An important strategy seasoned multifamily investors regularly use is the “Value-Add” play, which consists in taking an under-performing property which is under-managed, has deferred maintenance and usually its rents are below market, and significantly increasing its value by improving its condition and NOI by increasing rents and reducing operating expenses. This is where there is much money to be made, especially when the property is acquired at well below market value.

A very common approach investors take in this type of situation to obtain a combination of both conventional (private lender) and CMHC-insured financing. The investor will first obtain a conventional loan for a short term, perhaps somewhere between 6 months to a year, to purchase the property and complete strategic improvements that will enable him to increase rents and the value of the property accordingly. The interest rate for this type of short-term loan will be higher than for a longer-term loan, perhaps in the 12% to 13% range.

Once the improvements are completed the investor can then apply for CMHC-insured long-term refinancing for the subject property based on the ‘as-improved’ value. This means that the loan-to-value (LTV) will be based on that higher value which will translate into a higher loan amount for the borrower at a significant lower interest rate because it is CMHC-insured. It often means that the investor not only recovers its costs to improve the property, but may also be in a position to effect an ‘equity takeout’, that is to take additional funds out over and above the financing and improvements costs and, as in the example below, have some equity in the deal.

The deal below is an actual deal I have seen myself. Not mine unfortunately! The ROI on this deal was tremendous and this type of deal is clearly rare but possible. I’m including it here just to show you that the potential exists.

Assumptions of the deal:
– Property is purchased for $1,500,000 using a conventional loan;
– $300,000 in equity (down payment or cash in) in the property;
– Conventional financing on the property is $1,200,000 plus the financing cost for a 6-month loan (12% interest rate, 25 yr amortization) is $30,000;
– The improvements cost $200,000 to complete;
– The ‘as improved’ value of the property based on CMHC’s lending value is now $2,000,000;
– At the maximum LTV of 85% on CMHC-insured financing, the maximum loan amount available is $1, 700,000;
– Accordingly, the investor can now do an equity takeout of $500,000 calculated as follows:

$1,700,000 (85% LTV based on improved value of $2,000,000))
$1,200,000 (existing financing)
$500,000 in Equity takeout
Equity take-out disbursed as follows:
$200,000 In improvements
$30,000 In cost for financing the conventional loan for 6 months
$79,150 For CMHC premium and fee
$309,150 Sub-total
$190,850 Re-captured equity from initial down-payment of $300,000
$500,000 Total

BUT WAIT! You still have to factor in the equity of $300,000 that’s in the deal as a result of the ‘as improved’ value because CMHC only financed 85% of that value. So this investor just made $190,850 in equity and acquired a multifamily property:

$2,000,000 Current value
$1,700,000 CMHC first mortgage
$300,000 Equity “on the books”
less $190,850 Equity re-capture
$190,150 Net cash equity remaining in the project

The bottom line is that the investor in this value-add play has acquired a multifamily property for $109,150 of their own cash and still have $190,850 in equity in the property ($300,000 – $190,850).
TOO GOOD TO BE TRUE! Well as I said above this based on an actual deal. Wish it had been my deal!
Just came back from the REIN Multifamily bootcamp in Toronto where I was one of the speakers. It was a fantastic event offering tremendous information. One question I was asked often by people is how do I get started in investing in multifamily properties? In post #5, I will give my recommended steps in this


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