Glossary

Bad Debt – Uncollected money owed by a tenant after move-out,

Bridge Loan – Typically short-term mortgage loans used until a borrower secures permanent financing.  This loan is used to reposition a property that doesn’t qualify for permanent financing.  Bridge loans generally have higher interest rates and are usually interest only loans.

Capital Expenditures (CapEx) – Funds used to improve or maintain a property that extends the useful life of the property.  Examples of CapEx expenses are replacing roofs or air conditioner units, repaving the parking lot, residing buildings, etc.  Examples of maintenance items that are not considered CapEx include cleaning supplies and light bulbs as they are regular maintenance items.

Capitalization Rate (CAP or CapRate) – Rate of return based on the income that the property is expected to generate.  Calculated by dividing net operating income by the current market value of a property.

Cash Flow – Remaining revenue after deducting operating expenses capital reserves and debt service payments.

Cash-on-Cash Return (CoC) – Rate of return based on cash flow and equity investment.  Calculated by dividing the cash flow being produced by the property by the initial equity investment.

Closing Costs – Expenses buyers and sellers incur to complete a real estate transaction in addition to the purchase price of the property.  Typical expenses include origination fees, application fees, recording fees, attorney fees, underwriting fees, due diligence fees, and lender fees.

Concessions – Credits are given to entice tenants into signing a lease.  These credits are used to fill vacant units.

Cost Approach – Method of calculating a property’s value based on the cost to replace or rebuild the property.  Also referred to as the replacement approach.

Debt Service – Annual mortgage amount paid to a lender which includes principal and interest. Principal is the original sum borrowed and interest is the additional charge for borrowing the principal amount.

Debt Service Coverage Ratio (DSCR) – Ratio commercial mortgage lenders use to evaluate and qualify a deal for financing.  The DSCR measures how much cash flow will be available to cover debt service.  Calculated by dividing the net operating income by the total debt service.  A DSCR ratio of 1 means the cash flow should cover the debt payments.  Lenders typically expect a minimum DSCR of 1.2 to get a loan.  A better ratio may qualify the borrower for better terms.

Depreciation – Decrease or loss in value due to wear, age, or other cause.  Depreciation expense is often used to decrease income tax due.  Depreciation on a multifamily asset is split between all investors and sponsors based on their ownership percentage and is listed on the K1 form received by each investor.

Distressed Property – A non-stabilized property.  The economic occupancy rate is below 85% due to poor operations, tenant problems, outdated interiors, exteriors or amenities, mismanagement, and/or deferred maintenance.

Disposition – Refers to the sale of an asset (property).

Distributions – Funds paid out to investors. May be paid monthly, quarterly, or annually as well as at refinancing and/or sale.

Due Diligence – Process carried out by general partners to confirm underwriting assumptions and business plan as well as to determine if the property is as represented by the seller and is not subject to environmental or other problems.  It includes a physical review of the property and an audit of the financial records including tenant leases.

Earnest Money – Payment by the buyer to the seller to indicate their intention and ability to carry out the sales contract.

Economic Occupancy Rate – Rate of paying tenants based on total possible revenue and actual revenue collected.  Calculated by dividing effective gross income by gross potential income.  As opposed to the physical vacancy rate, this rate includes both vacant units and occupied units where the tenant is not paying.

Effective Gross Income (EGI) – Also referred to as total income or total revenue.  Calculated by subtracting revenue lost due to vacancy, loss-to-lease, concessions, employee units, model units, and bad debt from gross potential income (gross potential rent plus other income).

Employee Unit – An apartment employee’s unit rented at a discount or for free.  Considered part of the employee’s compensation in addition to their salary.

Equity Investment – Upfront costs for purchasing a property.  Typically include mortgage loan down payment, closing costs, financing fees, operating account funding, and fees paid to the general partners for putting the deal together.  Also referred to as initial cash outlay.

Equity Multiple (EM) – Rate of return based on total net profit and equity investment.  Calculated by dividing the sum of the total net profit (cash flow plus sales proceeds) and the equity investment by the equity investment.

