How much to borrow when appraisal comes high?

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How much to borrow when appraisal comes high?

David Fernandez
Real Estate Agent · Vienna, VA · Member since 2016 · 289 posts · 253 votes

Hi!

When you are refinancing a property and the appraisal value comes back way higher than your purchase+repair costs; how much will you borrow? The max the bank gives you to continue growing your portfolio? A prudent amount to make sure your property never goes under water if there is market crash? A loan amount with a debt service that allows your property to cash flow nicely? Other?

This is a decision I need to make very soon. I'll try to summarize it as much as I can to not bore you with the details. Here it goes:

- We bought two adjacent MF buildings (13 units total) in Bolton Hill, Baltimore this past August for $725k. We thought it was an incredible deal, even though we had to do work in the units that were dated. 

- We purchased it cash, since we could not find the financing necessary to close by the agreed closed date. We needed some money from a few investors to help us with the gap between our capital and the purchase price.

- We have increased the rent income from $6,600 to $11,300 in 4 months by filling 4 vacant units (2 of them were down) and increasing rents to almost market level to the tenants we would like to keep. We expect to have a rental income of $14,000 by the end of 2018 (see next point), plus some other income from parking, Internet, and storage spaces.

- We have also decreased the expenses by $600/month passing the utilities to the tenants and improving management.

- We have put a total of $24k in the building so far, including the total rehab of the two units that were down. We plan to turnover and upgrade the rest of the units within the next 12 months.

Since the day we bough the property, I started working with local banks to refinance the property until we found the one we liked. The appraisal came back today. The "As Is" value is $1,460,000 and the "As Stabilized" value is $1,770,000. This confirmed that we got a good deal!

This are the terms of the loan:

- 5.5% fixed for 5 years, 7 year maturity, 25 year amortization (not great, but the bank is extremely investor friendly and has great products that will help us grow our portfolio faster). Prepayment penalty before year 3.

- The bank is willing to lend up 70% of the "As Stabilized Value". They put a cap of $900,000, but may be willing to lift it since the LTV now is ~50%.

Our main goal is to keep growing our portfolio (looking for a 20-50 unit building now). At the same time, all of our assets must cash flow. So, how much will you borrow in our situation??

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Ned CareyPro Member
Moderator
Investor · Baltimore, MD · Member since 2008 · 17k+ posts · 13k+ votes
8y

I would borrow up to an amount that gave me a comfortable Debt Service Coverage Ratio. Most banks will lend up to 1.15 to 1.3 depending on the market. I would want to be at least 1.3 or even higher. 

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  • Scott Dennis
    Investor · Fort Lauderdale, FL · Member since 2015 · 2 posts · 2 votes
    8y

    Borrow everything you can if you need cash for another property that you are going to acquire soon. You should still have positive cash flow if you borrow the max with $14k gross rental income. Best commercial loan I've seen recently is for a 20 year amortization, 10 year fixed rate of about 4.5%, 75% LTV, and a 1/2 point origination fee. You may be able to get the bank to tighten up there numbers a little.

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  • David Fernandez
    OP
    Real Estate Agent · Vienna, VA · Member since 2016 · 289 posts · 253 votes
    8y

    Thanks @Scott Dennis for the reply. 

    I actually had a call scheduled with the bank this afternoon and asked to review the terms due to the low LTV (less risk for them). They agreed that their risk is reduced, so they are going to lower the interest rate somewhere between 5-5.25%, which is better. They'll also reduce the index spread after the fixed period is over (this was already pretty good).

    I’ll wait to know the exact interest rate, but now I’m leaning towards borrowing the max amount and use it for other properties. This one will still cash flow, once stabilized, ~$3,000/month after all the expenses, reserves, and debt service. 

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  • Thomas S.
    Member since 2016 · 13k+ posts · 12k+ votes
    8y

    Absolutely pull out the maximum you can otherwise your dead equity will kill your cash flow.

    Even with the maximum they will allow you to pull the remaining equity will kill your returns. Truth be told you would be financially farther ahead to sell and reinvest with maximum leverage.

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  • Account Closed
    Investor · Baltimore, MD · Member since 2014 · 1k+ posts · 688 votes
    8y
    Max out as long as cash flow remains strong enough. Borrowed money is tax free income because you have to return it. Even if you break even cash flow, you profited the surplus.
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  • Ned CareyPro Member
    Moderator
    Investor · Baltimore, MD · Member since 2008 · 17k+ posts · 13k+ votes
    8y

    I would borrow up to an amount that gave me a comfortable Debt Service Coverage Ratio. Most banks will lend up to 1.15 to 1.3 depending on the market. I would want to be at least 1.3 or even higher. 

    1Reply
  • Shawn Clark
    Investor · Middle River, MD · Member since 2017 · 191 posts · 127 votes
    8y
    Originally posted by @David Fernandez:

    Hi!

    When you are refinancing a property and the appraisal value comes back way higher than your purchase+repair costs; how much will you borrow? The max the bank gives you to continue growing your portfolio? A prudent amount to make sure your property never goes under water if there is market crash? A loan amount with a debt service that allows your property to cash flow nicely? Other?

    This is a decision I need to make very soon. I'll try to summarize it as much as I can to not bore you with the details. Here it goes:

    - We bought two adjacent MF buildings (13 units total) in Bolton Hill, Baltimore this past August for $725k. We thought it was an incredible deal, even though we had to do work in the units that were dated. 

    - We purchased it cash, since we could not find the financing necessary to close by the agreed closed date. We needed some money from a few investors to help us with the gap between our capital and the purchase price.

    - We have increased the rent income from $6,600 to $11,300 in 4 months by filling 4 vacant units (2 of them were down) and increasing rents to almost market level to the tenants we would like to keep. We expect to have a rental income of $14,000 by the end of 2018 (see next point), plus some other income from parking, Internet, and storage spaces.

    - We have also decreased the expenses by $600/month passing the utilities to the tenants and improving management.

    - We have put a total of $24k in the building so far, including the total rehab of the two units that were down. We plan to turnover and upgrade the rest of the units within the next 12 months.

    Since the day we bough the property, I started working with local banks to refinance the property until we found the one we liked. The appraisal came back today. The "As Is" value is $1,460,000 and the "As Stabilized" value is $1,770,000. This confirmed that we got a good deal!

    This are the terms of the loan:

    - 5.5% fixed for 5 years, 7 year maturity, 25 year amortization (not great, but the bank is extremely investor friendly and has great products that will help us grow our portfolio faster). Prepayment penalty before year 3.

    - The bank is willing to lend up 70% of the "As Stabilized Value". They put a cap of $900,000, but may be willing to lift it since the LTV now is ~50%.

    Our main goal is to keep growing our portfolio (looking for a 20-50 unit building now). At the same time, all of our assets must cash flow. So, how much will you borrow in our situation??

    I enjoyed reading about the property. Sounds like you are doing well with it and if you can cash flow $3,000/mo. with max money out, then why wouldn't you do it? It's the only choice that works with your goal of building the portfolio.

    The (obvious) reason the appraisal came in so high is because you got such a good deal and have done a good job of improving it. The previous owner was (also obviously) not doing the best job with it.

    Just make sure you are extra safe with reserves initially, if you need to be. Problems can creep up and extra reserves are never a bad thing.

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