BRRRR: My First Investment Property

[Daniel Mendez]

Hello BP,

I am currently in the process of trying to invest in my first OOS property (Indianapolis, Indiana).

I would love to find a BRRRR property.

However, it seems that people think that a BRRRR property shouldn't be your first investment property as it takes a lot of work.

In your opinion, what are some things that I need to do to make sure that my first BRRRR property is a success and not a failure?

Any advice would be greatly appreciated. 

[Ross Denman]

So... My biggest issue of the way everybody talks about BRRRR being amazing is the cash flow is usually really low unless you refinance less than you're investment or have a ton of equity and amazing rent demand. With most BRRRR's ranging from $500-$2000/year cash flow you're going to be in the hole if your tenant moves out in years 1-3. Even with $6,000 cash flow, a big tenant turn (I see an average tenant turn ranging from $1,000-$3,000 for owner responsibility,) excessive holding costs (high mortgage, lawn care, utilities, taxes, insurance, etc.,) and/or extended vacancies (tenant moves in a bad time of year, turning the unit is slow, etc.) will wipe out your reserves. Add up 3 months of mortgage payments, taxes, insurance, utilities, property maintenance, $2,000 in repairs, and if you're using a property manager... they're probably charging you something for tenant placement.

This really blows the "infinite rate of return" out of the water when you have to keep $5k liquid for reserves at all time. If it's not invested elsewhere, I have to consider it part of the cost of the investment. If your cash flow negative one year... is that a negative infinite rate of return... not sure what -$2000 divided by $0 is.

Be sure that you understand your cash flow model. I've seen hundreds of portfolios for years and the 50% rule is pretty accurate. You'll cash flow at 70% of gross income one year and negative 20% of gross income another year. Adequate reserves will offset the difficulty.

BRRRR is a good way to build a portfolio, but you will usually find that you have some long-term capital tied up in your portfolio. Be sure that you understand the cash flow. I would target mortgage payments of about 40% of gross rents if you want some kind of cash flow. You don't have to include taxes and insurance (escrowed) in the 40% as it's figured in the 50% rule already. Run every number conservative and NEVER believe the word of the person selling or brokering the house. They'll all tell you it's worth too much, will cost very little in rehab, and will rent for amazing numbers. Verify everything. Due diligence is always your responsibility!

Also, I've been hit with bad appraisals. Get your appraisals in the late summer or fall because they will have fresh data for comparisons. If you get an appraisal in Feb, they can only consider Oct-Feb sales... which for us midwest states is the slowest selling season. School year, Holiday's, and Colder weather slows things down.

When I help with deal evaluation, I consider

• Rents to be the lowest number reasonable to get the home rented if I hit the market the first of Dec (very slow time of year for most markets.)
• Prepare for a lower appraisal than you might think. It's not always the case, but it happens.
• Ensure your lender's terms. Are they 70%, 75%, or 80% LTV? What interest rates are you looking at? What amortization schedules do they offer? If you lender only offers 15 year AM's... your mortgage is probably going to be too high.
• Add at least 10% to you rehab. The larger the rehab, the more likely you will need this.

Lastly, keep it simple. Understanding your team is vital. The last thing you want to do is put ten's of thousands of dollars on the line and find out that your working inexperienced people or worse... scam artists. Ask anyone who purchased through Morris Invest.