WS1860 Scaling Multifamily Investments | Highlights Wes Mabry & Tom Higgins

In this highlight episode, join us on an exclusive journey through the dynamic world of real estate success with Tom Higgins from Terra Capital. Witness the transformation from a modest beginning with a simple real estate license in college to becoming a trailblazer in multi-family commercial real estate. Tom's expertise lies in aggregating sub-20 unit value properties, turning them into thriving 200+ unit portfolios in the Midwest. Discover the challenges he faced and the pivotal role of scale and buying power in the market.

In the next segment, we are joined by Wes Mabry, who guides us through the crucial realm of cost segregation for commercial real estate investors. This powerful tool involves the meticulous identification and categorization of building components, offering a strategic means to accelerate depreciation and offset income tax liability. Wes brings a wealth of knowledge to unravel the intricacies of this process, providing valuable insights that can significantly impact your real estate investment strategy. 

If you find yourself captivated by the immense opportunities in real estate and are keen to elevate your knowledge, seize the chance to join us in this enlightening exploration. Click on the links to tune in to the full episodes and gain valuable insights that have the potential to transform your real estate journey. Plus, don't forget to share this episode with anyone you know who could benefit from these insider revelations.


https://lifebridgecapital.com/2023/07/12/ws-1725-managing-18-multi-family-deep-rehabs-at-the-same-time-tom-higgins/

https://lifebridgecapital.com/2023/07/19/ws1732-boost-your-cashflow-with-cost-segregation-wes-mabry/

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Transcript

00:02 - Whitney Sewell (Host)
This is your daily real estate syndication show. I'm your host, Whitney Sewell, today. We've packed a number of shows together to give you some highlights. I know you're gonna enjoy the show. Thank you for being with us today, tom. Welcome to the show. Honored to meet you. I know you are an expert in a piece of this industry. Oh, I have many pieces of this industry. You even called yourself a multi-family commercial real estate nerd. I don't consider myself to that hive of expertise, but I appreciate that. But also I wanna dive in today on a specific skill set that man. I feel like I've seen a number of operators try to do this and it's, I think, more difficult than we all expected. Right, but before we do, give us a little more about who you are, your background in commercial real estate, and then let's dive in. 

00:50 - Tom Higgins (Guest)
Sure well. Thank you so much for having me on and excited to speak with you and add as much value to your audience as I can. My background in real estate started while I was in college. I went to Columbia University in New York City. I got my real estate sales persons license while I was at school. I always knew I wanted to get into the industry but really didn't have any clue on how to do it and that felt like the easiest path Applied to every brokerage firm. After I got my sales persons license, was able to secure a job and then yeah, I joke, but the rest was history. I leveraged the sales persons job into getting internships over the summers at a real estate investment firm, leveraged that experience after graduating to go work for one of the largest developers in New York City, really as an intern, and I held onto that job as hard as I could and was able to climb my way up there to a project manager. And while I was there I was able to work on some amazing ground up developments in the five boroughs and large what I refer to as adaptive reuse projects. Everyone's talking about this today buying Class C office buildings in Tier One cities, in my case, new York City got renovating them and turning them into live, work, play, hotel, live a lot of different versions. What we did is we converted it into a hotel and a retail component, as well as 700 plus multifamily apartments. 

02:26
After working in the private sector, I wanted to get a more kind of level up and get a broader view and I went and worked for one of the largest home builders developers in the nation. I worked for the LaNar corporation. I'm sure you're familiar and your audience is probably as familiar as well. I think they're 150 on the Fortune 500 right now and I did development for them in New York, new Jersey, connecticut and Pennsylvania. And then, early 2022, with a friend and an investment partner of mine from Columbia, I founded my company Terra Capital. 

03:04
Terra is what we refer to as a small multifamily aggregator, so we acquire sub-institutional, sub-20 unit value add properties in the Midwest, specifically Pittsburgh, columbus and Indianapolis. 

03:20
We add a tremendous amount of value to them, bringing them to top of market standards, use the same suite of prop tech across the whole portfolio and we roll them up into 200 unit plus portfolios in each city that get operational efficiencies, and I can dive into any aspect of that. 

