The Niceties of Buying a Multi-Family Property in California

Real Estate Investment in California as a Business Idea

Property is an excellent investment opportunity both for budding and seasoned entrepreneurs. Once you purchase real estate to rent, you gain a source of steady revenue, protect your savings against inflation, and acquire an asset that increases in value over time. Buying property in California is especially appealing: the Golden State's massive, diverse economy and high housing demand mean limited supply can't keep up, making it a very promising rental market.

One of the investment property options that you have is multi-family real estate. How is purchasing this kind of property in California different from other business projects in the field? Let’s find out together.

Understanding Multi-Family Property

By definition, a multi-family property comprises more than one housing unit (with a separate kitchen, bathroom, entrance, and living area) within a single complex or – more often – under one roof. Such accommodations are divided into:

Duplexes that have two dwelling units;

Triplexes and fourplexes containing three or four units respectively;

Condominiums and apartment buildings (five or more units);

Townhouses and semi-detached homes that are shared-wall houses or entire connected rows of buildings.

The first two types are classified as residential real estate, whereas the second two are considered commercial real estate.

What is the roadmap for buying any of the real estate types mentioned above?

Purchasing Multi-Family Property: An Algorithm to Follow

The process is neither long nor difficult, but it requires careful planning and meticulous attention to detail.

Step 1. Selecting the property type

From the outset, you should decide what you aim for – residential or commercial property, because your next steps will depend on that choice.

Step 2. Combing through regulations and performing calculations

Study local tenant protection and rent control laws, analyze state and local property taxes, and come up with a rough estimate of potential rent rates as well as of property management fees, insurance expenditures, maintenance costs, and other operating expenses to see whether the property will land you in the black.

Step 3. Opting for a financial strategy

Unless you have the lump sum to buy the house, you will need to take out a mortgage. If you go for residential property and plan to live in one of the units, you are eligible for conventional mortgages, VA loans, or FHA loans. In case you aren’t one of the tenants, you can use a non-QM loan. Owners of 5+ unit lodgings don't have much choice, as only commercial property loans are available to them.

Step 4. Inspecting the house

Now it’s time to get your boots on the ground and examine the chosen house's plumbing, roof, electrical system, etc., preferably involving experts. Pay special attention to the presence of individual meters that measure gas, water, and electricity consumption for each unit's tenants.

Step 5. Dealing with paperwork

Once you confirm everything is in order, negotiate the price with the owner, complete the lender's appraisal, secure a mortgage, and close the deal.

This straightforward procedure has a few peculiarities when you buy your dream home in the Golden State.

Major Things to Remember about Multi-Family Investment in California

As a future real estate owner in California, you should realize that:

Although you can find some counties where property prices are quite affordable, real estate of any type in California is a big-ticket item compared to the Midwest, Mountain, or Southern states. It means you will have to fork out a substantial sum to buy property in Cali.

High purchase prices in relation to achievable rent spell out low monthly cash flow, so you should count on long-term appreciation.

With property tax rates capped at 1% and annual increases limited to no more than 2%, you'll pay lower property taxes here than in other states, which is good news.

Limited availability and a plethora of job centers create high demand for property, which is more good news.

In landlord-tenant relations, California legislation favors tenants, so property owners don't have as much control over rentals or as fast eviction timelines as in Florida, Texas, or Arizona.

If you live on the premises, you can use rental income from other units to offset your mortgage payments (aka house hacking).

Since buying a multi-family property is a no-nonsense enterprise with serious financial implications, it is wise to enlist the help of vetted experts in the mortgage domain.

How LBC Mortgage Can Help You

For our lending agency, the California real estate market is an open book. We have been present there (and in ten other states to boot) for over 18 years, so our specialists can give you qualified advice on multi-family property acquisition in the Golden State. We also offer various residential and commercial loans to California homebuyers, so you can choose a mortgage that suits your needs and financial capabilities to a tee.

Contact LBC Mortgage for a professional consultation and use our loans to buy a multi-family property (or any other real estate) in California and across the US.

