Whether you’re just beginning your multifamily investment real estate journey or you’re a seasoned professional with many units in your portfolio, operating costs are an area of constant focus. Rising Operating costs have a very different impact on returns depending on property size, age and location.
Operational expenses are generally grouped into two categories: non-variable and variable. Non-variable costs are defined as those over which you have little or no control, such as property taxes, insurance, and utilities. Variable costs are those that change throughout the year and can be easily influenced by the decisions you make. Some examples of variable costs are repair and maintenance, landscaping, pest control, running costs, renovations, marketing and advertising. These costs can all be purchased, and you can decide which supplier to use based on price and quality.
Rising insurance costs are one of the biggest threats to multifamily investment returns. Insurance premiums for this industry have increased significantly over the past two years, dating back to early 2021 and escalating into 2022. Multifamily investors have reported increases of 40-50% in premiums and, in some cases, insurance premiums have doubled. Additionally, apartment owners also face increased deductibles and self-insurance limits. The combined impact? Not only do apartment owners realize lower net operating income, but they may also face the inability to secure financing for new investments. Higher deductibles will require larger capital reserves, forcing some owners to sell.
Factors behind the increase in insurance premiums
Insurance professionals attribute the following factors to changes in premium rates:
- — Natural disasters have become more frequent and more damaging, resulting in significant losses for insurers.
- — Inflation and supply chain challenges have dramatically increased the cost of building materials. These costs are transferred to the insurer in the event of a claim. Therefore, the increase in costs leads to an increase in tariffs.
- — Properties with an unfavorable claims history.
How to mitigate rising costs
Owners should develop and implement a loss prevention strategy to negotiate deductibles and minimize premium increases.
- — Simply put, maintain your property. Monthly or even weekly preventive maintenance schedules are essential to minimize costs.
- — Have a documented risk management plan. Owners who show reduced risk and efforts to minimize the frequency and severity of potential claims are more likely to get a lower rate.
- — Improvements to the property: additional lighting, fencing of the property or installation of security cameras will improve tenant safety and reduce the risk of liability claims.
Economies of scale minimize negative impact
One of the most effective ways to minimize the rising operating costs of multifamily investments is to own multiple properties. The ability to spread operational expenses across multiple properties and units can be substantial compared to a single property with a few units. Many large operators of over 100 units have not experienced the same increases in insurance costs as owners of a few properties or units. The advantage of economies of scale on operational costs for investors can be advantageous to maintain costs and/or minimize increases. Large operators only reported standard 10-15% increases in expenses such as insurance premiums. In contrast, operators of a single property and/or owners of a few rental units have reported increases of 40-50% in these insurance premiums over the past 12-18 months.
The importance of constant monitoring of your portfolio
Operating costs are a major component of any investment property asset. Having a consistent approach to monitoring trends that will impact expenses can be a key factor in maintaining positive cash flow throughout the life of your investment. Market conditions are constantly changing and so are the costs associated with real estate investing. It is important to consult with a knowledgeable commercial real estate professional who can spot gaps in your operations and help you identify the most appropriate steps to maximize revenue.
Dustin Ilic, CCIM is a Multi-Family Investment Advisor with the Visintainer Group in Fresno, California. Formed in 2018 and built on a real estate investment foundation, Visintainer Group is a client-focused commercial real estate company. The Group has executed more than $580 million in transactions across the United States. Dustin specializes in acquisitions and dispositions of multifamily properties for owners in the Central Valley and Central Coast markets. He can be reached at 559.890.0319 or [email protected]