03:42
Our goal is to institutionalize the lower middle market and I can just give one or two stats that I read in a recent industry article. By thesis-driven, that article claimed that 80% of the US multifamily housing stock is in sub-50 unit properties and only 6% of that 80% is owned by institutional groups. So what we're really targeting is kind of the fresh powder in the industry. The same way, single family home aggregators targeted the single family home space 15 years ago and I think that technology and really people's perspective, and also the capital markets and the debt markets in particular, have gotten to a point where the small multifamily aggregation strategy can actually work. You see institutional groups like Carlisle doing it in Brooklyn, you see Veritas in California doing it with institutional backing, and Tara is poised to be the one doing it in the Midwest. 

04:47 - Whitney Sewell (Host)
Love that. I like that. You know what you're looking for. Like. This is our plan, this is what we're after. I like how you just laid that out there and it's a different I would say a different business model than majority of the people that we have on the show right that are looking for larger multifamily or self-storage or whatever it may be, whatever asset class, but it's not typically, say, aggregating small multifamily like you're talking about. 

05:14 - Tom Higgins (Guest)
Let's talk to that just a moment, because speak to some of the difficulties around doing that that we may not experience, say, with buying a 200 unit apartment building Mentally the property, one individual property once you pass, really depending what MSA you're in 140 units if you're in a high price per door MSA, 180 if you're in a lower price per door MSA is the point where you can bring on full-time staff for a building right and have operational efficiencies. So I think a lot of operators, like the regional property manager for that large company or the owner of that company, likes to be able to hit the easy button in theory and hire one individual that is trained as a property manager that takes care of that one asset right. And I think you can also make the argument that the one individual asset is easier to manage because there's one roof versus 500 roofs right, that's a common argument as well. What I've seen is that the most important thing in the small multifamily strategy is scale. In the same way, you're trying to get to the 140, 180 units in that individual asset. You have to race to get there in our business as well. But once you have 400 units in a sub-market, you're buying power, your ability to get people to work for you the handyman, the service team members. You have an enormous network and you're able to kind of take advantage of that buying power in the market and it becomes a lot easier If you're at 20 units, 30 units, 40 units and it's all scattered out, even sometimes 10 units. Those are the people that we ended up buying from, because over time it gets extraordinarily difficult and people get burned down because they weren't able to hire a great regional property manager to manage the whole portfolio. They aren't able to staff service team members because they only have 10 units. So I think it's really scale. 

07:24
And then you can't compromise on your finishes. You have to renovate everything to the same standards. You have to be disciplined. You can't say, okay, this one, I'm not gonna replace the plumbing, this one I'm not gonna put in the leak sensors. You have to be very disciplined to meet a certain standard and it's something that I've always invested in small multifamily, even while I had a W-2 job. Like a lot of people, it was growing pains for me. I may save $10,000 on a renovation, but now it's a headache for many years. So I think it's important to buy an uninstitutional, inefficient space to get a low enough basis that you can renovate to your proven standards and then roll it up at scale to have buying power in the market. So I hope that answers your question. 

08:13 - Whitney Sewell (Host)
No, I love that, and it's hard to get past that 40 or 50, right, you're talking about scaling, and how have you all done that? What's the plan to do that so you don't get burnout at the 40 units? 

08:24 - Tom Higgins (Guest)
We raised discretionary fund to start, so we had proof of concept with a few small multis that me and my business partner did on our own balance sheet. Then we were like here's our strategy. We're able to buy these predominantly off market. Right now we're at around 70% off market. At the time we were probably closer to like 25% off market, just because we didn't have the engine revving the way it is today and we were able to, through friends and family and some colleagues of ours from the industry, raise enough money to be able to pass that threshold in that first fund rather than syndicating each deal along the way, and that allowed us to have the confidence to execute the business plan. I think that if we had kind of done it one off and done syndication, syndication, syndication, syndication it would have been possible, but in the Midwest with low price per unit, it would have been very difficult and we could have ran into this exact problem that you're highlighting. That was our first fund and we are on to our second now. 

