HELOCs for down payments—the perpetual stall?

Question

Newbie investor here. It dawned on me that if I pull out a HELOC to make a down payment on a rental property, and then finance the rest of the property, there will be no actual cash flow, at least for a number of years. :(

Here's what I mean. Say I purchase a duplex for $250k with a down payment of 25% since it's a multi-family ($62,500). Rentals cover the mortgage, property maintenance, and property management. But the down payment comes from the HELOC, and the property cashflows at $250/month. That means my cashflow is not going to me at all but to the HELOC, and it's insufficient for that—it would take 250 months, or almost 21 years!

I wondered if a fix-and-flip is a better option in my case, where I can use proceeds from the sale as seed money to pay off the HELOC, rinse, and repeat; but I can see how that would get into an endless pattern. I'm sure I'm missing something big as other investors don't seem to have this problem. What am I missing?

Jim Kalish · Answer

How you use the HELOC and your own money should be part of your business plan and well laid out.  But as for me I look at HELOCs as ready short term cash, not for the long haul. If you are looking to finance a property with the equity in something else you may want to consider a cash out refi.  In my area if you can't buy for cash, you can't buy.  Or at least nothing you are going to make any money on.  And the MLS isn't the place to find it.  So my approach is to find an off market property to ether buy and hold, usually small multi-family, or a flip, usually a signal family.  Then use your HELOC to either buy it in cash or use the HELOC as a down payment with a private money lender.  A private money lender's first concern is the property, not your credit score.  You will have to show you can pay the note back in 6-9 months and make the somewhat larger monthly payments during that time.  But if he is in at 70% of ARV he is usually pretty easy t work with. But you are leveraging your HELOC.  Then when you have fixed up the distressed and under-valued property, and yes that is what you ill need to buy, you wither do a cash out refi on the hold and replenish the HELOC or flip it and replenish the HELOC.  If you find the right property, which takes a lot of effort, you end up with either real cash flow or a nice chunk of change without risking any of your own money.  Now just do it all over again.  Oh wait, did I just describe BRRRR?

One last thing.  You never said if it was your primary home or an investment property that you were going to pull the equity from.  HELOCs on primary are pretty easy to get.  Right HELOCs on investments are almost non-existent.  I just got one from PenFed but they have stopped taking new applications.  TD Bank is still doing them though.  75% LTV and 43% DTI.   Matthew Paterno.  BP won't let me give you his info so you need to look it up.

Conner Olsen · Answer

@Doug Fluckiger A good rule of thumb I've seen when using a HELOC for an investment is to be able to pay it back within a year. This can be done by flipping a property, BRRRRing, or purchasing a short-term rental with high cash flow. I would not recommend using it on a property with such little cashflow because the interest rate is variable and can easily eat away those returns and now you have a negatively cash flowing property.

Craig Clinton · Answer

Welcome aboard!

First, it sounds like you are buying a turn-key property.  You should be looking for a fixer-upper at a lower purchase price that you can BRRRR (Buy, Renovate, Rent, Refinance, Repeat).  I wouldn't buy turn-key.  With the BRRRR method, once you refinance hopefully you can pay yourself back the full $62,500.

Also, cash flowing $250/month is not enough.  You should be looking for 3x that.  You have property management as an expense.  It's only a duplex so can't you manage it yourself?  That will increase cash flow.  Also, you can house-hack it.  Live in one side while fixing the other and then switch.

Good luck!

Kevin Sobilo · Answer

@Doug Fluckiger, if you are investing in a $250k property to get $250 in cashflow then you are on the wrong track from the start! I would be thinking 4x times that maybe more.

Also, lets pretend you're buying within an LLC. When you take your $250 cashflow out of the LLC that is an owner's distribution. At that point its REAL cashflow that you have taken as a profit from your investment. The fact that you choose to use it to pay down your personal debt (HELOC) doesn't change the fact that you made $250 in positive cash flow.

Where you get your startup money doesn't impact your cashflow. If you had $62,500 in savings to use as start-up money would you say it will take you 21 years to pay my savings back so there is no cashflow?!?

So, your HELOC is personal debt not debt related to your investment business.

Also, I'm sure you can find loans with 20% (maybe 15%) down to purchase a duplex.

And your property may appreciate over time and you will pay down the loan. So, you can later on refinance out money for another down payment. You may also improve the property by rehabbing it to increase its value.

Benjamin Aaker · Answer

Great conversation here. I'd like to add that the investor isn't always looking for cash flow. Many times, the smarter move is to maximize equity build. One example of that is to take on a mortgage with a shorter amortization - you pay more monthly (less cash flow) but build equity faster.

Jim Kalish · Answer

A single family refers to a home that has just 1 unit. In other words what you are probably living in now. Technically a single structure with 4 or less units is a single family home from a tax and code perspective. But when I say a single family home I mean the very basic. I building. I house. I family. A residential multifamily is a 2-4 family unit.

Doug Fluckiger · Answer

Thanks, Craig. Good point about the fixer-uppers. It's out of state so house-hacking wouldn't be an option. I am having trouble seeing how I can cashflow ~$750/month on a $250k property …maybe because it was a fixer-upper? I'm grateful for everybody's input here.

HELOCs for down payments—the perpetual stall?

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