What would you do: Re-financing reno & new construction

[Fergus Cullen]

Nearly a year ago I bought an existing two-bed, one-bath 1,440 sq ft ranch with a two-car garage on 1.4 acres that had fallen into disrepair. The purchase was in my own name, not an LLC. The purchase price was $374,000. Other closing costs were $17,376 for a total acquisition cost of $391,376. I got a commercial loan for 50% of the purchase price - $187,000 – at 9.875% and personally funded the rest. Property taxes are $6,156 annually ($513 /mo). My interest-only monthly payment, including taxes and insurance, is $2,298.

Phase 1 of the project was a gut-renovation of the existing home, which we converted to a three-bedroom, two-bath home. That renovation included everything inside the exterior studs (all-new heating, electric, plumbing) and exterior siding. We passed final inspections and have our Certificate of Occupancy. While we do have some exterior work to do (some landscaping, a new retaining wall, and repaving the driveway) the house is ready to be rented or could be sold. Total cost of the renovation came to $246,388. Add in $20,686 in carrying costs (10 months at $2,298), the all-in cost to date is $658,450.

Phase 2 of the project is sub-divide the lot into three lots, and add new duplexes to each of the new lots. I’ve paid for permit applications, clearing trees, survey, design and engineering, and architectural plans. Approval is expected later this month. The duplex units are each two-bedroom, 1.5 baths with a one-car garage and just under 1,000 sq feet of finished space. Total costs of getting to the cusp of approval: $27,086.

Total costs to date for Phase 1 and Phase 2: Just under $700K.

I am getting the existing home appraised and expect that to come in at $550,000 to $600,000. Assuming the approval goes through, I will also own the approved lots. I expect the lots to be worth $100,000 - $150,000 each. So, the total parcel should be worth $750,000 - $900,000 before building the new duplexes.

My local housing market: In a small city of 33,000 growing at 1% a year, constrained by a housing shortage. Median SFH are selling for right about $600,000 and properties are appreciating about 10% a year in recent years, though that can't last forever.

I am self-employed and do pretty well, but I do not have a W2 and my income varies quite a bit. My debt-to-income levels, by conventional banking standards, are good but not great. My primary residence has about $700K in equity and my IRAs are solid, but they don’t look at those.

My plan is to re-finance the existing home and hold it, for now, as a long-term rental – even if the rental income is below my monthly payment. I'm looking at 75% LTV and a commercial rate near 8%. If it appraises for $550,000 that results in monthly payment of about $4,000 including property taxes on a 30 year fixed. If I can rent if for $3,000, I can afford to feed the meter for a year at $1,000 or more a month while I see where we are. My thinking is that I can't sell it now for its full value, given that it's going to be in the middle of a construction site for most of the next year. Meanwhile I reasonably think it will appreciate at least 5 percent anyway. It *should* appreciate by more than I'm paying out of pocket for the year ($27,500 vs $12-18,000).

Meanwhile, I’m looking at getting a construction loan for the other two lots. Conservatively estimating new construction costs as $300/sq foot, the new duplexes could cost about $600,000 each to build (plus interest costs). I think the duplex units can sell for $425-450K each or rent for about $2,500 / month. I could also sell the approved lots.

So what do you think of my plan? Should I just sell the renovated home and the lots and take the win, or manage the building of the duplexes and go for a bigger win over the mid-range (while taking on the risk that things go badly or the market shifts)? Should I hold onto as much of it as I can and bet on a combo of cash flow and appreciation for the long term? Should I quit claim into one or more LLCs? What am I not thinking about that I should be? What would you do?

[Brandon Croucier]

Hi Fergus,

If you can handle the workload thats going to come with building the two duplex's, I say go for it.

If your going to be biting off more than you can chew, liquidate.

It really depends on your risk tolerance at this point.

The construction loan is a doable deal as long as you have solid credit, have experience /hire a builder.