09:27 - Whitney Sewell (Host)
Yeah, I love the thought behind that and the plan to be able to scale quickly to get past that burden right off the bat. But something else I want to highlight for the listener is that you have some experience. I think that's helped you in this type of business plan as well. And something you even elaborated that we talked about before we started recording is just the construction management piece. And I think even if you have, let's say, three or four 200 unit properties in one metro, that can be difficult, right. 

09:58
The construction management piece. Much less if you have duplex or sixplex or whatever that are 200 units that way that are scattered all over the city. Right. And so let's dive in there just a little bit, because I think that's helped you no doubt. I feel like that's a leg up on a business model like this where you can maybe achieve those types of remodels in the construction piece where somebody without that experience may not right Be able to have that kind of confidence. And so speak to, let's dive in on the construction management piece. Are they all deep remodels, are they? That's the type you're looking for? I think you said a Class C office at one point. Right, and speak to, let's dive into the construction management piece and what helps you to be successful doing that. 

10:44 - Tom Higgins (Guest)
Yeah, so it's unfortunate, but I would say there are very few projects that are too scary for us. I I don't remember how old to call it, 21, 22, was thrown into the middle of one of the largest adaptive reuse projects in the history of New York City and the team was falling apart, the GMP was falling apart, the construction manager just walked off the job, the architect and I'm an intern working for the development manager, the head of development that's left with this project and and I worked on that project for the for the next two to three years. Getting that level of experience that early in my career has been so extraordinarily valuable for me and the network of people in the construction industry that I have gotten out of that are really a powerful kind of powerful resource for me. If I ever have a question and it still comes up, I have some of the best architects, engineers, construction managers that are living that I can call and bounce ideas back and come up to come up to. You know the right answer, or at least a answer. 

11:58
But I would say our typical project today looks like a timber bill three-story property that was either built in if it's in Pittsburgh, in the 1930s, if it's in Indianapolis, call it the 1970s. But a lot of these properties were originally constructed as single-family homes and then over the last 70, 80 years were converted to multifamily residences. They've often been renovated at some point in that whole 100-year, near 100-year period. But really we're doing heavy value add. We have done some light value add. We don't like to do it because you are inheriting a finished product. Then it gets a little bit of-. 

12:51 - Whitney Sewell (Host)
You would rather it be a deep value add, where you're just gutting and replacing everything 100%. 

12:57 - Tom Higgins (Guest)
That's what we do. I think we have 18 of those projects going on today. But I think that, from a construction management standpoint, I train the guys that work for us the same way I was trained, and it's by running projects and doing it. I think, that you, very early on, take off the guardrails because you can often fix problems. I'll use two quick examples of mistakes that I've made that I think about a lot and it limits the amount of mistakes that I make going forward. But I think there's lessons to be learned from both. 

13:35
The first one is I one time was doing a large conversion, the one I mentioned earlier. I think I was getting confident and I was doing well. The project was going well. I was working with a structural engineer and I had the shop drawings and I had the iron workers with us. I was like, yeah, no, you're approved to put in the beam and I, by saying that, took the responsibility on as owner or owner rep, that the beam could go there. We found out that the beam could not go there, and taking down a structural beam and moving it is something that I hope no one has to go through. 

14:22
But that's really the lesson of even if you're doing well and you're succeeding in constructions like just triple check before you point and shoot, and that's been something that's been very valuable Mantra in my mind over the years and I've caught a lot of mistakes. We do a good amount of structural work. When properties are the wood is rotted and we need to replace choice. We do a lot of structural work and every piece of the structural work, from the initial scope of work, from the actual install to the final inspection. We hire a structural engineer actually to visit the site and, yes, you spend $300, $400, $500 more, but it pays for itself in the long run. To kind of catch those issues, measure twice cut once. 

15:12
Yes, exactly, I don't yes yes exactly. 

