroom apartment is now $730.54, and two-bed, two-bath units are commanding an average of $1005.40. Three bedroom apartments are renting for an average of $1192.17.

In further promising news, although Denver has now returned to its pre-recession rental rates (adjusted for inflation), Colorado Springs still has a way to go. Therefore, there is still room for rental increases just to get  back to what folks were paying here in 2001-2002.

You can read the full report at the Colorado Division of Housing site.

How to Evaluate an Apartment Property in 5 Minutes or Less

An active real estate investor may have multiple offers cross his or her desk in any given week. Since time is our most precious resource, we need to have a method to quickly eliminate those deals that have no chance to become part of our portfolio. Here’s how I do it.

The most critical number needed to rapidly evaluate a property’s potential is the Net Operating Income, or NOI. This is simply the difference between the gross annual income and the expenses paid to operate the property that year. Mortgage payments are not included in calculating the expense total, nor are capital expenses, those large one-time outlays, such as a new roof or heating system.

Getting accurate numbers from the seller can be problematic at times, but I generally take what’s offered at face value. If I decide to move forward, confirming the income and expense values is an important part of the due diligence process. However, we can learn a lot from the actual numbers they give us.

The NOI combines with the going local cap rate to determine the sale price. You can poll your local commercial real estate brokers to get their take on the going cap rate for each class of apartment. You can also monitor sales yourself and figure the range of cap rates that apply to recent sales (or offering prices) in your chosen category. In the examples that follow, we’ll assume that C class apartments in Colorado Springs are selling in the 8-9% cap rate range.

Sample Deal #1

  • 16 units, all 2-beds
  • Asking $759,000 or $47,400 per door
  • Income $98,634
  • Expenses $51,493 (52.2%)
  • NOI = $98,634 – $51,493 = $47,141
  • Cap Rate = 47,141/759,000 = .062 = 6.2%

This cap rate is obviously way below the market rate. Changing it to a more reasonable 8.4% creates a sale price of $559,000, or $200,000 below what the seller is asking.

Besides being overpriced, the property, built in 1962, still has the original windows and kitchens (including the stylish turquoise and pink metal cabinets). According to the property manager, it also needs both flat roofs replaced. The out of state owner is out of touch with the Colorado Springs market and is unlikely to sell anytime soon.

Sample Deal #2

  • 12 units, all 1-beds
  • Asking $464,900 or $38,700 per door
  • Income $60,240
  • Expenses $20,024
  • NOI = $60,240 – $20, 024 = $40,216
  • Cap Rate = 40,216/464,900 = .082 = 8.2%

The cap rate is reasonable, but the expense percentage is on the low side, especially considering the owner pays for all the water and trash. This probably indicates that the owner has not put much into the upkeep of the property. Again, original windows from 1967. Also, since fewer people are looking for a 1-bed apartment, it’s not as easy to raise the rent as much as with 2- or 3-bed units. We’ll pass on this one.

Sample Deal #3

  • 22 units 1 3-bed, 4 2-beds, 15 1-beds and 2 studios
  • Asking $1,075,000 or $48,900 per door
  • Income $119,760
  • Expenses $24,109 (20.13%)
  • NOI = $119,760 – $24,109 = $95,650
  • Cap Rate = 95,650/1.075,000 = .089 = 8.9%

The expense percentage is too low to be believed. If we double it to $48,000 and bring it to a more reasonable 40% expense ratio, the NOI drops to $71,760 and the cap rate moves to 6.7%, way too low for the market.

Changing the cap rate to a more reasonable 8% moves the price to $897,000 (71,760/.08).

Two other factors working against this one are the less than desirable location of South Nevada Avenue and the fact that the owner felt it needed to be enclosed by a high fence and security gate.

Sample Deal #4

18 units 16 2-beds, 1 1-bed, 1 studio

Purchased for $800,000 or $44,400 per door

Income $124,577

Expenses $52,648 (42.3%)

NOI = $124,577 – $52,648 = $71,929

Cap Rate = 71,929/800,000 = .0899 = 8.99%

This one has a good unit mix, expenses just about where they should be and a cap rate that indicates we got a good price. In addition, within the last five years, both roofs were replaced, new windows, doors and kitchens were installed, and 16 decks had been rebuilt. Oh, and it was full.

As these examples have shown, once you know a full year’s income and expenses, you can use those numbers with your knowledge of the local cap rate to analyze a property in less than five minutes. Then you only spend real time on those worth pursuing.

 

 

Use a Cost Segregation Study to Improve Your Bottom Line

The IRS gives a tax break called depreciation to commercial property owners. According to the rules, an apartment building will be worthless after 27.5 years of ownership. That means a building depreciates about 1/27, or 3.64% per year. Therefore, each year the owner is allowed to deduct 3.64% of the building’s value from the property’s income before computing the tax liability.

