How To: Cash out 1-4 unit Property

[Andrew Postell]

Receiving a cash out loan on an investment property can be a very confusing item. This post is designed to bring some clarity to taking cash out of a property with a conventional loan and help you navigate the sometimes-challenging cash out rules for properties. Admittedly, this post will probably be for the mid-level to expert level investor. There could be some important items in here if you are just starting out but it might get confusing in a hurry. If you have any questions, then please reach out. Lots of people on this forum can answer questions and many are very helpful individuals.

We will cover:

1. The conventional rules for a cash out loan
2. Buying a home with cash
3. How to properly structure buying a property with cash

1.  The Conventional Rules For a Cash Out Loan

Fannie Mae and Freddie Mac are the Government Agencies that sponsor conventional lending. Most banks will have these loans as an option. There are other loan types as well but for brevity we will limit this post to the “Conventional” lending (Fannie/Freddie).

• Conventional Loans limit your cash out on an investment property to 75% of the “After Repair Value” on a Single-Family home (70% on a 2-4 unit home). This is also the same percentage that you need for a non-cash out refinance (more on why that is important later).
• If you purchased the investment property with a loan, then conventional loans will require you to wait 6 month to take cash out.
  • This rule does not apply if you purchased the home with CASH (more on that in section 2).

Let’s explore some examples here:

• If you purchased a property with a 15% down conventional loan (85% loan to value) and you wanted to get cash out, you wouldn’t be able to do so since the cash out limit is 75% of the “Loan to Value”. The MAXIMUM cash out you can receive is 75% of the value of the property.
• If you purchased a property with a loan, but did the rehab on with your own cash, then you would need to wait 6 months to get that cash back. Keep in mind you could only receive 75% back of the After Repair Value.  
  • So if you bought a home with a loan of $50k, it required $30k in renovations, and it appraised for $100k after the repair work was complete then….
  • You would refinance the $50k loan, receive back $25k in cash…since $75k would be 75% of the After Repair Value.

2.  Buying a home with Cash

Buying a home with cash has become increasingly popular for many investors but often an investor will be caught with the restrictions to cash out loans if they need to get their money back. There is a plan to avoid this entire section (In section 3) but it is important for us to know about these restrictions. If an investor is buying with cash and flipping they get their money back when they sell the property. But if they are seeking to hold a property for any length of time and want their cash investment back there are some important rules to understand with conventional loan:

• If you buy a property with cash (or with a HELOC) you can receive a cash out loan on Day 1.
  • There is not a 6 month waiting period with receiving a cash out loan if you purchased a home with cash or with a HELOC
  • BUT you will be limited to the amount of….
    • Your purchase price + closing costs (costs when you purchased the home)
    • OR
    • 75% of the “After Repair Value”…

WHICHEVER IS THE LOWER AMOUNT (super important)

These rules are important to understand so here are two examples:

• Example 1: If you purchased a home with $50k of cash, and put $30k of renovations into the loan, and the home was worth $100k. 75% is $75k and $50k is your purchase price. So you could only receive $50k in your first 6 months of ownership since the LOWER amount is your purchase price. After 6 months you could receive the full 75% of the ARV.
• Example 2: If you purchased a home with $80k of cash, put $5k into the home, and the home was worth $100k. 75% would be $75k and your purchase price is $80k…so the lower amount is $75k.

When buying a home with cash you can absolutely get cash back right away but you will be limited to the lower of those two amounts.

3.  HOW TO PROPERLY STRUCTURE BUYING A HOME WITH CASH

With these rules, you can see how it can be confusing to get conventional lending when buying a home with cash but there is absolutely a proper method to structuring your deals when buying cash. Here’s the secret:

• Create an LLC and have the LLC lend you a mortgage on the property you are receiving.

The reason why this works is because instead of you needing cash or receiving a cash out loan, we are now refinancing a loan – your loan. There no reason to wait any time or have any “whichever is lower” rule come into play. We are just refinancing a loan.

Here’s how it works:

• You create an LLC
• You buy a home
• Your LLC gives you a loan for the home
• You file the deed for that loan at the county courthouse
• You use the money from the LLC to buy and fix up the property
• Once the property is completed, your conventional lender comes to refinance the loan
• Your conventional lender runs title and sees there is a loan.
• Your conventional lender refinances you into a new loan, and cuts a check to your LLC…a check in the amount of 75% of the value.

