Multifamily Investing: A Comprehensive Guide – Part 1

What Is Multifamily Real Estate?

Multifamily refers to residential properties that are shared by multiple households or families. As an asset class, it encompasses a wide range of housing types – essentially, any building with at least two separate living units that are either vertically or horizontally adjacent. Multifamily is also characterized by shared physical systems such as walls, roofs, heating and cooling, utilities, and amenities. Subtypes can include townhomes, condominiums, apartment complexes, build-to-rent (“BTR”) or build-for-rent (“BFR”) communities, and manufactured houses. In essence, multifamily is a broad umbrella that includes residential properties designed for occupation by more than one family or household.

Multifamily investing is the largest of the “core four” commercial real estate asset classes, and is arguably the most straightforward of all  asset classes. Individual passive investors are increasingly tapping into multifamily investing to build more diversified portfolios. Investing in multifamily properties can help you earn passive rental income, scale your portfolio, and in some cases qualify you for unique tax deductions.

Simply put, if you are looking for your next asset class to diversify a 60/40 portfolio, multifamily investing could be a great fit. Multifamily investing is more accessible than ever before for individual investors. Like any asset class, it comes with its own set of risk factors and considerations, which we’ll discuss in detail.

Multifamily Investing Definition

1. It potentially offers both cash flow and appreciation/upside.
2. Unlike single-family investing — or “flipping” — it brings the benefit of a diversified tenant base.
3. Even versus other commercial real estate asset classes, multifamily is essential, irreplaceable, and in short supply.

As we will cover in more detail, we believe multifamily investing is a critical step to take for any self-directed investor looking to diversify into alternatives. Multifamily investing is the largest sector within commercial real estate. For many investors, it is also the simplest to understand. The demand drivers and fundamental uses of multifamily property are well understood. Relatedly, the multifamily asset class tends to be one of the most stable performers among all types of investments (more on that in a bit).

In this article, we’ll review the essential things to know about multifamily investing, and look at the major advantages of multifamily real estate investing. We’ll also share some tips for investing in the asset class from the perspective of an individual passive investor.

Multifamily Investing Explained

Multifamily investing entails buying properties with two or more units that can be rented out to multiple tenants – like apartment buildings and condo complexes. Further, “multifamily investing” tends to mean investment into properties with many units in a highly structured manner, factoring in lease-up, value-add improvements, and other elements of a more nuanced business plan. As such, multifamily investments are considered one of the “core four” types of commercial real estate investment, alongside office, retail, and industrial. 

Real estate investors who acquire multifamily properties are typically looking to increase net operating income (NOI) by increasing occupancy rate, increasing average rents at the property, or both. Success in multifamily investing also hinges on exiting at a more favorable sale price, either through positive changes in the market, value-add improvements at the property, or both. As such investors typically pay attention to several key metrics when evaluating a potential multifamily investment:

• Occupancy rate
• Capitalization rate (or “cap rate“)
• Sales and rental comparisons (“comps”) in the area
• Population growth, job growth, and other demand drivers in the market

Like other investable assets, the performance of multifamily investments is subject to market forces: supply and demand. Supply constraints can drive up rents that operators can command at the property, the fair market value of the property as a multiple of rents, and the sale price at exit. Local factors – such as zoning and permitting – can influence supply in a given multifamily market. Macroeconomic factors also play a part. Generally speaking, the supply of rentable units in the United States is far below demand, which creates a constant positive factor for multifamily investing. As of 2024, the supply pipeline (the number of multifamily properties being developed) is strong for the moment but thins out considerably into 2025 and beyond, as rising interest rates put many new projects on hold.

Multifamily Real Estate Investing vs. Single-Family

Often “real estate investing” is used as short-hand for buying and renting single-family homes or “flipping.” Commercial multifamily investing behaves differently in several key ways. Investors should be prepared to expect a few differences when investing in multifamily units compared to single-family homes. For instance, tenant turnover and vacancies in single-family homes can drastically impact or completely erase rental income. In other words, multifamily investing often benefits from a diversified tenant base; with more units, more tenants, and leases expiring at various moments, the asset is more insulated from vacancy risk.

Since owners will have access to multiple streams of income, multifamily properties can be less volatile assets compared to single-family rentals during times of an economic downturn or recession. Although multifamily units require a higher initial investment, investing in this type of real estate typically means fewer gaps in rental income and cash flow.

Even with short rental agreements, leasing to multiple tenants provides a built-in hedge against inflation. Since multifamily tenant turnover is relatively high, rental prices can quickly reflect current market values and compensate for inflation. What’s more, it is common for multifamily operators to “capture” inflation in rents — in inflationary periods in the past, multifamily operators have commonly pegged rent increases to the CPI, automatically offsetting the effects of inflation.  

In Part 2 we’ll discuss – Multifamily Investing – a Recession-Resistant Asset Class?

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