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What Is an Asset Class in Multifamily Real Estate?
Property classes, or asset classes, describe commercial buildings. The most common commercial and residential building classes include Class A, Class B, and Class C. However, some brokers and other real estate professionals will break this down into further subcategories of Class B+ or A-.
Understanding these classes is valuable for an investor as they describe the potential risks and returns of a given property.
Asset Classification Indicators
Several factors position multifamily real estate into specific property classes. These most often include:
- Location: Asset class is relative to its market. A Class B building in one area may be considered a Class A- or B+ in another. Surrounding infrastructure also affects property classes. A Class A building built in 2003 may become a Class B+ building if a state-of-the-art multifamily building is constructed nearby. Additionally, crime rates, nearby amenities, and access to shopping and highways also affect the class rating of an asset.
- Building Age: Newer buildings (or newly renovated buildings) are positioned for a higher asset class.
- Property Condition: While building age matters, perhaps more important to property class identification is the overall condition of the building. A newer, cheaply-made building with outstanding maintenance issues can reduce it to a Class B standing. Meanwhile, an 80-year-old building having undergone thorough renovations on both the interior and exterior with high-end finishes could be labeled a Class A property.
- Occupancy: Income status and creditworthiness of a building’s tenants can impact the property class.
- Amenities: The more amenities available, the higher the asset class. These can include an on-site swimming pool or full-service spa. For commercial office buildings, these amenities may look like a ground-level cafe, bicycle storage, and on-site showers connected to a full-service gym.
- Management: Higher quality management is often found in higher residential building classes.
- Rental Income: A higher quality building attracts higher quality tenants with deeper pockets, allowing for above-average rental income and long-term leases.
- Sustainability Features: Varying levels of LEED certifications can enhance a building’s asset class.
It’s important to remember that these indicators aren’t cut and dry. Property classes are largely relative to the market and to the investor or broker with an interest in the property. However, these factors allow for a fairly standard baseline, as you’ll see in the sections below.
Class A Multifamily: What To Know
Best for long-term investors with a low risk tolerance looking to preserve capital.
Class A properties are the highest quality buildings in a given market and were built or completely renovated within the last 10 to 15 years. You can expect most of these multifamily properties to be located in low-crime areas.
With the influx of people moving out of the city and into more suburban neighborhoods, more Class A multifamily buildings are popping up in “Surban” areas – suburban areas with urban features. Such areas are typically near good schools and easy access to shopping, highways, and medical centers. Measurable population growth and jobs are also characteristic of these neighborhoods.
Class A real estate boasts a long list of quality or luxurious features including:
- High end finishes
- Ample amenities such as a pool, full-fitness workout facility, ample parking, etc.
- Unique architectural details
- Highest quality maintenance and management
- Sought-after views
- LEED Gold certification and other sustainability measures
Such features attract high-income tenants and demand above average rent with longer-term leases. Because of this, vacancy rates are typically low.
Class A Multifamily Advantages and Disadvantages
Although Class A real estate is enticing to many commercial and multifamily investors, it isn’t always within reach. Additionally, sometimes it doesn’t fit in an investor’s overall goals and portfolio needs. Understanding the advantages and disadvantages of investing in this property class can help you recognize if Class A properties are suitable investments for you.
| Class A Multifamily Advantages | Class A Multifamily Disadvantages |
| Liquidity: Low maintenance costs, high rental income, and low vacancy rates make this asset class appealing to a slew of investors – making it easier to buy and sell class A properties. | Greater Risk During Recessions: Periods of heightened unemployment leaves Class A properties vulnerable to higher vacancy rates, as more tenants move to more affordable, Class B properties. |
| “Safest” of the Asset Classes: Less capital needed for repairs paired with higher-income tenants make this the lowest risk investment of all the property classes in commercial real estate. | Higher Initial Price Tag: The high initial cost to purchase a Class A Multifamily property may require individual investors to partner with other equity investors, rather than going it solo. |
| Low Maintenance Costs: Class A properties are characterized by their lack of outstanding maintenance needs, coupled with newer features at the beginning of their life cycle. | Greater Market Competition: This property class is held by both individual investors, as well as institutional investors – heightening the overall market competition. |
Because Class A properties have so many benefits with relatively little risk, they make for an excellent choice in a new investor’s portfolio. The caveat, however, is that most new investors aren’t likely to have the capital required for such a property. In these instances, it’s best to work in a partnership with other equity investors.
One of the easiest ways to do this is by partnering with organizations that already have established real estate investment funds, such as Revolution Realty Capital.