Please don't confuse this 75% with a "cash out" amount. The non-cash out LTV on a refinance is also 75%. We are refinancing a mortgage. Your LLC's mortgage. Essentially your LLC has become the bank/hard money lender/etc. However you want to think about it. You get to set the interest rate (it can be 0%) and you get your investment amount back sooner.

Some things to think of:

• To file a deed at the county courthouse is $100-$150 in cost (depending on which county)
• And you want that note to be pretty close to 70% of the ARV for the property if you don't want to bring any money to closing. 70% will allow you to roll in your closing costs. If you want it to be at 75% just keep in mind you would need to bring your closing costs out of your pocket to complete the refinance.

This was a lot of information. Feel free to ask additional questions if you need. Thanks!

[Andrew Postell]

@Timothy Visio I kind of just mentioned this above but if you are using a private lender then this post won't apply at all.  This is just for Fannie/Freddie loans which have no loan minimums.

[Chris Wheelus]

Might be a little late to the party, but I have a question on using a "loan" from the LLC. One of the requirements from Fannie Mae for a delayed finance says that no mortgage financing has been used to purchase the property. If you took a loan from your LLC and recorded that loan with the courthouse, it's technically a mortgage, right? So do you still meet the requirements for delayed financing?

Fannie Mae guidelines: 

[Andrew Postell]

@Chris Wheelus this strategy is to avoid "Delayed Financing" at all costs.  As highlighted in the first 2 sections of the original post delayed financing has too many restrictions. 

This strategy is to FOLLOW the Fannie/Freddie rules to AVOID a "delayed financing" transaction.  As mentioned in the "Delayed Financing" document you referenced..."which confirms that no mortgage financing was used"....not having a mortgage would meet the delayed financing terms.  Meaning buying in cash follows the delayed financing rules.

Since we are FILING A LIEN....we show that a mortgage was used from our own LLC...thereby avoiding the delayed financing rules.  By following Fannie Mae and Freddie Mac's own rules, we get to avoid all the restrictions associated with delayed financing. 

I hope this makes sense how I am describing this.

[Chris Wheelus]

@Andrew Postell okay yeah that makes sense. So then you just find a lender that will rate and term refi under 6 months?

[Andrew Postell]

@Chris Wheelus that's all you need with this strategy.  You have it correct.

[Stefan D.]

@Andrew Postell Hey Andrew, I'm trying to do this on a house I'm closing on this week.  My title co seems a bit confused.  The house plus closing is $55k, I want the lien to be $95k.  Will I need to wire $55k, or will I need to wire $95k, and have the title co send me a check for the remainder?  

Thanks for all the great info!

[Andrew Postell]

@Stefan D. the title company should be able to do it 1 of 2 ways, 

1. Have you wire the entire $95k

2. Have an "escrow" reserve annotated on the HUD for the difference between your purchase price and loan amount. So a loan of $95k, purchase price of $55k, escrow reserve of $40k.

Hope that makes sense.

[Stefan D.]

@Andrew Postell

For #2, is that an actual escrow I'll use to pay for rehab, or is that a "theoretical" escrow, and I'll just wire $55k?

[Andrew Postell]

@Stefan D. yeah, theoretical. The title company doesn't want to hold $55,000...they want you to hold it. Just like a Hard Money Lender would do it. They would buy the property, and keep your repair funds themselves. So if they need the accounting measure to be reflective on the HUD, then repairs in escrow..and you hold the "escrow" yourself.

[Richard A.]

Mind blown!! I've been trying to wrap my head around the delayed financing rules. Was working with a lender that wasn't providing the answers I needed. Especially how the rehab had to be structured into the HUD.

@Andrew Postell 's technique is a game-changer. I was a little iffey on the "Non-Arm's Length Transactions" language in the Fannie Mae Seller Guide. But, this totally makes sense now. I'll be doing a little more research, specific to NC.

[Jim Francis]

@Andrew Postell you're the man.

[Robert Damato]

@Andrew Postell 

Liiiiiight bulllllb!

This all makes sense, thank you for writing this!

