Purchasing with High Vacancy Rates

Howdy ya’ll!!! This makes a couple of times now that I have been out bid by someone on an apartment complex with high vacancy rates. I have always made offers based on the current financial position of the property, not the potential financial position. I have reached the conclusion that either the buyers can afford to lose money on the front end while getting the occupancy up, or they are using a finance technique like negative ammortization. Since I have only read a definition of negative ammortization, could someone help me understand if buying with high vacancy rates is a good time to use negative ammortization financing, or if I should just continue to lose deals with great upside potential based on market comps, or am I just missing something altogether here??? Thakns ya’ll and God bless!!! Have a great 2006!!!

Howdy Mike:

My dad’s company just bought a brand new property in Temple that had trouble leasing up. They gave the seller a small amount to close and assumed the debt and the negative cash flow. It took about 6 months more to start breaking even and they paid out thousands. Overall it was still less than 20% of the purchase price including the closing costs and they now have millions in equity. If they had guessed the market wrong they would have been stuck big time. It is a calculated risk.

Mike, I think you are submitting your offers correctly- based on current vacancy and rents. You don’t want to base your calculations on future potential, at least not when starting out. I’m not sure why you are getting outbid, unless these people buying are just willing to pay anything and are getting into a bad deal by overpaying. By the way I am about to submit my first offer, how do you know when you have been outbid by someone else? Thanks, Mike

I would definitely bid based on current financials until you can afford to buy a building showing a temporary monthly loss. Most people can stick it out a few months with negative cash flow but the average person would definitely not be able to carry it long. I can only see cases like Ted is describing working out, a company that can weather the storm as long as it is needed.

Sorry to read about all your problems with this property.

To comment on your original question for future reference, there are several ways to approach a low vacancy issue.
Cannot say they will work for you but here are a few basic ideas.

If the Loan amount is less than $1,000,000 and you have strong credit and good/adaquate income, there is the possibility to qualify for the loan totally regardless of the vacancy rate (even 100% vacancy is eligable), or property income for that matter. In this case, there is actually little needed in the way of financial documentation from the property.
While this opens the door to many marginal properties that hold financial promise, very few investors have the extra cashflow to pay the note without the income from the property.
In the event you need the property income added to your current income to qualify, you just have to be able to provide the documentation as you normally would.

There are also the possibility of shorter term bridge loans that allow a time for stabilization at which time you will have to refinance or sell. Usually 1-3 year time frame.

Then there are loans where the lender will make an initial loan but hold back funds and release them periodically as the property is stabilized and vacancy improved. Eventually the loan LTV will max out to a 75-80% loan. But in the beginning it might be 50-60%.
This is also a good program in the event the seller will hold a significant second. The released funds can be paid directly to the sell and pay them off in most cases in 6-12 months.

All this is just talk without knowing specifics of the deal in question and you the borrower. However, just wanted you to know there do exist options.

Best Regards,

Thanks, Wes!!! Do you know of any options, similar to an interest reserve, that allow the interest to accrue for a specified period, say one year, before going to a more traditional type? Or of an option that allows no payments for a year? or six months? etc??? I know this can be done in single family with private money, I’ve just never considered doing it at this level… Thanks again…

But no unless you are wanting to consider what is basically Commercial Hard Money Rates which means a loan of only 60-65% LTV in most cases.

On the other hand, what you have been describing are properties that do not seem to be able to qualify for normal loan financing so some sort of short term financing/bridge loan might be possible.

If you can bring a strong financial statement to a lender, or have other Real Estate that could be pledged as collateral, a lender might not require you to bring as much cash to the deal. But, without knowing details of you and the project, there is no way for me to say.

Most people I speak to approach this type issue from the wrong direction. Shopping for a lender to do the loan that will offer them the best rate and terms. When in this case, you should find a lender you know can do the type loan you are seeking and find out what it is they would require of you to even get a loan.

With Commercial loans, rates and term usually come later anyway so until the lender has a chance to evaluate the deal, any talk of rates and terms are just that…

Good Luck!
Feel free to contact us if you have questions.