Buy/Fix/ReFi/Hold Approach?

Question

I am just starting out in Real Estate and purchased my first property a Month ago, looking to close on my second unit in December. I feel I have a very solid approach to starting out investing and would like some feed back on anything that seems out of line or may not add up - it seems to be too good to be true (which means it usually is) and haven't heard anyone else mention this approach before.

Idea is to purchase a rental property (I'm looking at 2-4 units but wouldn't rule out SFH) at about 30% below appraised value that cash flows a min of $150/unit after ALL expenses including repairs/vacancy factor/Management/mortgage etc and that the monthly income is at least 2% of the purchase price. I purchase the house with 20% down and put any additional cash into the property to get it up to snuff, then refinance the property a year later and pull out my entire original down payment plus added repair costs and keep the property to cash flow. I basically get 130% of my investment back within one year, don't have to bother with finding a buyer to get my money back (flipping), have a cash flowing property of at least $100/mo per unit and am left with 20% equity on the property. In my book that equals a free cash flowing house with built in 20% equity? All I need to do is sit and collect my rent while I wait a year.

These are the numbers I have on my first house

3bd/1ba Duplex that rents for $630&$750 per month

Purchase Price $55K - Repair Costs $8K

Down Payment + Closing Costs $12K - Remodel Costs $6K (All in at $18K)

Mortgage $44K - Bank Appraisal $78K (Zillow Estimate $85K)

Wait 1 Year until I'm allowed to Refinance and then pull out the 80% of the appraised value (78K*80% = $62,400-$1000 in Closing Costs)

$61,400 - $43,000 Mortgage = $18,400 (Just a little over my original investment) and enough to do this process all over again

This is currently cash flowing $435/mo and will still cash flow $335/mo after the new mortgage at the higher value.

Expenses include: Taxes $170/mo, Management Fee $85/mo, Maintenance $180/mo (13%), Utilities $60/mo (Water), $40/mo Insurance, $115/mo Vacancy Loss Factor (8%)

I would have collected $5,200 in profit the first year (30% ROI) plus refunded 100% of my investment on top of that - then take all this cash and REPEAT!

My second approved offer looks like it will have similar numbers as it is a TriPlex for $59K that should come in around the $85K appraised mark and currently has 3 occupied tenants paying $1400/mo

Thoughts on this Buy/Refinance/Hold approach? I have a modest income but have budgeted $1000/mo to put away for real estate investing. Original plan was to buy 1 house per year and reinvest ALL rental income profit but with this new approach I feel I will be buying dozens of houses in just a few years. Would this approach spread myself too thin even with a 20% equity buffer and a health cash flow even after the higher mortgage payment?

Matt Devincenzo · Answer

Yes it's a viable strategy, and one that a lot of people use or try to use getting started(myself included). I'll make a little list though not all/any of these may apply, but these are where I see you getting derailed initially.

1). Fannie/Freddie guidelines limit you to 4 cash out refi's and 10 loans total.

2) You will hit your DTI before your loan limit because they won't count rental income until you have 2 years of experience.

3) You'll have improved too quickly and your appraisal won't come back high enough.

4) Life!!

So some solutions:

1) Keep loans in only one person's name so you can get 4 and your (assumed from the pic and "we" mention in your profile) wife can also get 4 cash outs. Then you can move to each ones 6 non cash outs. And finally you can do commercial or portfolio loans.

2) Not too much you can do here. The lender's guidelines will determine how much rental income they will include initially. So keep your expenses down and cash-flow up as much as possible to keep your DTI low. Note: a HELOC at $0 still counts as if your maxed it out for your DTI calculation, we'll get to that in a minute.

3) Make sure you really are buying at 30% of FMV, and don't over improve the property. A properties best comp is itself, so keep your receipts and take pictures. The appraiser may not care, but it may help if you get a low appraisal and wanted to dispute it.

4) Yeah not much to give you on this one :)

So HELOC vs 30 year. Definitely 30 year, this is the lowest you will ever see interest rates so lock them in. your HELOC will only go up guaranteed. Now later after you have your fixed loans in place and need cash for more purchases, then go ahead and pull a HELOC. But for now stick with your fixed rates while you can. And as mentioned the LOC will hit your DTI whether you use it or not so I would get that after you've exhausted your fixed rate options.

