Which Is the Best First Rental?

Henry:
Should your next investment be a single family home or a multifamily property? It’s a critical question. You want to scale a portfolio and progress toward financial freedom as quickly as possible, but taking on the wrong type of property could leave you overwhelmed and slow down your progress in the long run. The good news, this choice does not need to leave you paralyzed. Today we’re sharing a simple framework to help you pick the right type of property for you. The answer isn’t the same for everyone, but by the end of this episode, you’ll know how to think through big decisions of whether single family or multifamily is right for your experience level, financial situation or investing strategy. Plus we’ll tackle how to balance getting your rents close to fair market value without forcing unnecessary tenant turnovers where new investors should take on burrs or flips and so much more. What’s up, friends? I’m Henry Washington here, the co-host of the BiggerPockets podcast and I am here along with Dave Meyer. Dave, you’re looking a little bundled. Are you wondering why I am dressed like Macklemore right now? Is there something going on at the thrift shop we need to know about?

Dave:
My heat went out two days ago over the weekend on Saturday morning I woke up and my house was like 40 degrees and they actually just left my house and fixed the furnace, but it’s still freezing in here. It’s like literally 42 degrees, but the show’s got to go on, man, so I’m just here dressed in full winter gear.

Henry:
Well, today we’re giving people what they want. We’re answering questions you the audience asked us on the BiggerPockets forums, so let’s jump into it. The first question is from an investor named Christopher and he said, I’m a new investor based in California looking to start my portfolio out of state. My target is the 80,000 to $125,000 range in landlord friendly markets with steady job growth. I’m most interested in burr and buy and hold rentals, and I’m deciding between starting with a single family or a small multifamily. He goes on to say, here’s where I’m stuck. Single family seems easier to manage, less intimidating, but the cashflow might be a little less, whereas Multifamilies could bring stronger cashflow and efficiencies of scale, but I’ve heard they could be tougher to finance and tenant issues could hit harder if I don’t have a solid team yet. So which one should you start with and what do you think the best path is for someone investing out of state for the first time?

Dave:
Alright, I’ll take this one. First off, Christopher, good question and I think a great approach. If you’re based in California, super expensive, you want buy and hold or burrs, they’re harder to find in California, so an out of state is a great option for you. I’m going to start with actually the second question because basically what you said is, which is better? Small multifamily or single family, all things being equal. I don’t know how you feel about this, Henry, but I personally think small multifamily is just the best asset class and I don’t actually think it’s really all that different from a management perspective. You still got one roof, you got one tax bill, you do have multiple tenants, but I think what you’ll learn as almost every investor does over the course of their career is it’s really not that hard once you place tenants.
It’s just reacting and trying to do some repairs proactively. But I personally just think small multi-families are better. I would challenge you, Christopher, on your question saying that you think that they’re harder to finance small multifamilies and that tenant issues could hit harder. I think they’re very similar to finance. Even if you are out of state, not owner occupying, you can get very similar types of loans for small multifamily, anything, four units or fewer is considered a residential mortgage and so you’re still going to have pretty favorable financing. Some you can put five or 10% down so you still have that option. The thing that I would challenge about, yeah, if all of your tenants decide to up and leave at once, that will be an issue or if they all complain at once, that can be an issue, but I actually think that having a small multifamily mitigates risk because if you have a vacancy in one unit, it’s not all of your income for that entire property.
When you buy a single family home, if you can’t find a tenant for two months, you’re losing one six of your entire revenue for the whole year. Whereas if you have two months of vacancy in one of four units, maybe you’re only losing one and a half percent of your revenue for the whole year. So I actually think it helps you mitigate risk, which I really like. That’s just on principle, but I will say buying a multifamily for 80 to 1 25 is probably not realistic in a decent market. I think if you’re looking for a place with job growth, you’re going to be really hard pressed to find a duplex. I invest in the Midwest. Maybe in Detroit you could probably find a duplex for that range, but if I were you at that price point, I actually would focus on buying the best asset I could and not on whether it’s single family home or multifamily. The advice I gave earlier was all things being equal. If you could afford both, I’d say small multifamily, but it sounds like you might want to focus on single family because you’ll be able to get a high quality asset that’s not going to be a pain in your butt.