15:17
And then the second one and I'll just tell this quickly is that and this just speaks to the importance of having good people and firing quickly that's kind of the lesson I take from this we were doing. I was working for Lenard Corporation. We were putting up a superstructure in Jersey City and I was development manager had very little to do with the construction management. At this point we were pouring the 17th floor of a luxury rental building in downtown Jersey City and we had looked at the weather and everything was good, we were fine pouring it and then 2 am the weather dropped and I'm sleeping at home and my phone starts going off and the chat start going off and everyone's panicking. And we had such an amazing super construction manager and team that ever and people had kind of treated everyone so well throughout the project that everyone is able to mobilize, get heat blankets, get tarps up and within a few hours, in the middle of the night, you know, save the concrete. They cured correctly. We tested it with the structural engineer, we did sampling and you know the project continued and it's did phenomenally well and rented above pro forma and it's a gorgeous property. But if that had not happened, you would have to take out that whole entire slab. The project would have stopped, the subcontractors would have gotten hurt, the development would have gotten hurt, the insurance companies would have stepped in. It would have fully derailed it. But the ability for people to have ultimate ownership and to mobilize, you know, so quickly, I think has really been amazing and I'm very blessed now in our markets to have phenomenal contractors. And that was painful to get those types of team members. 

17:11
I think a lot of people, especially when they start out, and I was talking about this with someone yesterday. I think the longer you do construction management, the quicker you are to fire people. And that's the no one's good at hiring people. It's fake news, it's impossible. You may think you're good at hiring people but you're not. You have to be good at firing people and and you'll through that process of turn and burn and you kind of have to turn off your emotions a little bit, which is unfortunate, but through that turn and burn you can really get phenomenal, phenomenal team. So I would say like keep always be interviewing, always be getting new subcontractors, contractors, laborers, whatever it is it's not working out, don't feel bad. Maybe give a second chance. I don't even know if I do anymore. It's unfortunate, but I don't even know if I do anymore and that's been really beneficial because now we have great people in our markets. 

18:02 - Whitney Sewell (Host)
And so grateful to have you on the show. How can the listeners get in touch with you and learn more about you? 

18:08 - Tom Higgins (Guest)
Easiest is if you go to our website, usa Taracom. All is accessible there. 

18:17 - Whitney Sewell (Host)
Yes, welcome to the show. You know you are an expert in a piece of our business. It's very important. I'll just go ahead and say you know it's, it's. You know taxes, man, or where we can save on taxes, or how we structure things, is something I feel like we just can't ever learn enough about. It seems so complicated at times, but you know you're one of those experts that we have to have on our team. That helps us you know, help our investors in a massive way as well, and so we're going to dive in. Wes give us a little bit more about who you are, though maybe your background and getting to where you're at now, and let's dive in. 

18:52 - Wes Mabry (Guest)
Sure man. Thanks for having me, Whitney. My name is Wes Maybury. I'm the owner of 1245 Consulting. We are a specialty tax consulting firm that specializes in cost segregation studies. 

19:05
I started in the cost seg field back in 2006. I was a real estate appraiser at the time, worked in that capacity for about 10 years. As a real estate appraiser, I worked for one of the only firms in the country I know of that's using appraisers exclusively for cost seg. So you got good experience with the industry there, got hired away from that by an engineering firm out on the east coast and still doing cost seg, but they had me out on the road and I would take meetings with their clients, which I had never done before, and so in that I had a little bit of exposure to kind of the sales side of things and the hamster wheel started turning a little bit. And then in 2017, the tax cuts and jobs that came out ushered in the 100% bonus depreciation. I thought, hell, it sells itself now. So why not start my own firm? And I did, and it's been a wild ride ever since. We service clients nationwide and we're still a small firm. We're a team of nine just doing cost seg. That's it. That's our bag. 

20:07 - Whitney Sewell (Host)
Awesome. Well, I want to jump into. We've talked about it a number of times on the show. It's been a little bit, though, believe it or not, and so, but we'll start at a high level and maybe explain what cost seg is, why it's important to people in commercial real estate on the operator side, but maybe also for passive investors. 

20:25 - Wes Mabry (Guest)
Sure. So cost segregation is the process of accumulating depreciation to offset your income tax liability. And we do that by analyzing the building that you've acquired, identifying all of the components, spreading those components into various asset class life categories. Some of those categories you can write off quickly. Some of those are just going to take forever to get off the books. But the ones you can write off more quickly help you accumulate losses. 

