Using Equity in primary home to purchase STR investment?

Question

My wife and I have a paid off home that will probably appraise in the range of $1.1M to $1.2M.  Our Financial Freedom plan has us looking to purchase one STR investment home per year.  (We purchase our first one last year.)  We could wait to save for our next down payment or tap into the equity in our primary residence.  How would we perform the analysis on potential deals to cover the cost of a new equity loan.  Is it just a debt service on the new property?  Would it make sense to purchase the new property outright (cash), perform any necessary rehab, then refinance to pull out initial investment??  Obviously the numbers need to work, but we are concerned about the blind spots in this strategy we don't see.

Andrew Freed · Answer

@John Semioli - I personally like the HELOC approach. I used this approach to purchase my last 4 deals.

When it comes to HELOCS, the magical thing about them is they are interest only. Hence, from a lender perspective, your DTI is only affected by the interest only payment and not principal + interests. This allows you to borrow more conventionally while still leveraging most of the equity in your home, which can go up to 100% LTV. HELOC's also don't have any closing costs and are super easy to grab from.

The caveat I would like to mention is, in this high inflationary period, it is probably best to pay off a variable line of credit as soon as possible. Given the extraordinary rise in interest rates in the short term, interest rates are only expected to rise. Don't plan on holding onto a large balance on the HELOC for a long period of time b/c those interest only payments could creep up depending on the landscape of the market.

Mitch Davidson · Answer

@John Semioli, I like @Nathan G.'s approach as well. I actually just did the same for my primary. I replaced the old HELOC with a new and larger one, and then used some of the new HELOC for a down payment on an STR. Planning to pay it back quickly.

Why didn't I do a cashout refinance instead? Working for a large lender, I surely could have obtained a good rate. I opted for a HELOC because of the following:

(1) I could go up to 100% LTV for the HELOC, unlike a conventional cashout where the limit is 80%,

(2) my mortgage rate was already very low, so I didn't want to increase my rate for the bulk of my debt just to get a comparatively small amount of cash,

(3) I only pay interest for HELOC money that I'm using, unlike a cashout where I'm paying interest for all of the cash even if some of it isn't yet being utilized,

(4) It seemed likely that I'd be shopping for several months before landing a deal (which proved true), meaning if I took the cashout approach instead of HELOC I might pay interest on the cash for many months before putting it to use,

(5) HELOCs often don't require a full appraisal, which makes life easier (hard to keep the primary presentable with kids!), and

(6) once I payoff the HELOC my overall monthly nut for the home goes down, unlike the cashout approach where principal reduction doesn't help me lower the payment.

Hope this helps. If you end up looking to buy an STR in the Asheville area, or any other market in the southeast, I'm happy to help you think on markets, connect to an STR savvy agent, help with mortgage planning, etc.

Nathan Gesner · Answer

I would consider a line of credit against the equity in your home. It's like a credit card: no payments except to pay back the money you spend. This gives you the ability to purchase something quickly by simply writing a check. Renovate, rent it, refinance it, pull your equity back out and pay off your line of credit. Rinse and repeat.

Chris Suharlim · Answer

Andrew, any recommendations for HELOCs that go up to 100%? I’m also in worcester area like you, and all people I called are up to 75%. Thanks!

John Semioli · Answer

Thank you Suzanne!

Suzanne Player · Answer

I would be careful about adjustible rate debt in general, because with inflation it's looking like they're on an upward trend, although still low

You'll want to work with your CPA on setting this up & any tax questions regarding the interest payments, if they'd be debt service on the new property

The longer you need the money & the more money you need, the more likely a low fixed rate mortgage would be the better option, [between that and an adjustible home equity line of credit (heloc) if you're considering the 2 types]

But some banks offer a loan within a line on their helocs - if you use a big portion of the line you can call them & fix the rate have a scheduled payment each month, which includes principal.  Chase bank at least used to offer these, you were able to do up to 3 loans within your heloc, I don't know what they currently offer.

I would recommend talking to an experienced mortgage banker or broker & getting the specifics on the costs & potential payments.  I'd use a higher rate than the current market rate (perhaps add .25% to your calculations) in case rates move up by the time you take out the loan.  If you should want any referrals feel free to message me in BP.

A good exercise is to write out the different scenarios on paper - Scendario A - use a cash out refi at a fixed rate, Scenario B - HELOC, Scendario C? - sell other property like stocks or mutual funds, collectibles, etc, or a combo

Using Equity in primary home to purchase STR investment?

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