Jerry W. · Answer

@Chris Heeren  there are several folks who use this model.  @Joe Villanov? uses this model and I think he expanded it to bring in other investors in a JV to do more cash refi out after he hit a certain number so he could keep going.  One thing to keep in mind, a lot of folks went broke doing this back in the 2008 crash days.  Calculate what your payments would be with up to a 3% increase in interest rates.  For some reason I think that is the max increase on my ARM loans for a 3 year period.  Also keep up on the renting side.  A lot of guys let that part slide and when the crash came they were busy kicking bad tenants out they should have had out months before and so had bad cash flow problems.  Good luck, it sounds like you are doing a great job so far.

Jeff V. · Answer

@Chris Heeren

Hey Chris,

I know this thread is a few months old but thought I could contribute to the topic.  This is basically the same plan that I'm following.  One thing to grease the wheels is that I've found a local "Portfolio Lender" that the loans are in house loans and not backed by Fannie Mae or Freddie Mac.  This means they do not have to follow their 4 refi and 10 max loan rules.  It sounds like that you have stumbled upon one as well.  However, the issue your running into "When talking to them about a conventional loan they said this could not be done if I was purchasing the property through an LLC"  sounds like this is a bank policy specific to the bank your dealing with.   For example the bank I'm using specifically said that it does not matter if your taking title in an LLC because as a new business you have to sign personally to guarantee the loan as well.

With that being said, you may want to shop around for another portfolio lender in your area that does not have a problem with you buying property in an LLC.  You may want to mention in the process that the LLC "is for estate planning purposes" and you will still be signing for the loan personally.  It may grease the wheels to getting approved.

Jeff

Chris Heeren · Answer

Thanks for all of the Advice,

After talking with my bank, the loans I will be setting up are all In-House and they do not have a limit on number of properties nor a number of times you can do a ReFi Cashed out. They also do not wait 2 years before looking at rental income which means I won't hit my DTI. Biggest issue I am now facing is these are adjusted rate loans that get updated to the current interest rate every 3 years. (which scares the crap out of me) When talking to them about a conventional loan they said this could not be done if I was purchasing the property through an LLC? Have other investors found this problem as well? I'm curious if this is just my personal banks rule or if you cannot get a conventional Freddy/Fanny loan when buying for an LLC?  My last resort is an adjustable loan and would prefer to stock up on my 10 conventional loans first while rates are so low (even if it requires 25% down), but not willing to keep these properties in my own name.

Help?

Michael Seeker · Answer

You should also make sure you can get an 80% LTV cashout.

According to the Fannie Mae matrix found here, it shows 75% as the max LTV on a cashout investment loan.  Unless your bank is holding the note, they'll likely have to conform to this guideline.  Even if you talk to somebody and they say they can do it, you should insist that they ask their underwriting department to confirm.

Shane Johnson · Answer

Great strategy, and is something I hope to replicate. It could spread you too thin when there is a market correction though. Say there is a market correction next year, in the middle of an acquisition or two. At 60k each prop, your 24k into down payments, and 20k into rehab costs. You now have 44k invested that you cant pull out. Who knows, it could be a few years before you can refi that capital back out. Other things to consider, you may not be able to refi at 80% LTV. Others with more experience can chime in on that. Hopefully your credit score is north of 700-750. To help make sure you don't leverage too much, definitely stick to that saving as much as you can, for emergencies and to hedge your bets so to speak. Lenders want 6 months reserves for each property when you start stacking up mortgages. While some feel this is overkill, they do it for a reason. I feel it should be taken with a grain of salt, and replicated to some degree when you get to a point where you own multiple properties, and have something to lose...

Chris Heeren · Answer

Also, I would like to know if anyone would prefer a Line of Credit option verses a ReFi Cashed Out? I haven't dealt with either of these options before and I'm trying to decide which may be more beneficial, or draw backs to either one?

Chris Heeren · Answer

That's the kind of information I'm looking for! I'll talk to my bank about how many Cash ReFi's they allow as I only mentioned doing this for a single property. That could throw a small wrench into things. Also I'm going off of what my bank physically appraised the building for, this would be the value they lend up to 80% on. The City is assessing it at $90K and Zillow at $85, I felt the $78K was in the right ball park and after the repairs I've done I don't see it dropping any in the next year.

Michael Seeker · Answer

This is a very valid approach, however there are a few things you may be missing.  First, you can only do this a handful of times with conventional loans (I believe after the 4th loan, you can't do anymore cashout refi's).  Second, you really need to have comparable properties to back up your values, not Zestimates or assessments or anything like that.  Just because the Zestimate says 85K doesn't mean there are any comparable properties that have sold for anywhere near that in the past 12 months (which is what your appraisal will depend on).

It's a good approach, however just make sure you understand property values in your area well enough to know you're getting something at a steep discount and not just seeing market values below zillow's estimates.

Buy/Fix/ReFi/Hold Approach?

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