Henry:
Very well said. When you were sitting there explaining why you liked multifamily as an answer to this question, I started thinking through what are my favorite properties and some of my favorite properties are single families, but when I ask the question differently and say, what are my most profitable and or wealth building properties, I get the most cashflow and I’ve built the most equity in my small multifamilies and it’s not even close

Dave:
Really.

Henry:
Yeah, and so I think you’re right. Small multifamily in terms of financial benefit, cashflow and wealth building seem to be the best asset, but my favorite properties are some of my single families and that’s who cares about what your favorite is, but

Dave:
Why are they your favorite then? Just because you are proud of what you did to them and the

Henry:
Renovations proud of what I did to them. The locations that some of them are in just prime locations, just excellent properties.

Dave:
You get the warm and fuzzies with the single families. You flip a house, it turns out great. If family moves in, they’re happy with it. That’s nice. That’s a good experience. Multifamily, you don’t really get that as much. I agree with that, but I just think if you’re trying to build that long-term portfolio, it’s great, but I just think as a first time investor, the name of the game is don’t lose. You don’t need to win by a lot. You don’t need to hit a home run. The game is to hit a single,
And my fear is that if you take my original advice and say, oh, I’m going to buy a three unit or four unit at 1 25, there’s going to be something wrong with that. Your tenants are going to be sitting there like me with their hat and jacket on because their heat doesn’t work or their toilets don’t work or something like that. This is what you get when you buy assets that are not up to their highest to best use. So I would make it easy on yourself as an out-of-state investor and buy something that’s in good shape. That would be my number one criteria.

Henry:
The other caveat here is Christopher, I would focus some of your time on learning more ways to finance deals. There are so many tools in the tool belt in terms of financing properties, small multifamilies like I think you can get a small multifamily financed pretty easily, no sweat. And given the concerns that you’ve outlined here, I would say my answer to you would be definitely focus on small multifamily if you’re going to up that 80 to 120 5K range, but if not, then I think Dave is w right. Buying a quality single family asset will save you so much headache over going and buying a trash multifamily.

Dave:
Great question, Christopher. Thank you and good luck to you. We have a new question asking about inherited tenants from Nick in upstate New York, but before we answer that, we got to take a quick break. We’ll be right back.

Henry:
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Dave:
Welcome back to the BiggerPockets podcast. Henry and I are here answering your questions. By the way, if you want your question to answer, go to BiggerPockets forums, ask those questions, we pick them there, or you can always send Henry or I a message and we pick a lot of questions from there as well. Our next one though comes from Nick in upstate New York who says, I’m a 19-year-old real estate investor. Impressive getting this done. At 19 years old, I just closed on my first duplex last and I’m house hacking. The tenant I’m inheriting has been here for 12 years and is on a month to month lease. She pays $635 a month and comps show that the market rent is about 1200. Wow. She has been a fantastic tenant for the previous owners. Rent is always on time. She’s quiet and takes care of her unit. Well, I have no problem with her paying slightly under market rent in hopes of retaining a great tenant, but I know it is irresponsible as a business owner to sell myself short. My other hesitation is that the previous owners are very good family friends. They started renting to her 12 years ago for 6 0 5 and just last summer increase it to 6 35. How would you handle a rent increase, Henry, what do you think?

Henry:
I love this question first of all, and second of all, 19 years old investing in real estate on the forms, asking these questions

Dave:
Crushing,

Henry:
Man, what a headstart you had. I wish I was as smart as you were when I was 19. Unfortunately, I was

Dave:
Not. I don’t think I could have typed this sentence when I was 19th,

Henry:
So kudos to you, Nick. I have had this situation a few times, maybe not as nuanced as this, where it’s family friends and it’s in a house hack, but I have inherited tenants paying very low rents and I’ve had to work with them to figure out how to get the rents where they need to be. And so first and foremost is you need to realize that you’re a human being dealing with human beings, and it sounds like based on the way you phrase phrased this question, you’re already in that mindset. And so what I have learned managing my own properties as a landlord and trying to do it in a way that both balances being human and being a business owner, most people will work with you if you give them the opportunity to. And so I’ve always tried to approach these situations where I’m just open and honest with people,