[Eddie Gonnella]

@Andrew Postell Thanks for writing this. It's very detailed and I'm incredibly impressed by your patience in responding to so many people, many with repetitive already answered questions. I am looking forward to trying this strategy out in the near future to speed up my BRRRR. Thanks again!

[Andrew Postell]

@Eddie Gonnella thanks for the kind words.  Greatly appreciated!

[Ethan Dugan]

Great thread! For comparison, what would be the advantage of this strategy over just pulling out 80+% equity through a home equity loan with fixed term and rate? Does the refinanced lien method just allow for a lower interest rate, in general? Just trying to put perspective on this as I just purchased a home with cash and placed it in a trust with the title company. I am now looking at next steps to pull out dollars to put to work.

Thanks and I apologize if I'm just not thinking clearly and the answer is obvious in multiple ways.

Ethan
Realtor- iLink Real Estate Co.
Bowling Green/Toledo, OH

[Andrew Postell]

@Ethan Dugan so a Line of Credit is NOT a Fannie/Freddie loan. So if you want a Line of Credit, then go ahead and use one. Nothing that this post talks about will apply to you getting one. Using a Line of Credit is a different strategy entirely but I certainly do like them....as long as you are using them correctly. Meaning, a LOC is NOT designed for long term financing. They usually have 2 clauses in them: a variable rate and a "modification" clause. So your rate changes...a Fannie/Freddie rate won't. And after about 10 years, your LOC will "modify" or "mature" into a different loan. Sometimes a 20 year term loan. But when it matures, the rate increases. I've seen many a person get caught by keeping money on their LOC long term. That is not what you are supposed to use them for.

If you are using a LOC to buy a different property to flip, you would then pay your LOC back. Use it, pay it back. Use it, pay it back. And so forth. That's what they are designed for. OR if you were buying another property to HOLD....then you could user your LOC to buy with 'cash'....follow the steps above to file a lien....get all your money back when refinancing...and pay your LOC back that way. That's another good use for them. I hope all of this makes sense. LOC = short term money. Fannie/Freddie = long term money. But if you are getting a LOC on your property, nothing in this post would apply to getting one.

[Ethan Dugan]

Hi Andrew. Thank you for the detailed response; you made each tool's perspective use very clear . My mind was more focused on the equity loan rather than the HELOC. In NW Ohio, for example, there are 80% equity loans @ 4.25% fixed interest rate for 15yrs on an investment property that come with a $300 closing fee. I was informed by the bank that these require no liens to be on the property.

It is good to have so many options to allow us to take action. Thank you again for detailing the process.

Ethan

[Andrew Postell]

@Ethan Dugan yeah, no problem.  Thanks for sharing the details of those loans.  I would still say the same conceptual choice applies here....do you want a 30 year fixed or a 15 year fixed?  If you want the 30 year fixed from Fannie/Freddie and you buy your properties with cash then this is a good strategy to use.  Plenty of examples of investors never touch Fannie/Freddie though and are just fine.  Whatever works best for you is the right method to use.  Thanks again for posting!

[Bryan Freeman]

Is Fannie Mae terminology for "rate and term" refinance "limited cash out" refinance?  If so, it appears for investment property the max ltv is 75% vs 85% for Freddie Mac, correct?

If that is the case, and I want to do 85% ltv, how do I apply for a Freddie Mac loan?  I mean, do most banks offer both, or do I have to look for a lender that does Freddie Mac?  Just confused as a consumer, how do I know what a given bank uses?

thanks

[Andrew Postell]

@Bryan Freeman aha! Yes, now you are hitting on a totally different topic all together - but a good one! How do I as a consumer tell if my lender is "investor friendly"? Most lenders do around 1 investment property per 100. So if I am an average loan officer, and I write 3 loans per month (that's our industry average) that means I might go 2 years before even writing one investment property loan! If you asked most lenders "I'm looking to BRRRR a house hack that I got "sub to"....well, most wouldn't even know what you are talking about. But they will say "sure, I write investment properties"....but do they really? So here's the list of questions I wrote for people to ask their lender to see if they are investor friendly or not:

Questions for Lenders

1. When do you start using rental income to help me qualify? (the answer needs to be immediately)
2. When do you start using “After Repair Value” on my property? (needs to be immediately)
3. How long do you need me to be on title to refinance? (this is important if you do need a short term loan to purchase then refinance out - and the answer should be 1 day...very important that it is 1 day on title is all that is needed to refinance)
4. What is my minimum down payment required? (if they only require 15% down on a single family home that's a good sign)
5. What's my minimum amount of equity you need me to have in a refinance? (and here's where you learn if they write Freddie!)
6. How many loans can I have with you?
7. Can I change title to my LLC?
8. Do you sell your mortgages?
9. What is your loan minimum?
10. Can you explain to me what your reserve requirements are?