Non-residential commercial property is depreciated over 39 years, so each year 2.56% of its value can be deducted as an expense.

It must be noted that land does not depreciate, at least according to the IRS. Many property owners use an 80/20 rule to value the building versus the land. In the case of an $800,000 purchase, the building(s) would be valued at 80% of that or $640,000. The land would therefore be worth $160,000. Starting at this point, an apartment owner could deduct $640,000 x 3.64%, or $23,296 each year. For an owner in the 28% tax bracket, that’s a real savings of $6,522.88 a year.

However, through a formal procedure known as a Cost Segregation Study (CSS), much greater savings can be realized. The IRS allows you to speed up depreciation on certain elements that make up the property. For instance, many land improvements such as parking lots, fences, sidewalks, sewer lines, etc. can be written off over a 15-year period. Items classified as personal property can be depreciated over a 5- or 7-year period. Examples include carpets, appliances, window coverings, countertops, cabinets and more.

From the perspective of saving on taxes, the savvy commercial property owner will label as much property in the 5-year category as possible. If $100,000 of personal property was so designated, for each of 5 years the owner could take $20,000 as depreciation expense, lowering his taxable income. If that much property had not been segregated out, it would have depreciated over 27.5 years, resulting in only $3,636 saved per year. Over the 5 year period, just this one category would save over $81,000 in taxable income.

Let me give you a real life example. We recently purchased an 18-unit apartment property for $800,000. As noted above, if we just took 80% of this as value of the buildings and depreciated it over 27.5 years, we could expense just over $23,000 a year.

Now let’s see what happens when we do a Cost Segregation Study. To be in compliance, you need to have a third party perform the CSS. We picked a local engineering firm that specializes in this process.

They went into one unit of each type: studio, one bedroom and two bedroom. They measured the carpet, the countertop space, the cabinets, floor molding, window covers, electrical outlet covers, lights, interior doors and shelves, etc. Outside they inventoried the exterior lights, parking lot, fencing, retaining walls, planters, handrails, sidewalks and more. They ended up with almost 100 items put into the 5-, 7- or 15-year categories.

Here are the totals in each category:

5-Year: $86,775

7-Year: $66,543

15-year: $66,369

27.5-year: $511,916

Taking the first number, you can take 1/5 of the $86,775 or $17,355 as an expense every year for the first 5 years you own the building. Similarly, you can take 1/7 of the $66,543 or $9,506 each year for 7 years and 1/15 of the $66,369 or $4,425 per year for 15 years. And you also get 1/27 of $522,916 or $18,615 per year for 27.5 years.

So in each of the first 5 years you can deduct $49,901 from the property’s income before figuring your taxes. If you have a loan and are deducting the interest payments, that’s also deductible, along with your usual operating expenses. Thanks to the great power of the CSS, it’s actually possible to have a property throw off great cash flow and still show a loss on your investors’ K-1s. So they can have an income stream as well as a deduction on their personal taxes.

When you sell the property, the total amount you claimed as depreciation will be taxed (currently) at 25%. Still, you’ve saved way more than that upfront, so it’s still a great thing to do. And if you take advantage of a 1031 exchange when you sell, you can push that tax even further into the future.

Be sure to have a good conversation with your accountant before you get into this. It can really save you a lot of money over the long haul, but it’s best to leave the details to the experts.

Colorado Springs Vacancies Continue to Drop

For the eighth quarter in a row, the vacancy rate in Colorado Springs has gone down, this time to 5.8%. The last time it was this low was in the third quarter of 2001 when it was at 5.4%.

As you’d expect, when the vacancy rate drops, the average rent goes up. Last year the average rent in Colorado Springs was $710. Now that same unit goes for $737, a 3.7% increase. In fact, the average rent has gone up for five quarters in a row, year over year.

These were just a couple of the facts in the new report released by the Apartment Association of Southern Colorado and the Colorado Division of Housing.

According to Ryan McMaken, a spokesman with the Division of Housing, “It’s taken 10 years for the vacancy rate to return to where it was before the 2002 recession hit Colorado, but with so little new construction, and with a continued troop presence in the region, it looks like rates may stay low, at least in the near term.”

Multifamily Property Evaluation in Colorado Springs

In this video, we walk through a financial analysis of an apartment building for sale in Colorado Springs. After a brief introduction of the property, we list the assumptions we’ll be making about the possible purchase. These include the proposed LTV of the loan, the amount estimated for reserves and closing costs, the projected annual increases in income and expenses, and the expected vacancy rate.

Next we look very briefly at the spreadsheets that crunch the numbers for us, focusing more on their purpose than their details. Lastly we compare the bottom-line results when we project purchasing the property for two different prices.

If you want to view this in full screen, click the icon in the lower right corner that has four arrows.