Exit Strategy – Strategy the general partnership will take at the end of the determined business plan term.  This normally consists of selling the property.  Other exit strategies are the managers buying out the investors or trading this property for a different property.  The planned exit strategy should be spelled out in the Private Placement Memorandum and agreed to before the purchase of the property.

Financing Fees – One-time fees charged by the lender for providing the debt service.  Typically about 1.75% of the purchase price.

Forced Appreciation – Occurs when the net operating income is increased by increasing revenue and/or decreasing expenses.  This is a key component of the profitability of multifamily investments.

General Partner (GP) – Active member of a partnership with unlimited liability.  Usually a managing partner active in the day-to-day operations of the business.

Gross Potential Income – Potential revenue if the property was 100% leased year-round at market rental rates plus all other income.

Gross Potential Rent (GPR) – Potential revenue if the property was 100% leased year-round at market rental rates.

Gross Rent Multiplier (GRM) – Number of years for a property to pay for itself based on gross potential rent.  Calculated by dividing the purchase price by annual gross potential rent.

Guaranty Fee – Fee paid to a loan guarantor at closing for signing for and guaranteeing the loan.  The standard guaranty fee is 0.5-5% of the principal loan balance paid at closing and/or 5-30% of the general partnership.  The size of the fee depends on the business plan, the guarantor’s relationship with the syndicator, and the type of debt (recourse vs. non-recourse).

Holding Period – Amount of time the general partner plans to own the apartment from purchase to sale.

Income Approach – Method of calculating a property’s value based on capitalization rate and net operating income.  The value of a property can be calculated by dividing net operating income by capitalization rate.

Interest-Only Payment – Monthly payment for a mortgage loan where the lender requires the borrower to pay only the interest on the principal.  The balance may be due on sale, refinancing, or at the maturity of the loan.

Interest Rate – Amount charged by a lender for using their funds to finance a property.

Internal Rate of Return (IRR) – A property’s IRR is an estimate of the value it generates during the time of ownership.  IRR is basically the time value of money.  Real estate investors often calculate IRR to compare different potential investments to determine what is the most profitable opportunity.  The investment with the largest IRR is considered the most profitable opportunity.  For example, an investment that doubles in value over 5 years normally has a higher IRR than an investment that doubles in value over 10 years.

K-1 Tax Form – IRS tax form issued annually to report each partner’s share of partnership earnings, losses, deductions, and credits. Each investor of a multifamily investment will receive a K1 for their share of the property.

Letter of Intent (LOI) – Non-binding agreement generated by the buyer proposing their purchase terms. Once a LOI is agreed to and signed by both properties, a formal binding contract is created and signed by both parties.

Limited Partner (LP) – A partner whose liability is limited to the extent of their share of ownership.  In a real estate syndication, a limited partner is a passive investor who funds a portion of the total investment.  Their liability is limited to the amount of their investment.

Market Rent – Rent amount a landlord may reasonably expect to receive and a tenant may willingly expect to pay for tenancy.  This is based on comparable rents at similar apartment communities in the area.

Multifamily – Multifamily properties are a classification of housing where multiple separate housing units for residential inhabitants are contained within one building or several buildings within one complex (i.e., apartment complexes).

Net Operating Income (NOI) – Calculated by adding all revenue (effective gross income) from a property and subtracting operating expenses. This may or may not include Capex reserves.

Non-Recourse Loan – A loan in which the borrower is not personally signing a guarantee.  The lender generally has no recourse to pursue the borrower in default beyond the real estate collateral for which the loan was made.  This typically only applies to real estate loans over 1 million dollars.

Operating Agreement – Document outlining responsibilities and ownership percentages for both general and limited partners in syndication.

Operating Expenses – Costs of running and maintaining an investment property. Typically include payroll, maintenance/repairs, contract services, marketing, administration, utilities, management fees, taxes, reserves, and insurance.

Passive Investing – Placing capital into a real estate syndication that is managed entirely by general partners.

Physical Occupancy Rate – The relation of occupied units to the total number of units at the property.  Calculated by dividing the total number of occupied units by the total number of units.

Preferred Return – Returns distributed to Investors at an agreed-upon percentage before distributions are made to general partners.