Dave:
Transparent,

Henry:
Transparent,
And I let them know. And so if this was a situation I was dealing with, I would go to the tenant and I would try to work out a situation where I could get them to stair step their rent up to where you want them to be and realizing that yes, I think you’re also in the right mindset of saying, Hey, I’m willing to take a little less than market rents because she’s a great tenant. That is the absolute right mindset because the first thing I tell people who ask me this question is, is the tenant a good tenant? Because if they’re not a good tenant, right, you need to focus on getting that out of there. Anyway, different question. Yeah, completely different process, but if they’re a good tenant, they take care of the place they pay on time, they don’t bother you. That’s perfect.
That’s ideal. The second key is getting them involved in the decision making process. So typically what I do is I pull comps for market rents and I sit down with them and I say, Hey, look, these are the comps that I have. This is what’s available for rent close by similar amenities, and I let them see for themselves, if you were to move and get something equal, this is the price point that it would be at. I understand that if you can’t pay that amount yet, but I do need to get you somewhere closer to market rents,
What would you feel comfortable paying as a rent for you to stay here and want to stay here? And a lot of the times they’ll tell me, look, I can’t do 12, but I could probably get to a thousand. Okay, cool. And then you have to decide, can I work with that number? And if the answer is yes, then you figure out, well, do I raise the rent next month or do you stair step, right? You’ll be able to tell through the course of the conversation and what they’re saying and how they’re saying it if things are reasonable. Because if you go to them and they say, look, I can’t pay anything over 6 35 period. I’m done. That’s it. That’s all I can do. Well then you can’t. It’s not reasonable. It’s not reasonable. You can’t reason with that person and you have to figure out, okay, what are my next steps Now that I know they won’t pay anything else, but when you’re showing them the comps and you’re trying to work with them and you’re involving them in the decision making process, I found that that typically always works well.
Then you can determine based on what they say, do I need to stair step? Because you can do things where you say, okay, if we agree in a thousand, how soon do you think it could get to a thousand? I ask them that. If they say, Hey, I could probably get there over the course of the next six months, if that works for me, then we just work on stair stepping. Then every month until we get there, their rent goes up a little bit until they’re at that thousand, maybe they say a year. If you can work with that, then you sta step ’em a year. You get to determine what works for you and your tenant, but involving them in the decision-making process and being transparent with them because they understand if you bought a property, you have a new mortgage, you’ve got things to pay. People know these things, but where I think landlords fail is they dictate things to their tenants versus including them in the decision making. Hundred percent. And so if you treat them like human beings, try to include them, and I’m not saying because you include them, you have to do what they ask. What I am saying is it makes an easier way for you to transition to something meaningful if you include them.

Dave:
I completely agree. I think that’s the absolute right approach. When I was self-managing, used to just give this speech to everyone who was one of my tenants, I would just be like, I want our entire basis of a relationship just to be reasonable. Just talk to me like you would ask a friend or a family member for a situation and I’ll do what I can and I’m going to be ask you to be reasonable about things, to let contractors in to be reasonable. And that has worked for me a hundred percent of the time. I’ve really never had an issue with that approach. I love what you said about involving them in the decision. People just generally it’s just human psychology. They want agency, they want control, and even though you’re not giving up actual control, giving people a say is really powerful and meaningful and will matter for your relationship going forward.
If you’ve listened to any of the episodes with Dion McNeely, he sort of patented the binder strategy. Have you heard that? Yes. What he calls the binder strategy, yeah, it’s the same idea, but he basically shows his tenants what rents are in the area. He pulls comps and prints them out and shows ’em to them. I think in a situation like this, you can, even if you wanted to show what rent was 12 years ago and how rents have changed over the last 12 years recently, if you want to, you don’t have to beat people over the head with data, but you could show how much taxes have gone up over the 12 years. There are real reasons why rent goes up. There has been enormous inflation across this country in the last 12 years and not changing rents is not a tenable option for real estate investors. Now, you don’t have to maximize and squeeze every drop out of a tenant. I highly recommend against doing that. I don’t think that’s the human thing to do, nor do I think it’s good business and I think that what Henry suggested is absolutely the right way to do it. I think the numbers you gave Henry are a perfect example. Would you personally take a thousand over 1200

Henry:
Absolutely for the right tenant?

