The deal looks strong on paper. The NOI is solid. The returns clear the hurdle. The expense ratio sits at 37%.
That last number is where I stop.
A 37% operating expense ratio on a 1990s-vintage property in a high-tax state is not a sign of operational efficiency. It is a sign that something is missing from the model.
Expenses are where aggressive underwriting hides. Not on the income side, where assumptions are easier to challenge, but on the cost side, where omissions are easier to overlook.
Here is what I see most often.
Taxes at the seller’s basis
Property taxes are frequently the single largest operating expense on a multifamily asset. Most experienced sponsors account for reassessment. The ones who do not are the exception, not the rule.
But brokers are a different story.
Offering memorandums presented by brokers on behalf of sellers will often carry taxes forward at the seller’s current assessed value. That is not an oversight. It makes the proforma look cleaner and the deal look more attractive to a buyer doing a first pass.
When a property sells, many states and counties reassess the value based on the purchase price. That reassessment can happen immediately or within the first year. In some jurisdictions, properties are reassessed at 80% or more of the transaction price. The schedule and percentage vary by county, and in some cases you need to check with the assessor’s office directly to confirm how and when the adjustment will hit.
Do not carry the broker’s tax number into your model without running the reassessment yourself. Confirm the current assessed value, the millage rate, the reassessment trigger, and the reassessment percentage for that specific county. Then rebuild the line from the ground up based on your purchase price.
In one acquisition I reviewed, the broker’s model carried taxes at the seller’s rate. Once I ran the reassessment, the tax line jumped 25%. That single adjustment erased over $50,000 in NOI. At a 6% cap rate, that is more than $800,000 in implied value.
The math is not complicated. The discipline is in not accepting a number someone else built for a different purpose.
Insurance at last year’s rate
Insurance is the other line item that sponsors routinely carry forward without adjustment.
The seller’s current premium reflects the seller’s coverage, the seller’s claims history, the seller’s carrier relationship, and market conditions as of the seller’s last renewal. None of those factors transfer automatically to a new owner.
Markets shift. Carriers exit. Risk profiles change. In coastal markets, in flood zones, in regions with significant weather exposure, the gap between what the seller paid and what a new buyer will pay can be material.
Get a current broker’s quote early in your underwriting. Do not carry forward a number you did not independently verify.
Management fees set below market
The management fee line is a lever. Set it below the market rate and NOI goes up. The deal looks better. The returns improve.
A full-service third-party property management contract in most markets runs 6% to 8% of effective gross income for smaller properties and 3-5% for larger properties. Some proformas (especially on smaller properties) show none. When I ask why, the answer is often that the sponsor plans to self-manage or that they have a preferred relationship.
Self-management is a business decision, not a modeling assumption. An underwrite that does not reflect the cost of professional management is not stress-tested. It is optimized.
Repairs and maintenance set at the floor, not the reality
The floor for repairs and maintenance is roughly $500 per unit per year. On a well-maintained, newer asset in a stable market, that floor may be reasonable.
On a 1980-vintage property with deferred capital needs, original HVAC systems, and a value-add business plan, $500 per door is not a budget. It is a placeholder.
Watch for sudden drops in R&M on the trailing 12-month statement in the period leading up to a sale. Sellers know the property is going to be scrutinized. Some reduce maintenance spending to make the operating history look leaner. That history then becomes the basis for the proforma.
The question to ask is not what the seller spent. It is what the asset actually requires.
Payroll set for the plan, not the property
Payroll is where investor optimism tends to show up most clearly in the expense model.
The assumption is usually some version of: we will run this more efficiently than the current operator. Sometimes that is true. If a sponsor has other properties in the same submarket and can share staff across a portfolio, there is a legitimate case for leaner payroll. Economies of scale are real.
But a property above 70 units generally needs dedicated onsite staff. That is not a preference. It is an operational reality. Leasing, maintenance, resident communication, and day-to-day problem resolution require someone present. The larger the property, the more staff that reality demands.
When a proforma reduces headcount below what the asset actually requires, the savings are not savings. They are deferred costs that will show up in occupancy, turnover, and resident retention before they show up in the expense line.
Benchmark payroll against the unit count, the service level the business plan requires, and comparable properties in that market. If the model is running materially below that benchmark without a documented, portfolio-level rationale, that gap deserves a conversation.
Marketing expenses set to hold, not to execute the plan
Marketing is one of the first line items to get compressed when a sponsor is trying to make returns work on paper.
The problem is that marketing spend and the business plan are rarely aligned when this happens. If the strategy calls for pushing rents above current market, absorbing vacant units, or repositioning the asset to attract a different tenant profile, that plan requires active, funded marketing. It does not happen on a $50 per unit annual budget.
When I review a proforma that shows an aggressive lease-up assumption alongside a minimal marketing line, I treat that as a structural inconsistency. One of those two numbers has to give.
There is also a second layer worth examining. Dig into what is actually being captured in the marketing line on the historical statements. Gift cards, move-in specials, and other concessions are sometimes absorbed into marketing rather than broken out as a separate concession line. When that happens, the economic vacancy being presented is understated. The property looks like it is collecting more effective rent than it actually is.
Ask for the breakdown. Confirm whether concessions are being reported separately or folded into another category. That distinction changes the income picture, not just the expense picture.
What this means for your diligence
An expense ratio below 40% on a stabilized, older asset should prompt a line-by-line review, not a green light.
Compare every line item against the T-12. Ask what changed and why. Benchmark each category against market data and per-unit floors. Call the tax assessor’s office if the reassessment timeline is unclear. Get an independent insurance quote. Model the management fee at what a third-party operator would actually charge.
The numbers in a proforma are not facts. They are assumptions. The discipline is in knowing which ones have been stress-tested and which ones have been set to make the model work.
A $50,000 expense understatement does not just reduce cash flow by $50,000. At a 6% cap rate, it reduces implied value by more than $800,000.
That is not a rounding error. That is the deal.
Vessi Kapoulian
Breaking down multifamily underwriting one step at a time to create educated and empowered investors
P.S. If you would like a second set of eyes on a deal or want to sharpen your underwriting through a risk lens, feel free to connect with me.
P.P.S. And if you want to go deeper into analyzing multifamily investments step-by-step, my book and the Mastering Multifamily Underwriting program walk through this process in plain English, from acquisition to exit.