Cap Rates and Mobile Home Parks: What Investors Need to Know

So you’re thinking about investing in a mobile home park. The property looks well-maintained from the outside, and the current renters seem satisfied. There aren’t many vacancies, and it looks like a good investment. But how do you know if you’re making a wise decision with your money or investing in a money pit?

You could ask other investors and real estate experts for their opinions, but they may sway you in the wrong direction. When investing in any type of real estate — especially rental properties — knowing the numbers is your best guarantee. In real estate, cap rates are a valuable tool to calculate the risk of commercial properties.

Cap rates, or capitalization rates, are percentage estimates of the rate of return on an income-generating property, such as a mobile home park rental. Real estate investors use cap rates to identify a property investment’s potential. To calculate the cap rate, the property’s net operating income is divided by its market value (or the price it is listed for). This number is converted to a percentage by multiplying it by 100.

A low cap rate signals that the property is a lower-risk investment, while a high cap rate signals that the purchase has a greater risk rate. Generally, mobile home parks in prime locations have a lower cap rate than parks in a secondary or third-tier market. Short-term leases are also flagged and tend to have a higher cap rate.

Knowing the cap rate can help investors identify the property’s ROI or return on investment. The cap rate calculator includes the property’s selling price, gross rentals, non-rental income, operating costs, and vacancies. Therefore, this calculation will give you a better sense of whether the mobile home park you’re looking at is worth your money based on the income generated by the current renters.

Below are the tax advantage considerations as well as the strategic purchase decisions that cap rates can influence for mobile home park investors.

Identify Tax Advantages

REITs own and operate income-generating real estate properties across different sectors. This includes office buildings, commercial real estate, residential properties, and mobile home parks. Because you are investing in a broad portfolio of asset classes, there can be significant tax benefits for investors.

First off, REITs don’t pay federal corporate taxes on income, and any returns on capital distributions are tax-deferred. Instead, anyone in a REIT is considered a shareholder and receives a payout as standard income instead of real estate income. You’ll receive a 1099-DIV for tax purposes. This alone can be a money-saving opportunity for those involved in a REIT.

Second, REIT shareholders can deduct a portion of their dividend income. This means they are not taxed at the full proportion, which can offer significant tax savings. This makes REITs a good investment in terms of income diversification.

Thirdly, another class of REITs is called a sub-REI, which can also provide tax benefits. A sub-REIT is a subsidiary of a REIT. It’s treated the same as a REIT for tax purposes, but the fund’s manager manages the holdings. Any income is distributed among the sub-REIT investors. As Lifestyle Investing expert Justin Donald notes, sub-REITs are worth considering, especially for investors of mobile home parks: “And, you can have a sub-REIT status, but even have like a debt deal where you aren’t paying ordinary income or short-term capital gains on those returns because you’re getting a 20%, 25% discount that exists because of that sub-REIT status. So, there are lots of interesting maneuvers on the private side where you’re saving money; you’re making more money, there’s more control.”

For some, participating in a sub-REIT is advantageous because you utilize the Qualified Business Income Deduction (QBI) on a part of the fund’s income, which can reduce your overall tax burden. Additionally, depending on the investment property, you may only need to fill out one tax form with a sub-REIT instead of various complex administrative forms. The fewer forms, the better, right?

Make Strategic Purchase Decisions

Everything may look good on paper, but you may want to rethink your intended purchase if the numbers aren’t working out. Based on numerous scenarios, a mobile home park a few miles away may have a significantly different cap rate. Cap rates are influenced by various factors, such as location, asset class, investment size and type, and anticipated economic growth. Calculating the cap rate should be done close to the purchase time to maximize the purchase’s long-term profitability.

That said, you may be looking for a high-reward investment. In this case, you may be comfortable with a higher cap rate. You may also be willing to put in the work, such as spending more time managing the property, fixing up the exteriors, and enticing individuals to rent from you. Although the hard work may be tedious, it could lead to a higher reward investment and a higher sale down the road.

However, if you’re looking for a more hands-off investment, you’ll want to properly identify a mobile home park with a lower cap rate. These parks will have more predictable returns. You can anticipate what you will get from the property if or when you decide to sell it.

If you’re investing in several mobile home parks within the same geographic location, it can be beneficial to have a mixed portfolio of high- and low-cap investment properties. This creates a “balanced portfolio,”  a strategy of investing in different asset classes to achieve a mix of growth with risk mitigation. This strategy is suitable for those who can tolerate some risk and are comfortable investing in mobile home parks for the long term.

Tips and Takeaways

If you’re a mobile home park investor, cap rates should be one of your go-to calculations before making (or selling) a property. Cap rates provide a clear direction of a property’s risk and level of return. With this, you can see if the park is worth your investment or will make a good addition to your current portfolio.

Because mobile home parks can be considered a REIT, you may take advantage of additional tax benefits. The right investment may mean more substantial yields and more accurate income stability. So, while calculating a cap rate may only be a simple math task, completing it before you sign on the dotted line can make a difference in maximizing your profitability.

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