Dave:
A hundred percent. If they move out and you have two months of vacancy, that’s pretty much a wash, right? So wouldn’t you rather keep a great tenant for a wash? It’s a no brainer. People get obsessed with their absolute people really, I think in general get obsessed about their rent numbers. When every experience investors know it’s your net cashflow that matters. The gross rent number doesn’t matter. If you have vacancy, it’s going to eat away at that and that crushes your deal every month of vacancy. Just keep this in mind. That’s 8% of revenue you lose. You lose two months, that’s 16% of your revenue. That’s enough to take almost any deal from cashflowing to negative. So just keep that stuff in mind.

Henry:
This is why we harp so hard about underwriting conservatively. I think what happens when people get in this situation is they underwrote buying that deal assuming they’re going to get the highest best rent number possible, and that’s how the numbers worked. And then you get into a situation like this and you realize, I’m not going to get that, or if I do, it’s going to take me a year before I can get there and I’m going to lose a lot of money in between then. So if you underwrite conservatively where you underwrite based on a lower rent number, the midtier of the rent price range, maybe even the low end of the rent range, and then you buy a deal that pencils, you have room to be able to take care of people like this.

Dave:
This is playing out for me all the time right now. I don’t know about you, but I’m not getting top market rents these days. When I have renewals, I’m usually able to keep rent, but there have been a couple units where I’ve had to lower rent, especially in Denver, if you guys follow the news, Denver is not doing great on rent growth, which is fine because I underwrote them this way. I have great property managers, I have great agents. They say, Hey, you’re going to get 1500, 1600 bucks. When I underwrite it, I say 1350. I’m like 10% below what they tell

Henry:
Me

Dave:
Because I want that flexibility. I don’t want to be strapped. I love being in a position where the property manager comes to me. Actually, I can only get 1450. I’m like, great. I underrated a 1350. This is excellent. I’m not worried about that. But when you set yourself up to only succeed if things go perfect, that is just a recipe for failure all the time. So to Nick, I think you know what to do. Hopefully this is a good answer and let us know what happens. I actually, I bet if you follow Henry’s advice, you’re going to find a mutually beneficial situation, which is what Henry and I are always talking about. Find mutual benefit. It’s the best thing for business, it’s the best thing for you. Alright, let’s move on to question number three, which comes from Morgan in Houston where we just were by the way, we ate at this great barbecue place. I just saw it made top 10 barbecue in the country.

Henry:
Best ribs I’ve had in a long time.

Dave:
Anyway, go to Pendleton’s Morgan in Houston wants to talk about real estate, not barbecue though. Morgan says, I want to get started with real estate in Texas and I’m going back and forth between the burr or a fix and flip. I have a good amount of cash, a hundred K or more to invest and I want to take a risk, but not a huge loss. Don’t we all? And I don’t want to rent a property or deal with tenants, but I am open to the idea if it is advantageous. What are your thoughts for a rookie?

Henry:
Yeah, this is an interesting one based on what was said in the question because it says, I don’t want to rent a property or deal with tenants, but I’m open to the idea if it’s advantageous. Well, first of all, being a landlord is very financially advantageous. I think that’s why a lot of us are here, and so I think that that’s the question you need to get comfortable with first because if you go into this not wanting to be a landlord and trying to get yourself sold on being a landlord by taking on your first property, I mean you’re going to get punched in the mouth. Being a landlord is tough. There’s a lot of problems that come with it and the benefits are more long term than short term. Getting into this business and expecting to buy a property that’s just going to go perfectly, you’re going to be making all this cashflow from day one. It doesn’t work like that. You have to have a long-term mindset. So if you aren’t mentally prepared to be a landlord, take on some short-term pain and get the gain in the longterm, then you probably shouldn’t be looking into burrs at all.

