You should request the seller's Schedule E. Even disorganized owners must file a Schedule E with their tax return to report income/expenses associated with their rental businesses.
Regarding expenses, the first thing to is ensure that you have a complete list of expenses including property taxes, insurance, property mgt, utilities (gas/electric, trash, water), payroll, accounting/legal, advertising, cleaning, gardening, pest control, & repair and maintenance. Next is to check that the amounts for each of these items is reasonable - this is typically measured as a % of the gross operating income. Check for particularly low repairs/maintenance - some sellers misclassify (not intentionally) these expenses as capital improvements as opposed maintenance making the net operating income appear larger than it should. Also call the utility companies and verify the amounts that are being reported by the seller. Make sure there is a budget for property mgt (even if the building is/was self-managed); someone managed the property and there is an opportunity cost associated with their time. Self managers sometimes do not show a property mgt. cost resulting in an artificial inflation of the net operating income, on which the value of the property is largely based.
Regarding the physical due diligence, be sure to hire certified building inspectors that will walk each unit and inspect the plumbing, electrical, roof, sewer lines, etc. Do not call your due diligence over until you have done this.
If you need help, I offer consulting services for due diligence on behalf of my clients. I have also done extensive due diligence on my own multifamily buildings as well - you can reach me at: firstname.lastname@example.org
Nov 21, 2008