Prepayment Penalty – Clause in a mortgage contract stating that a penalty will be assessed if the loan balance is paid off early.

Price Per Unit – Price per unit for purchasing an apartment complex.  It is a method of comparing competing properties, assessing value, and weighing returns between investments.

Private Placement Memorandum (PPM) – Legal document provided to prospective investors detailing the investment opportunity.  The PPM typically contains a brief summary of the property, general partner information, description of the business plan, risk factors associated with investing, the legal agreement, and the subscription agreement.  The PPM details how the profits will be distributed.

Pro-forma – Projected financial statement itemizing revenue and expense items, typically for each year of the investment.

Property Management Fee – Ongoing monthly cost paid to a professional property management company to manage day-to-day operations of a property.

Ratio Utility Billing System (RUBS) – A way to bill tenants back for utility costs paid by the property owners.  RUBS are based on occupancy, unit square footage leased, or a combination of both.

Recourse Loan – In contrast to a non-recourse loan, this is the right of a lender to pursue personal assets above and beyond the collateral if the borrower defaults on the loan.

Refinance – Replacing an existing debt obligation on a property with a new loan, often with different terms.

Rent Comparable Analysis (Rent Comps) – Analyzing rental rates of similar properties in the area to determine market rents per unit at the subject property.

Rent Premium – Increase in rent amount upon completing upgrades and renovations to the subject property.  Can also be used for more desirable units.  For example, the first floor vs the second floor, ocean-facing, pool facing, etc.

Rent Roll – Spreadsheet or document detailing each of the units in an apartment complex.  Typically includes unit numbers, unit type, square feet, tenant name, market rent, actual rent, deposit amount held, move-in date, lease-start/end dates, and current status.

Reposition – Strategy employed by the general partners of a property to change the position of the asset in the market by adding value and/or rebranding the property.  This includes adding amenities such as a dog park or upgrading units with better appliances, countertops, fixtures, etc.

Return on Equity (ROE) – Measure of performance calculated by dividing net income by shareholders’ equity.

Return on Investment (ROI) – Measures the probability of gaining a return from an investment.  It is a ratio that compares the gain/loss from an investment relative to its cost.  A high ROI means the gains compare favorably with its cost.

Sales Comparison Approach – Means of calculating a property’s value based on similar properties recently sold.

Sales Proceeds – Profit collected at the sale of a property.

Self-Directed IRA (SDIRA) – Individual retirement account administered by a custodian or trustee, but directly managed by the account holder.  The SDIRA can hold a variety of alternative investments typically prohibited from regular IRAs such as investing in real estate.

Sophisticated Investor – An individual determined to have enough experience and knowledge to assess the risks and merits of an investment opportunity.  Normally applies only to non-accredited investors.

Split – Percentage of capital distributions from operations and profits that are split between general partners and limited partners in a syndicated deal.  A typical split would be 70/30 which is a 70% payout to limited partners and 30% to general partners.

Sponsor – Individual or team originating the investment opportunity.  They are responsible for finding a property, getting it under contract, performing due diligence, financing, ensuring the property is managed to meet performance expectations, and regularly updating investors on the progress of the property.

Syndication – Temporary financial alliance registered with the Securities and Exchange Commission to handle a large apartment transaction that would be difficult or impossible for the entities involved to handle individually.  Allows individuals to pool their resources and share risks and returns.  In apartment syndication, a typical partnership is between general partners (GP – active syndicating agents) and limited partners (LP – passive investors). Syndications are regulated by the Securities and Exchange Commission.

Subscription Agreement – A document that is a promise by the LLC that owns the property to sell a specific number of shares to a limited partner at a specified price and a promise by the limited partner to pay that price.

Underwriting – The process of evaluating a property to determine an offer price and projected returns.

Vacancy Loss – Revenue lost due to vacant units.

Vacancy Rate – Percentage of vacant units.  Calculated by dividing the total number of unoccupied units by the total number of units.

Value-Add Property – Property presenting an opportunity for added value by increasing cash flow and/or decreasing expenses through improvements to its operations and/or physical property.

1031 Exchange – Allows an investor to sell a property, reinvest the proceeds in a new property and defer all capital gain taxes.