Dave:
Totally. I think you basically have a choice to make Morgan one you said, I want to take a risk, but not a huge loss. Those things aren’t a hundred percent compatible risk and reward work going to continuum. The higher the risk you take, the bigger the potential reward. So if you’re saying that you want to take a risk, you have to be open to the idea of loss. That is just investing in general. People who invest in Bitcoin have had amazing returns. People have also lost fortunes in Bitcoin. If you want to just safe investment, go buy bonds, you’ll earn a 4% return and you’ll be fine. But if you want to take a risk, you have to be comfortable with the loss. So I really think you need to figure out where you want to fall on this risk continuum because if you’re comfortable with risk and loss, go flip houses. I think that’s probably the right answer for you because you seem to not want to deal with tenants. In my opinion, Burr is a lower risk strategy than flipping, and so if you instead want to focus on not taking big losses and can warm up to the idea of having tenants, then I would say bur,
Because with a bur, you don’t have the same time pressure as a flip. You still want to do it as quickly as possible, but if you finish your renovation at a bad time to sell, you just keep it and rent it out. You lose that pressure for disposition. So I think you need to sort of make a decision here because you can’t have it all.

Henry:
Yeah, I agree. And you need to figure out are you looking for short-term money or long-term money, right? If you want to do a fix and flip, you’ll get money faster, right? You’ll get paid hopefully in six to eight months. A bur is probably going to take you longer. You’ll pull out some of your cash, but the likelihood of you finding a deal that pencils as a burr in a short term timeframe, that’s going to allow you to pull all of your cash back out and some additional profit. That’s a tough sell right now.
Can it be done? Yeah. Yes, it can be done, but it takes work. You’re going to have to be searching for off market deals or putting in a ton of extremely low offers on our market deals, and it’s just going to take a long time to find that. So it sounds like you need to A figure out what kind of risk reward you want, and B, when is that timeframe that you’re looking to get paid? Because a burr is going to take a longer period of time. A flip can be a whole lot shorter, but a flip is going to be a bit riskier, so you’ve got some decisions to make for sure.

Dave:
Honestly, once you figure out the goal, I know it sounds boring and no one really wants to think about it, but I promise you it sort of just makes every question after that easy, you’re like, okay, should I buy this? You have this frame of reference that you can analyze any question through. It’s like, should I buy this deal? No, it doesn’t meet my goal. Should I buy this deal? Yes, of course. It gets you over analysis paralysis, it gets you over that overwhelm feeling, so just take the time and think through what you really want to accomplish here.

Henry:
Alright, well, we’ve got time for one more question, but before we get there, we’ve got to take a quick break. All right. We are back on the BiggerPockets podcast answering your questions from the forums, and we’ve got one more question and it comes from an investor named James in Seattle. James says he’s looking to buy his first house hack in the Seattle area and is finding it incredibly hard to find a property that will cashflow positive when he moves out. He says, I’ve had agents and lenders tell me that’s a pretty great deal when I would be getting negative $1,400 a month in cashflow. How am I supposed to continue buying a house hack every year or two if I’m racking up more and more payments? Am I supposed to buy the house and hope that I can eventually rent and refinance, help me make a deal in this expensive market?

Dave:
Well, first of all, I love that this comes from someone named James in Seattle. I love the idea of this just being James Dnar submitting questions to us many. What’s this whole cashflow thing?

Henry:
There’s no juice in the cashflow, guys.

