BRRRR Method Question

[Jacob Carlson]

Hello Everyone, My wife and I are new members and are excited to be a part of BP!

We currently own one SFH property in Indianapolis. We got this property through Morris Invest (They are awesome by the way) Acquisition cost and rehab for our property came to $45,500. We are hoping it will appraise for $55,000 or more. We used a private money lender to purchase it, with $15,000 of our own money. It will be done with rehab around May 2018 and we are looking to snow ball this into our next property. My question is how do we pull the equity out and roll it into our next property? I have called around to local banks and no one seems to offer a HELOC on investment properties... So would a Cash Out Refi be a good option? Which means a 45-60 wait period with a higher rate than a HELOC.

My private lender is good to help with the next property and the next property so the debt from this first property will continue to transition over to the next property as I acquire another one and they make their return. 

Is a cash out refi the best way to snowball into the next investment property?

Is there typically a seasoning period that we will have to wait for? We want to use this method and get 3 properties a year.

If I need to add anymore info that can help explain this situation let me know.

What are your thoughts? 

Thanks in advance guys!

[P.J. Bremner]

@Jacob Carlson

A couple things to be aware of when doing BRRRR:

- Non-owner occupied (investment) loans are much more strict with guidelines. You will get a higher interest rate than owner occupied, the banks will require significantly higher reserve funds (typically 6 months of expenses per property, all reserves MUST BE SEASONED - meaning they will look at 2 months of statements to make sure the funds are yours), your DTI must be low, etc.

- To pull equity out of a rental, you must have owned the property for 6 months by the time the loan CLOSES (some loan officers don't know this, it's 6 months from purchase to close, not from time of purchase until you can start the loan!). In order to get a HELOC on a rental, they may require an even longer period. Fanny/Freddy determine the 6-month guideline, but HELOCs are always portfolio loans, which means whoever is doing the HELOC will be keeping that debt in their portfolio (or selling it privately to another bank, but it will not be sold on secondary mortgage market like the regular fanny/freddy loans). When a loan is not Fanny/Freddy, the bank can make up whatever guidelines they want. For example, I recently started 3 HELOC for out of state BRRRR properties through Wells Fargo. They actually have VERY good programs for HELOCs, but their guidelines are tough. They usually want to see 12 months, but I'm asking for exceptions since I do so much business with them.

-  The cost of originating a loan is VERY high when you take a percentage of cost/appraised value at the lower property values.  For example - I was going to get 3 cash out refi on my Ohio duplexes, got quotes for 5+ lenders and everyone was about $4,500 - $7,000 in total loan fees (this is not including prorate amounts for property taxes, insurance, etc. which can bump your cash required to close up to $10k - $15k.  So that $100k I was expecting had dwindled down to $85k - $90k lol ouch!).  When you are dealing with mortgages, it's generally MUCH cheaper to originate a large loan.  The reason for this is the lender can raise the rate a tiny amount (1/8th or 1/4 point) and get lender credit to cover ALL of your closing costs and sometimes even get some cash back to you.  You'll have a slightly higher rate, but get all the money upfront which is a huge beneficial trade off imo.  If you were to bump the rate on a $100k loan by 1/4 point, the lender credit would be enough to cover your lunch at McDonald's, so generally you just bite the bullet and pay the costs.

In my personal experience, I found the HELOC product to be much more beneficial for my situation, but for very specific reasons that might not make sense for others. Wells HELOC have $0 cost associated with them and they lend 60% LTV. When I did the math, a regular cash out gave me 70% of LTV with a cost of $5k on a $100k loan. So even though I was getting 70% of my cash back, $5k (or 5%) was eaten up by loan costs so my effective LTV for cash out was only 65%, and that 5% in costs is GONE forever. I have 0% chance of recouping that cost in the future. The rate is slightly higher in the current market, if I recall the cash out was 5.675% and the HELOC will start at 5.75%. Here is the trade off though... the cash out has a 30 year fixed rate, the HELOC will adjust when the fed adjusts the rates. The HELOC is not a good vehicle to hold debt over the long haul, but is perfect for having the flexibility to pull the cash when the right deal comes up. I still own the 3 properties free and clear, but have the HELOC on them to be able to get 60% out at a moment's notice, good as cash. In the meantime, if I don't find any deals, I don't have a mortgage to pay and the cashflow is quite nice.

In the end, you have to look at what options are available to you and then determine what would work best given your future plans.  I know this was long winded, but I was able to distill 6 months of my research into a couple paragraphs.  Hopefully some of that helps!