Trying to Figuring out the BRRRR Formula

[Gary Lawson]

I am a relatively new investor that has gotten my feet wet by using my own savings to buy my first deal. The deal was just okay, and now that I have the education of how to actually evaluate, buy, and rent a single family property, I want to do another deal that is much better than my first. I am really interested in the BRRRR strategy, and actually just passed up a deal that may have been a good candidate. But when I worked out my numbers, I think I had to many questions on whether or not I was understanding the strategy correctly and doing the math properly to jump on it so quickly. I was hoping that if I put some numbers up for everyone to look at on this deal, maybe you could help me with some insight on whether or not I am approaching the BRRRR strategy correctly. This way I am more prepared for the next time an opportunity like this comes up.

So here are the details of the deal:

• 3 bedroom, 1 bathroom single family property
• Listing requested an all-cash offer
• The numbers looked like this:
  • Listed on the MLS for $80,000
  • Needed about $20,000 to bring it up to meet or exceed the quality of similar houses in the area
  • Estimated After Repair Value (I think abbreviated ARV) was around $141,000
  • Similar rents range from $1,100 to $1,300

Initially looking at this, my thinking was that the $80,000 purchase price plus $20,000 rehab bill puts me at 70% of the ARV, and my understanding is 75% or under is the target for BRRRR. Slam dunk for a BRRRR strategy, right!? I think so, but my biggest question revolves around the refinance part. My understanding is since I have put $100,000 of my money into the deal, I need to try and get that full $100,000 back out of the deal with the refinance so I can do the last "R" of Repeat, correct?

Running my numbers on the refinance, here is what I think I was seeing (and please feel free to comment on any of the assumptions I used, as I don't have a lot of data to support my estimates).

• Appraised value estimated to be $141,000, and knowing I can finance up to 80% of that, I could realistic pull out up to $112,800.  I don't think I'll cash flow here, so I ran my numbers only on the money I needed to pull out to have no cash in.
• Financed amount is $100,000
• The monthly mortgage payment came out to be $435.59 per month
  • At a 5.125% rate on a 30 year loan, I calculated a 
• Net Renal Income came out to be $1,140 per month
  • I split the difference of the range and used $1,200 for an estimated monthly rent and added in a 5% vacancy rate.
• Expenditures came out to be $613.73 per month
  • I used an 11% property management fee, which was $125.40.
  • I used $120 for capital expenditure reserves
  • I used $60 per month for maintenance reserves
  • Property taxes were $225 per month
  • Insurance was $83.33 per month
• This put me at a Net Operating Income of $526.27 ($1,140 rent - $613.73 expenditures).  Factoring in the mortgage, I came out at $90.68 (526.27 Net Operating Income - $435.59 mortgage) as my monthly cash flow.

So here are my questions:

1. Am I correct in thinking that I can finance $100,000 to cover my cash in, and use the difference between the appraised value and the financed amount ($41,000) as the minimum 20% equity to stay in the property that is needed by the bank?  Originally, I was trying to run my numbers so that I was financing the amount I needed plus the 20% equity, meaning finance $125,000 so that I could pay myself back the $100,000 and have that 20% equity, but the more I thought about it, this didn't make sense.  At that point, the extra $25,000 from that approach would be cash that I took out as well, correct?  Whatever I finance will essentially be the check the bank would write back to me, while the equity will stay in the property, correct?
2. Did I approach the math correctly with my BRRRR strategy in looking at how the property would cash flow after rehab?
3. If it were you, would you have jumped on this deal?  

Thanks a bunch for any and all guidance/comments/tips you can leave me with!

[John Leavelle]

Howdy @Gary Lawson

Here's how I like to work BRRRR deals.

1. Determine the ARV ($141,000)

2. Get pre-qualified for the Refi Loan. Usually 75% LTV ($105,750).

3. I want my All-in cost to be as close to 70% of ARV ($98,700). This allows for lower than expected appraisal and/or Rehab budget overages.

4. Determine my Maximium Allowable Offer (MAO). ARV * LTV - Rehab - Closing Costs - Holding Costs = MAO ($141,000 * 75% = $105,750 - $20,000 Rehab - $3,000 Closing (example) - $3,000 Holding (example) = $79,750

You can see your numbers are close to what I might use. So, yes you did the math right. However, i would not do this deal as presented because of the poor cash flow. SFR I prefer a minimum of $200 per month. Too much can go wrong with slim margin for error at $90 per month.