Dave:
There’s no juice, but seriously, James, I live in the Seattle area and I sympathize. My short answer to this question is, this does not sound like a good deal. I wouldn’t do it if I were you. I don’t know what else to say. Henry and I actually recorded a show last week talking about house hacking popular topic five, 10 years ago. There was almost no situation or no market. I would advise against house hacking. It was just a no-brainer. Check the box, go do it. But in the expensive, the truly expensive markets in the country right now, these are Seattle, California, New York, Austin, Miami, these kinds of markets, it does not make sense. I have literally done the math and it does not make sense to buy house hacks. I know BiggerPockets is partially responsible for this mindset where we’ve been telling people the house hack for 15 years
And still for 80% of the population. That is true, but if you’re in one of these uber expensive markets, it doesn’t make sense. You have two options in my opinion. You either do heavy value add strategy, which is what I have resorted to since moving to Seattle. This is why I started flipping houses for the first time because you absolutely can make money in Seattle doing that strategy or you have to invest out of state. This is why I do both. I invest out of state for cashflow and for long-term rentals. I am trying my hand. I wouldn’t say I’m a flipper yet, but I am dabbling in flipping a little bit because I do like, I enjoy real estate. I want to be doing deals where I live, and so the only way that that makes sense for me right now is to do heavy value add in the form of flipping. I’m also starting to look at value add rental properties like buying stuff that really needs a lot of work and doing that, but house hacking here, it just doesn’t work. It doesn’t make sense right now.

Henry:
Here’s the framework that I kind of look at in terms of should you house hack or not. If you’re looking at house hack deals, especially just consider a duplex. If you’re living in a place where you’re looking at a duplex and if you buy it, live in it, rent out the other unit, and your remaining mortgage payment is still as much as it would cost you just to go rent a place by yourself, you should not house hack. It’s not going to

Dave:
Work well. I wish rent here for a single bedroom was only 1400 bucks a month. It’s probably more than that, but you can rent a nice apartment in Seattle for two grand, 2,500 bucks a month, especially in the neighborhoods that James is talking about. So it’s a lot of risk and a lot of work and a lot of capital, frankly, that if you’re going to go even listed some neighborhoods here, we won’t read them to you, but you’re still going to have to, if you’re putting 20% down on these properties is over a hundred grand for sure. If I were me, I would rent and I would go find a duplex in a growing city in the Midwest and just bite the bullet. It’s not that bad. I do it and everyone can figure it out. We put out a lot of resources on BiggerPockets about how you can do this as well.
I offer this freely on biggerpockets.com/resources. I made a free calculator. It’s a house hack rent or buy calculator. Go play around with it. It will confirm what I’ve said and anyone else who’s thinking about these different options, just go play around with it. You will see that you’re putting 80, $90,000 into this deal. Even if you put that in a bond, you’re going to be making more money than this house hack deal. You should just think about the opportunity costs that you’re giving up with this. I know we talk about house hacking all the time. It does make sense, but there are situations where it doesn’t make sense. This is why no matter what you do, you have to just run the numbers and see for yourself if the math pencils out, and for most people in Seattle or LA or New York or Miami, it just doesn’t pencil right now and it’s frustrating, but there are other ways that you can win as an investor, so go focus on those.

Henry:
Absolutely. You’re right. It is our fault. We talk about house hacking all the time. It is amazing. Yeah, that’s

Dave:
Awesome. Blame us,

Henry:
But we’re being honest with you about what situations it does work and what situations it doesn’t work. So if you want to learn more about house hacking, you can check out a couple of previous episodes that Dave and I did, number 1236 from a couple of weeks ago that was all about how to analyze these specific rent versus buy decisions that we talked about today. Or you can check out episode 1182 where I talked about several ways you can add value to your house hacks and your rental properties to help you be more profitable,

Dave:
And if you want to learn how to add value in Seattle specifically, we’re literally doing a value add conference in Seattle because this is such an important question. This is a question, James, that we hear all the time, and that’s why James Dard one of the best value add investors out there and who does it in Seattle makes more money than Henry and I combined is teaching us how to do this. So it’s March 28th. You can get your ticket at biggerpockets.com/seattle. Henry and I will both be there. Henry will be teaching. I’ll be in attendance learning and hope to see you guys there as well. I personally am going to go start enjoying the benefits of indoor heating and shed a couple layers. But thank you all so much for listening to this episode of the BiggerPockets Podcast. We’ll see you next time.