Ready to buy second investment - how to set myself up for future purchases?

Question

Hi BP,

I've been searching forums but not sure who to ask about my situation.  I'm a buy and hold kind of gal, with a goal of $5,000/mo net rental income.  I'm about to buy a second investment sfr, but want to structure my down payment and loans so that I position myself for future purchases.  Here are the details:

Primary home: $360k arv; $185k left on 3.375% (2 yrs into a 15 yr fixed) $1900/mo.

First sfr investment: $160k arv, $99k left on 4% (2 yrs into a 30 yr fixed) $635 piti, $1250 income/mo.

Potential second sfr investment: $155k purchase price, estimated $650 piti, $1250 income/mo.

First, I'm looking at a cash out refi on my primary of about $70k to provide for a downpayment for the new investment and going to a 30 year fixed to improve my DTI.  I need to find a professional who can give me finance options - is it simply a broker I need to talk to?

Second, I've proven the rental income on 2 years of taxes, but will I need to wait 2 years for each subsequent property?  I'd like to leverage the $70k cash out the best I can and not have to cash out every time I'd like to buy the next property.  Does this mean I should look at MF instead?

Thanks in advance for all advice and suggestions.  I'm very grateful.

Jon Holdman · Answer

@Theresa Worsham I would agree that there's very little on our side of town that makes profitable rentals.  Mine are over on the east side - north Aurora and Montbello.  I know a lot of folks think those are not good neighborhoods.  That's what I used to think, too.  But they're full of regular folks who go to work, want to raise their kids and live their lives.  If I could buy 20 more profitable houses in Montbello I would.  Denver expanded outwards and the houses in north Aurora and essentially identical to the ones in Wheat Ridge.  Built about the same time (40's +/-), same construction and quality.  Rents are only slightly higher on the west side, but prices are much higher.  You have to go where that ratio makes sense.  I've not found anything on the west side where it does.

Jon Holdman · Answer

I have a number of co-workers who own properties in those same areas.  One came in a couple of days ago and earned himself a playing of an old Saturday Night skit with "The Whiners".  He was complaining that one of the food trucks he hits over in north Aurora had raised the price on their burritos.  He blamed it on all the hospital folks moving into that area.  I'm amazed that all that vacant ground that used to be Stapleton is now filling up with new construction.  I had to remind him this is exactly what we were all hoping for when we bought in those areas.  I'm not sure we will see the type of scrape and rebuild that has happened in areas closer to downtown, but I'm all for it if it starts happening.

Anson Young · Answer

I totally agree with Jon, I grew up going to all of the pawn shops on Colfax with my dad, and lived in an OK part of Aurora through middle/high school and its really just blue collar regular people raising families.  Sure, there are bad apples, but they exist pretty much everywhere.  N Aurora is a decent place, especially now next to the CU/Childrens/VA megaplex continuing to expand on the east side.

Theresa W. · Answer

@Jon Holdman Thank you for the great information - I've been pondering your comments overnight and I appreciate your local expertise!  There is next to nothing available that meets that price point here in Golden and the surrounding areas.  I've mostly been focused on properties in my community because I am the DIY landlord/property manager type and I'd like to keep an eye on things.  However, I am seeing the value of going after the fixers that provide a better return and using a PM to manage those that are farther away.  I also appreciate the advice about using my primary equity.  Lots to think about!

Thank you @Brianna S. for your validation of my move to a 30 year and I'll bring my schedule Es when I meet with a broker next week.

Thanks to @Shawn Thom too, for your answer about the refi possibilities.  I'm looking for ready to go properties (save for minor DIY repairs), but the rehab loans would be a possibility.  Thank you!

Brie Schmidt · Answer

@Theresa Worsham - Good move going to the 30 year on your primary.  While it will cost you more over the long run it will lower your DTI and make financing easier.

For the refi they will use your income + what is on your schedule E (if you took a loss it will lower your personal income) then they will do a new appraisal and you can pull out 80% LTV

When you go to buy the 3rd, they will again use your personal income and the rental income from your schedule E.  If the place is currently occupied they can also use 75% of the current rents since you do have 2 years of landlord experience.

From there you do not have to wait 2 more years if you have the down payment.  If the property was newly acquired they will use 75% rents and if it was on your schedule E they will use that amount

Jon Holdman · Answer

DTI is more complicated when you're talking about rentals.  First, add up all income except the rental income and all debt payments except the rentals.  Now, look consider the rentals.  For existing properties, you will use the actuals from your Schedule E forms.  Savvy lenders will add back depreciation.  For a new property, lenders generally use (rent * 0.75) - PITI to estimate net rental income.  Add up the net for all your rentals.  If you have a net profit, it adds to your income and helps your DTI.  If you have a net loss, it adds to the debt and hurts your DTI.

Once you have the two years and the rental income will count you don't have to wait two years.

While many folks advocate keeping your residence mortgaged to the hilt, I disagree.  A residence is just an expensive doo-dad like a boat or car.  Its not an investment.  Buy the cheapest thing you can that fits your needs and get it paid off so you're not blowing money on interest.  Income producing properties are a cash on cash game.  You have to really put in cash to make money.  Borrowing from one property to buy another may help you increase your portfolio, but doesn't help with actually generating income.  You want to hit that $5000 a month net rental income with as few of properties as possible.  Fewer properties = fewer tenants = fewer headaches.   Plus, the large portfolio it will take for that much income means you're going to be doing commercial loans.  Those are going to have shorter terms, not 30 year fixed.

I think $155K is way too much to pay for $1250 a month in income.  I'd like to buy some more properties here, but its just about impossible to find profitable deals.  With a 25% down payment (required once you have four mortgaged properties) and a 5% 30 year loan this is just about break even.  Now I'm assuming you're using a PM and if you don't you can earn the PM's cut of about $175 a month (10% of rents plus 1/2 a month to fill a vacancy once a year.)  But the property itself is producing nothing.  Taxes and insurance are your first expenses, but are far from being your last.  $102K is about as high as I would go.  That would give a cash on cash return of 10% for $214 a month in cash flow (pre tax.)  Not sure you can find that in our area right now.

Shawn Thom · Answer

I'd find a mortgage broker that does a lot of mortgages for investors.  Tell them your goals and they can help you.  If you don't know of one, go to REI meetings and ask around.

Do you plan on buying houses that are ready to go with no rehab needed?  If rehabbing will you need some sort of transitional loan to cover rehab etc?

Every state is different, but i don't see why you'd need to wait very long between deals assuming your DTI, credit score and cash on hand is within guidelines.  I refi'd a newly bought rental in January and am doing me 2nd one is a week or so.  I didn't have any rental income on my tax return prior.

Ready to buy second investment - how to set myself up for future purchases?

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