20:53
Losses through a non-cash expense, that's depreciation in a nutshell. And part of the real estate strategy is to generate cash flow through income producing properties. And then one of the major benefits you get from being in that sector is the ability to offset the tax liability of that cash flow with depreciation, and it's a phenomenal tool. Oftentimes investors will use it in conjunction with the 1031 exchange, which I'm sure many of your listeners are familiar with, and it's powerful stuff, man. It helps defer income tax payments for many, many, many years. 

21:31
On the GP LP side that can you know you can see a variable of how things work. Some of the more established GPs in the game don't let the losses trickle down. They can hold them. It all depends on what you've got written up in your operating agreement. If you're a very experienced LP and you don't necessarily have to pacify your investor pool. Maybe you, you know, have the leverage to keep that depreciation for yourself, but there are other GPs that choose to distribute that and it's a lever they can pull to attract investors and also help them help their investors along in their journey by shielding the income that the properties are kicking off. So it's a good tool for GPs to use and an important one for LPs to understand. 

22:20 - Whitney Sewell (Host)
So why would you know someone use a cost segregation study versus not? And we talked a little bit about depreciation and I know it's accelerating that, but what's the case for somebody that shouldn't use it? 

22:33 - Wes Mabry (Guest)
You shouldn't use it if perhaps you are expecting a huge decrease in income, like if you, if you don't have the income to use the losses to offset. That's the reason not to use it. Sometimes it can't use it. If you're a foreign investor. You're disqualified from a well-bonus depreciation. You can still cost, say, if you have a tax exempt tenant in your building. You can't bonus depreciate, you can still cost, say you just got to do it a little slower. So there's a couple of reasons why you wouldn't want to go forward with the cost, say study. But for the vast majority of investors, this is this is a good strategy. 

23:14
There are some delineators between passive and non passive losses important things to understand. If you don't meet the IRS threshold for a professional real estate investor, then losses that you generate through real estate activity will only offset passive income and for many folks that's great. You, you get 20 G's of of disbursements a year from a, from an LP play, and then you've got, you know, some losses through depreciation. You can apply only towards that passive income. That's great, that's a good strategy. It helps you shield things. 

23:49
However, if you're a non passive investor, or sometimes an office called an active real estate investor, then those losses generated from real estate activity can offset all kinds of things, including W2 wages for you or and or your spouse. So there's some different applicability to how the losses can be used and it's important to. I always encourage my clients to run this cost, say idea by their tax professionals because they have the full picture. Oftentimes the cost set provider just has a little snippet of what's going on. So it's always good to kind of combine the cost segregation experience with the tax professional experience to see how to really pull all the levers you can to defer some income tax liability. 

24:34 - Whitney Sewell (Host)
Yeah, no, I appreciate that. Just elaborating on that, I think it's very helpful for our listeners who maybe aren't as familiar yet with what a cost segregation study is. I want us to have to do some of the step by steps. You know about getting that done on the operator side, but then you know, I was just thinking about what about? You know different business plans that may affect whether we are, or asset classes that may affect whether we should do a cost seg or not. You know whether it's a Class C, heavy value ad, versus a Class A. That's, you know, brand new right. Are we still going to do a cost seg on both of those? Or is it going to be one where you know if it's a long term hold versus short term hold, things like that? How would that affect you know whether we should do a cost seg or not? 

25:17 - Wes Mabry (Guest)
So if you're doing the Class C with the heavy lift. You've got a couple of different capital outlays. We'll call them. You've got your acquisition, that's you're buying the structure that you're going to repair or fix up or mark to mark whatever. That is an opportunity to segregate costs. You have costs there in the initial acquisition. You bought a building. It's got parking, fencing, landscaping, interior assets, appliances, flooring, millwork, window coverings all those things you should get analyzed. You can draw out losses from that. Then, when you begin to do your value add, there is another capital outlay. This may even take years as tenants move out, units turn over. You've got additional capital outlay. You've got additional opportunity to segregate costs. 