[Keyona Taylor]

Quote from @Fergus Cullen:

Nearly a year ago I bought an existing two-bed, one-bath 1,440 sq ft ranch with a two-car garage on 1.4 acres that had fallen into disrepair. The purchase was in my own name, not an LLC. The purchase price was $374,000. Other closing costs were $17,376 for a total acquisition cost of $391,376. I got a commercial loan for 50% of the purchase price - $187,000 – at 9.875% and personally funded the rest. Property taxes are $6,156 annually ($513 /mo). My interest-only monthly payment, including taxes and insurance, is $2,298.

Phase 1 of the project was a gut-renovation of the existing home, which we converted to a three-bedroom, two-bath home. That renovation included everything inside the exterior studs (all-new heating, electric, plumbing) and exterior siding. We passed final inspections and have our Certificate of Occupancy. While we do have some exterior work to do (some landscaping, a new retaining wall, and repaving the driveway) the house is ready to be rented or could be sold. Total cost of the renovation came to $246,388. Add in $20,686 in carrying costs (10 months at $2,298), the all-in cost to date is $658,450.

Phase 2 of the project is sub-divide the lot into three lots, and add new duplexes to each of the new lots. I’ve paid for permit applications, clearing trees, survey, design and engineering, and architectural plans. Approval is expected later this month. The duplex units are each two-bedroom, 1.5 baths with a one-car garage and just under 1,000 sq feet of finished space. Total costs of getting to the cusp of approval: $27,086.

Total costs to date for Phase 1 and Phase 2: Just under $700K.

I am getting the existing home appraised and expect that to come in at $550,000 to $600,000. Assuming the approval goes through, I will also own the approved lots. I expect the lots to be worth $100,000 - $150,000 each. So, the total parcel should be worth $750,000 - $900,000 before building the new duplexes.

My local housing market: In a small city of 33,000 growing at 1% a year, constrained by a housing shortage. Median SFH are selling for right about $600,000 and properties are appreciating about 10% a year in recent years, though that can't last forever.

I am self-employed and do pretty well, but I do not have a W2 and my income varies quite a bit. My debt-to-income levels, by conventional banking standards, are good but not great. My primary residence has about $700K in equity and my IRAs are solid, but they don’t look at those.

My plan is to re-finance the existing home and hold it, for now, as a long-term rental – even if the rental income is below my monthly payment. I'm looking at 75% LTV and a commercial rate near 8%. If it appraises for $550,000 that results in monthly payment of about $4,000 including property taxes on a 30 year fixed. If I can rent if for $3,000, I can afford to feed the meter for a year at $1,000 or more a month while I see where we are. My thinking is that I can't sell it now for its full value, given that it's going to be in the middle of a construction site for most of the next year. Meanwhile I reasonably think it will appreciate at least 5 percent anyway. It *should* appreciate by more than I'm paying out of pocket for the year ($27,500 vs $12-18,000).

Meanwhile, I’m looking at getting a construction loan for the other two lots. Conservatively estimating new construction costs as $300/sq foot, the new duplexes could cost about $600,000 each to build (plus interest costs). I think the duplex units can sell for $425-450K each or rent for about $2,500 / month. I could also sell the approved lots.

So what do you think of my plan? Should I just sell the renovated home and the lots and take the win, or manage the building of the duplexes and go for a bigger win over the mid-range (while taking on the risk that things go badly or the market shifts)? Should I hold onto as much of it as I can and bet on a combo of cash flow and appreciation for the long term? Should I quit claim into one or more LLCs? What am I not thinking about that I should be? What would you do?

Your project is quite interesting, and balancing risk with reward is key. Given the strong local market, holding onto the renovated home and aiming for appreciation could be wise, especially if you believe it will outpace your short-term costs. However, construction can be unpredictable, so have a solid contingency plan. Consider refinancing carefully, as an 8% rate will increase your monthly payments significantly. Placing properties in an LLC can offer liability protection but consult a professional first. Keep your exit strategy flexible; if the duplexes don't perform as expected, selling could be a safer option. Overall, weigh your risk tolerance and financial goals before deciding.