Class B Multifamily: What To Know
Best for value-add investors with a medium-high risk tolerance looking for quicker returns.
Class B properties are older than Class A properties and have average amenities and features. They are usually structurally sound, just dated in style and floor plans.
These buildings typically have lower-income tenants than Class A real estate. They may also have lower credit ratings. Properties with business tenants may only be able to attract less-established organizations. Overall, Class B tenants are less likely – or able – to sign long-term leases. Although the tenant profile isn’t as high quality as Class A properties, this can be a benefit, as it attracts a broader range of tenants.
Since most of these properties are well located, there is great potential for returns – especially once renovations are made. As leases turn over, new owners can increase the monthly rent and improve the mix of tenants in the building.
Class B Multifamily Advantages and Disadvantages
Class B properties are sometimes considered the sweet spot for many investors. Acquisition costs are lower than Class A, while maintenance and renovation costs aren’t quite as high as they typically are for Class C properties. Additionally, Class B properties often have better cash flow than Class A, without the heightened risk of Class C real estate.
| Class B Multifamily Advantages | Class B Multifamily Disadvantages |
| Financially Sustainable Through Economic Cycles: Although every investor takes on more risk during low points in an economic cycle, Class B properties are often less vulnerable to vacancies and defaulting rent payments during these periods. | Higher Maintenance Costs Than Class A: Older buildings often have more than a few features nearing the end of their lifecycle. However, when planned for ahead of time, these maintenance costs can be bearable and even increase the value of the property. |
| Potential for Higher Cap Rate: This can be both positive and negative. But the positive is that a higher cap rate means greater risk and greater risk means greater reward. | Competition: Class B properties can attract national and local investors, tightening the competition pool and leading to greater demand (although this varies from market to market). |
| Lower Acquisition Costs: Well-maintained but outdated properties boast lower price tags than Class A real estate. | |
| Value Add Opportunity: Class B properties leave room for renovations and opportunities to upgrade to a higher class. |
Again, Class B properties are the sweet spot of property classes for most investors. However, if your investment strategy leans more towards capital preservation than appreciation, Class A real estate may still be a better option.
Class C Multifamily: What To Know
Best for investors with a high risk tolerance looking for quicker returns.
Class C properties are the oldest, most plain and run-down of all the property classes. They aren’t as well located as either Class A or Class B properties and often have a long list of problems. This can include deferred maintenance, high tenant vacancy rates, low rental rates, few amenities, and low existing cash flow.
But Class C real estate also boasts strong potential for cash-on-cash returns.
Because of the age of Class C buildings – typically 30+ years old – and the needs they require, investors can acquire them at a discounted price compared to Class A or even Class B buildings. This leaves more room for substantial renovations that, when executed well, bring solid returns.
Class C Multifamily Advantages and Disadvantages
Although Class C properties are the least appealing to the eye, their advantages are surprisingly balanced with their disadvantages.
| Class C Multifamily Advantages | Class C Multifamily Disadvantages |
| Affordability: Class C properties have the lowest acquisition costs of all the property classes, making them a viable option for an individual investor’s portfolio. | Cost of Maintenance and Repairs: Higher initial maintenance costs as well as maintenance reserves are necessary when purchasing buildings 30 years or older that haven’t already undergone substantial renovations. |
| Potential for High Returns: The long list of needs these buildings typically require allows room for increased property value once renovations have been completed. | Tenant Employment Instability: Class C buildings tend to attract lower-quality tenants – resulting in lower tenant employment stability and higher potential turnover rates. |
Investing in a Class C property requires you to have a high risk tolerance and experience in the market and industry. If you don’t have any one of these things, you’re likely better off investing in either Class A or Class B multifamily real estate. The exception to this is if you find an investment partner with more experience who will walk with you through the entire process.
Why Invest in Multifamily Real Estate?
There are many reasons to invest in multifamily real estate. These investments are often simple to finance, yield greater cash flow than single-family properties, have the potential to scale, and require a smaller time investment if you hire a property manager.
Although multifamily investing is likely your goal, if you don’t yet have the capital necessary for such an investment on your own, there are other alternatives. Investing in syndications or becoming a private lender are two such options.
However, if you can invest in a multifamily property on your own, utilizing Revolution Realty Capital’s small balance commercial loan can free up some of your capital and allow you to invest in a greater number of properties.
Before investing in any multifamily property, do your due diligence and understand your risk tolerance and goals. Doing this will help you find an investment property in one of the previously mentioned property classes best suited for your needs.