26:10
Let's look at a typical unit turn. You replace the floor. You can take some bonus appreciation on that. Maybe you change out the appliance package. You can take depreciation on that. You have a little water hookup where there wasn't one. You can take depreciation on that. Most of the stuff you do in the bathroom is not going to qualify. Your paint's not going to be able to be accelerated drywall work Maybe that's an expense item. We can talk about that later. But the point is this for the heavy lift guy, there's multiple opportunities to utilize cost segregation For your listeners. Maybe they go out and buy a value add. Absolutely that thing's ready to go. You've got some depreciation in there. It's worth exploring cost segregation for sure. 

26:54
Then, through the asset class spectrum, some perform better than others. When I say perform, I mean perform under analysis. We'll go in, we'll look at the property. We'll identify components that can be depreciated more quickly than others. The ones that perform well apartments they do pretty good. The assisted living facilities, senior communities they have some of similar elements as apartments do, but they've also got that administrative piece. They have rehab facilities in there, often full kitchens where we'll find additional opportunities for depreciation. Those are excellent performing assets. 

27:34
There's special car bouts in the tax code for your car wash listeners. You can write off the whole damn thing. I mean it's 100 percent almost. It's high Upper 90s when we think of it in terms of what can be reclassed. Car washes, quick service, oil change places, special car bouts for those. They perform extraordinarily well. 

27:56
Specialty manufacturing facilities they do great under cost seg analysis. Climate control, storage really well. Regular drive up storage still does pretty good. Your Airbnb's, your single family guys those are fairly pedestrian in terms of what we find in cost seg. The ones that don't do as well warehousing. You can walk into a building. You look left, you look right. There's not a lot there. Oftentimes there's more opportunities for depreciation outside those facilities than there are inside those facilities. Still worth doing. Quick service restaurants do phenomenally well because they're very specialized. Also, strip centers we see a lot of those the pins on the tenant mix if it's a lot of big box stores like your dollar store, your hardware store and the card and gift shop, those do fairly well. When you start adding to the mix a lot of restaurants, they do much better in terms of what you'll see reclassed. 

29:01 - Whitney Sewell (Host)
Nice. Now that's helpful. You even mentioned like an Airbnb model. Maybe think of this. And often on the show we wouldn't maybe call this commercial real estate, unless you were a scale with them. But I was even thinking about that investor who, because we all know like commercial real estate, a lot of the asset classes things you mentioned we need to do a cost seg. We're going to accelerate that for us and our investors. I even thought on the other end of that, say, I buy a single family home, we're going to Airbnb it, we might keep it. We are planning maybe to keep it long term. Right, do we still need to or could we still benefit from a cost seg on that as well? 

29:39 - Wes Mabry (Guest)
Heck, yeah, we did over 200 Airbnb's last year. The unique thing about the what it's technically called the short-term rental class is that and this will throw some parameters around it short-term rental, average lease under 30 days. So you could mess that up if you have an Airbnb and you block off six months for one tenant. So do some homework around that, make sure your average lease is under 30 days. And then, if it is, you're technically operating a hotel in the eyes of the tax code and so it actually is a commercial property and not a residential facility. And that's a great thing, because when you make improvements to those types of properties, you're eligible for qualified improvement property regulations, which is something we can dive into a little deeper if you want. 

30:31
But an Airbnb is really just a house. The duration of the lease is what separates that from just your standard rent home. We do a lot of rent homes as well. Portfolios of single-family rentals still do pretty well in cost segregation. Just to paint it with a wide brush for every 100,000 in basis, you're probably going to find in a short-term rental, 12,000 in losses in the first year. So yeah, it's worth it. 

31:02 - Whitney Sewell (Host)
Yeah, no, that's interesting. I just know there's probably a number of listeners who also have Airbnb's who have not thought about a cost segregation study on those assets, so just wanted to elaborate there. 

31:15 - Wes Mabry (Guest)
The asset class has just been smoking hot over the last few years, I think. With the frothy rate environment we're seeing some folks kind of say, hey, maybe we need to slow down this acquisition piece here, but for the most part man, we still see an absolute ton of short-term rentals. 

31:37 - Whitney Sewell (Host)
Thank you for being with us again today. I hope that you have learned a lot from the show. Don't forget to like and subscribe. I hope you're telling your friends about the real estate syndication show and how they can also build wealth in real estate. You can also go to lifebridgecapitalcom and start investing today.