*WHEW*!  I know that was a lot but asking those questions...and then guage to see how long it takes them to answer...and how many times they need to "ask a manager"....and you'll find out real quick if they are investor friendly or not.

Hope this helps!

[David Vargas]

@Andrew Postell

Wow. Incredible information. Thank you so much for sharing this.

[Harry Nima Zegarra]

@Andrew Postell What an excellent post Andrew, thanks so much, and I hope to meet you some time soon in one of the Dallas/Fort Worth meetings... I just started and have already one property, have a series LLC (that property in one of the cell LLCs) and in the process of trying buy the second one I find I am more competitive if I offer cash and a quick close.... then I would like to get my investment money back (or 70-75% back) so I can continue buying other properties...

From your original post I understand for point 2) and 3):

- the reason for creating the LLC to loan your own money is to get 75% of the money you paid back pretty quick, but it is not going to give you more if ARV is way higher because you are restructuring a current loan right?

- if you want to get more money, the answer would be still to wait the 6 months (example buy at 100k, repairs 20k and ARV 180k, probably unrealistic but in theory you could get then 135k which is 75%)?

- if I want to apply this to my reality, I want to buy a property in my LLC; I asked a couple of Banks for loans and they told me in theory I can buy under my name and then transfer or deed to my LLC the next day (of course there is always risk the lender doesn't like it and may ask me to pay the mortgage in full but usually as long as I keep paying they are ok they said). But if I buy cash and transfer the property under the LLC: cash out refinance is an option still or no way? Could it be the case kind of similar; I buy cash, cash out refinance immediately and the next day I deed the property to the LLC?

Thanks so much for your input!

Harry 
 

[Andrew Postell]

@Harry Nima Zegarra thanks for posting! Always great to hear from a fellow Texan. Bigger Pockets does have some good state specific forums and Texas is their most active forum. Feel free to post there if you ever need some more "local" advise about things.

Now when filing the lien, this is to get MORE money back. In the first 2 sections of the original post it goes into the restrictions that you face - 75% of ARV or purchase price....whichever is LOWER.  Now, if you do wait the 6 months, the MOST you can receive is 75% of ARV. So filing a lien allows you to take 85% ARV right away. No waiting! (the original post was from two years ago. Somewhere in the 9 pages of comments here we go over the higher LTV that you can receive now.)

Now, this whole entire post is for buying with cash. And for fitting that cash purchase into Fannie/Freddie rules. So if you cannot qualify for Fannie/Freddie...then none of this matters. Or, if you buy with a loan, then an entirely different strategy needs to be discussed. I bring this up because it's Fannie/Freddie that require you to close in your personal name. Other loan types do not need this. With Fannie/Freddie investors will change the title to their LLC but Fannie/Freddie do require you to close in your name. I hope all of that makes sense.

Feel free to ask anything additional that you need.  Thanks!

[Nicholas Q.]

@Andrew Postell amazing post and thanks for taking the time to answer everyone's questions. I read through the entire thread and one issue that I haven't seen addressed yet is the IRS's rules for a minimum market interest rate for private loans. If it is less than the AFR (~2% depending on term length), then the IRS will tax the LLC on the interest it should have received. Is there a strategy for dealing with this rule?

[Harry Nima Zegarra]

@Andrew Postell thanks so much for your reply! So, If I buy a property under my name cash and next day I cash out refinance under Fannie/Fredie rules... can I after that transfer the property under the LLC? Or the lender will find out and won't approve or ask me to pay it back immediately?

I was trying to make a parallel with Banks or lenders that may give you up to 10 loans on your name and even though after you close you transfer that to your LLC... all of them will notice and I understand most of them as long as you continue paying the mortgage they will be ok...

You may have answered this already... sorry