Essential Investment Terms: Financial Freedom Defined

Hey!  Are you a doctor or a dentist, maybe a high-net-worth professional? If you haven’t added multifamily real estate to your investment portfolio, you are doing your future self a huge disservice. The first thing that any dentist should do before considering investing in real estate is to get a basic foundation of knowledge about the asset class that they want to invest in.  This is what we as doctors do, research.  Before we use a new product on a patient, a new technique, we learn everything we can about that topic. We take training on that topic before we ever try it on a patient, and that should be the same mindset when it comes to investing. At Walk of Wealth we teach dentists everything that they need to know so that they can make wise and prudent investment decisions.   This is my passion, as a successful endodontist, teaching my fellow dentist how to live the very fulfilled and meaningful life I have through investing in real estate.  My goal is to make 1,000 dentists financially free.  With that freedom you can do what you want, where you want, when you want, and with whom you want.  

In this particular blog, we’re going to talk about the different classes of multifamily real estate and which is the ideal investment for you. 

For those of you who don’t know, on our YouTube channel, we talk about what multifamily real estate is, what multifamily syndication is, and why you need to have this as part of your portfolio if you’re interested in building wealth passively.  Check out our video to learn more. 

A multifamily real estate, very simply put, is an apartment building. Everybody knows of it. Maybe you currently live in an apartment building or have in the past.  And for the sake of our conversation, we talk about multifamily real estate not as fourplexes or fiveplexes, which are also considered multifamily by some. We are talking about large apartment buildings where there’s 50 to 100 or 500 units in one property. Now, all multifamily real estate- all apartment buildings are not the same. They are generally lumped into four different classes- class A, class B, class C, class D.  We’re going to break down what each of those classes mean and which is the suitable place for you to invest your capital. 

Class A properties

Class A properties are the newest properties. They’re less than 10 years old. They have the highest amenities, and highest-quality finishes of all the classes. They tend to be in the best neighborhoods, best areas of any particular market or submarket, as well as have the best school systems. Class A properties tend to cater to white-collar clientele, high-income earners.  The business plan is aimed at cash flows and future appreciation of the building and the area that it’s in and often no value-add opportunity. Many tenants in class A properties can afford to buy their own home, and do so as their family grows, as they have children and they need more space. As a result, the turnover in class A property tends to be higher. 

Class B properties

Class B properties are also very nice properties. They tend to be in pretty good shape. They’re a little bit older than class A properties, usually between 10 to 25 years.  The tenant typically is a blue-collar worker, sometimes a lower-paid white-collar worker, overall within the middle class renter demographic. Some people call this workforce housing as this tends to be for the average blue-collar worker.  Compared to class A, they tend to have at least a little bit of value-add opportunity.  But just like class A, it more so depends on cash flow and appreciation for returns. This is often considered the sweet spot for investors where you can get the opportunity for value add and forced appreciation as well as still being a good enough area where you can expect cash flows and appreciation to occur. 

Class C properties

Class C properties are a slight step down from a class B property. Class C properties tend to cater to blue-collar workers and low- to middle-income households. Now, class C properties tend to be a little bit more outdated. The rents are below market value, and this creates an opportunity for forced appreciation or value add. By renovating the units, you can force appreciation by bringing rents from below market, to market. This delta in rents is what drives the net operating income to increase and, as a result, the value of the property.  And so you can actually force the appreciation of the property without the rest of the market going up. This tends to attract investors.  They tend to have very good returns, very good cash flows on a risk-adjusted basis. Class Cs are a slightly higher risk than class B, but they also allow for much higher returns than class B. So on a risk-adjusted basis, class C actually will probably outperform class B or A. 

Class D properties

Class D properties are ones we want to stay away from. They tend to be very old, dilapidated properties in poor parts of the market. They tend to have the lowest-quality amenities, lowest-quality finishes. The clients or renters of these types of properties tend often to have lower credit, and can often miss rent payments.  These also include Section 8 housing from governments, which has its  pros and cons and can be a whole separate blog!  It’s also important to add that a class D has the potential to have a huge upside if it’s operated by the right sponsor. By greatly improving the quality of assets, updating amenities, there is potential for heavy value add and, as a result, a higher amount of upside. But this is also the most riskiest of the four asset classes. 

Now, what’s the take-home message from this? 

We at Walk of Wealth like to focus on Bs and Cs. As tenants already are at market rent. The room for value add is just simply not there, and we depend on natural appreciation forces.  If they’re a well-located market, this is a possibility and offers an overall lower-risk profile. We prefer class B and C because we are in control of the appreciation. By renovating units, taking properties that are demanding below market rents, making the proper adjustments, and making the proper renovations, we can now raise the rents to market and create additional cash flows. 

And well, now when you’re comparing the class A to a class B or C property, you have to also look at what is important to you as an investor. If cash flows are important in a new development or a class A, cash flows may not really become substantial until several years have passed by, and the returns are more based on the property going up in value due to the natural appreciation forces of the market. Whereas if cash flow is more important to you, class B and class C property will tend to be a better fit as cash flows start very shortly after the renovation process has started.  Ultimately, it comes down to what your goals are as an investor.