Buying a Multi-Family Property in Cali: Key Takeaways

A multi-family property consists of two or more units, each with a separate entrance, bathroom, and kitchen, housed under one roof or built wall-to-wall. To acquire such a property in California, you should choose its type (residential or commercial), scrutinize relevant regulations, estimate future earnings and expenses, select the loan you will use to pay for it, thoroughly inspect the house, and approach a first-rate lending agency to get a mortgage and close the deal. Also, it is vital to consider the peculiarities of the property market and legislation specific to California's real estate sector.

Author:

Alex Shekhtman CEO & Founder, LBC Mortgage

Frequently Asked Questions

1. What are the pros and cons of buying a multi-family property?

The benefits of acquiring a multi-family property are related to significant income opportunities, while the drawbacks boil down to high costs and the responsibilities of being a landlord.

The pros include:

Multiple revenue streams from several tenants.
House hacking potential, allowing the owner who lives on the premises to offset housing and mortgage expenditures by renting out other units.
More advantageous mortgage terms (if it is a real estate with 2-4 units and you live in one of them).
Streamlined portfolio scaling. You use one mortgage to buy several homes instead of managing several standalone loans for single-family accommodations.
Tax advantages. Homeowners are eligible for tax breaks (for the unit they occupy) and tax deductions (for the unit(s) they rent out).

The cons are as follows:

Higher upfront costs. Multi-family homes are more expensive to buy and to maintain.
Landlord responsibilities. The owner must handle tenant complaints, enforce leases, manage emergency repairs, etc. As an option, you can hire a dedicated property manager, but that is one more expenditure item.
Property management. You’ll deal with various people, resolve conflicts, find tenants as soon as someone moves out, hold inspections, and prepare vacant units for new renters.
Questionable privacy. If you live on the premises, be ready for late-night calls and unexpected tenant visits that blur personal boundaries.

2. What documents do you need to buy multi-family property in California?

The set of papers you need to acquire multi-family property in California comprises personal financial records, property operational and financial documents, state-specific disclosures, and third-party reports.

Personal financial records include:

Photo ID. Usually, a driver’s license or a passport.
Income verification. If you are a salaried worker, you should present W-2s for the past two years and two recent pay stubs. For the self-employed, two years of personal and business tax returns are a must.
Asset and bank account statements for the last two months.
Entity papers (operating agreement, articles of organization, EIN information, and resolution to buy real estate) if you purchase the property through a real estate LLC.

Property documents encompass:

Current rent roll (with all units, tenant names and amounts, lease start/end dates, and deposits held).
Profit and loss statements for the past 12-36 months.
Copies of all leases.
Statements signed by tenants that confirm deposit amount and rent size.
Service and utility contracts that show who pays for trash, electricity, water, sewer, landscaping, etc.

California mandates such documents as:

Transfer disclosure statement.
Natural hazard disclosure.
Seller’s property questionnaire.
Purchase agreement.
Lead-based paint disclosure (for real estate built before 1978).
Preliminary title report.
Property survey.

Third-party reports include:

Property appraisal (required by the lender).
Property inspection reports (general inspection, roof inspection, and pest reports).
Environmental/zoning compliance reports (typically required for very large or old complexes).

3. How is buying a 2-4 unit property different from buying a 5+ unit property in California?

The major differences involve financing, property valuation, and state-approved fair housing law exemptions.

As for financing, 2-4 unit homes are considered residential. Hence, their owners who live in one of the units are eligible for residential mortgages (such as conventional or FHA loans) with low down payments (around 3.5%) and an opportunity to use rental income for paying the loan.

5+ unit real estate is qualified as commercial, so its owners can only count on commercial mortgages, where down payments may amount to 30% and loans require a complex underwriting procedure based on the property’s income performance and debt-service coverage ratio (DSCR).

For 2-4 unit homes’ property valuation, lenders rely on comparable sales, appraising the value by what similar complexes in the area are sold for.

Lenders appraise 5+ unit real estate using income capitalization, where the property’s Net Operating Income (NOI) is a major factor showing how much revenue the building can generate.

California tenant laws (particularly the Mrs. Murphy exemption) exempt 2-4 unit property owners who live on the premises from fair housing anti-discrimination rules (although racial discrimination is forbidden).

Owners of 5+ units must fully comply with the federal Fair Housing Act, whether they live in one of the units or not.