The Power of Forced Appreciation
Due to inflation and a host of other factors, asset values tend to increase over time. This benefits people who own assets such as multifamily real estate because they gain wealth via the equity gained in their assets. This rise in value is called appreciation and this process is passive. Because of that, the rate at which it happens is out of our control. Or is it?
It can take years or decades to see the biggest impact. But don’t worry, while you’re waiting on appreciation there are multiple other ways owning real estate will pay you. Appreciation is still appealing as you get the equity/ wealth without doing any additional work. In a way, appreciation is a reward for being an owner of a desirable asset. But, if you’re not the waiting type, there is a way to actively speed up the process via forced appreciation.
What is Forced Appreciation?
Forced appreciation is the process of actively improving the operation of a property in order to increase income generated by the property. Multifamily apartment communities are businesses. Like businesses, they are valued based on how much income they generate. The faster you increase the net income the property generates, the faster you can increase its value. This means you can shave years or even decades off of the time needed for the property to appreciate to a certain value by forcing it to increase faster. How much time exactly? Well it depends.
“The faster you increase the net income the property generates, the faster you can increase its value. “
How do Value add investors force appreciation?
Value add investors specialize in forcing appreciation. The value-add investment strategy is based on one tenet. How can I add to the value of this property? Under-performing properties are ideal for forced appreciation. These are properties that are not generating as much income as they have the potential to generate. Value-add investors optimize the performance of these properties and are able to quickly increase their value in months to a few years. If a property is already optimized and there aren’t any ways to increase the income generated you may not be able to force appreciation. You can decrease expenses however there is a limit to how much you can decrease expenses because operating expenses are part and parcel of operating a business.
” Under-performing properties are ideal for forced appreciation”
What is the easiest way to force appreciation?
The most common method used by value-add investors to force appreciation is increasing rental income. This can be done by renovating outdated units or upgrading amenities offered at an apartment community such as a dog park, fitness center, or business center. Doing this makes living in the apartment community and the apartment itself more valuable to prospective residents. They in turn are willing to pay more to live there. This increased rental income, a rent premium, increases the total income the property generates as well as the value of the property. You can also replace non-paying residents with more credit-worthy paying residents. This doesn’t increase your income generating potential directly, but does increase the amount of that gross potential income you actually collect.