Using home equity instead of Hard Money

[Rafaella Almeida]

Hello BP community,

My husband and I have equity in our home and our rental. We want to expand our portfolio with hopes to be financially free. My husband does not like the idea of getting a HELOC for he thinks it is too risky. I introduced him the option of financing with hard money. He feels better to finance through hard money since you do not jeopardize your own house. On the other hand, I feel that by getting a HELOC we may pay less interest and may be easier to get the money. I believe we would be able to raise over 100k with a HELOC.

We've never done a flip or a BRRRR. The only experience we have is renovating our own properties.

Which approach would you think it is smarter for a first time flippers or BRRRR.

Thank you,

Rafaella

[Jeff Cichocki]

@Rafaella Almeida, 

Before I answer your question... In full disclosure, I'm a Hard Money Lender. However, I'm also an investor just like you. My business partner & I started out flipping and renting houses just like everyone else. Sometimes, we wholesale a house off when we have too many projects going on at the same time. I look at things from both sides of the coin because I'm playing both sides.

speaking practically, your question doesn't have a right or wrong answer. 

The correct answer is the one that makes both you and your husband the most comfortable. Just because someone says that a HELOC is dangerous or that HM is dangerous does not make them dangerous. And, expensive is relative to the deal. Typically those that tell you how bad a HELOC or HM is don't know how to use either properly. A HELOC is a tool. A HML is a tool. When used improperly, people get hurt. So... Let me walk you though the difference between the two.

1. HELOC's provide easy and fast access to cash. They usually have lower fees, lower interest rates, lower monthly payments and they typically come with checkbook control. They are extremely flexible and can be very be very powerful. But, your husband is right. As good as those benefits sound, they come with an added risk to your family. You are essentially betting your family home that you will be successful and that nothing will go wrong in the flip. Unfortunately, bad things happen to good people. If something goes wrong and your HELOC is tapped out, what will you do to recover? If all of a sudden you have to take a loss, can you afford it? What will happen to your family home if you get in to far over your head? What your husband is worried about is real. It may never happen, but it's still real to him. HELOC's can be a great tool, but you have to go in completely understanding the rules and risks and weighing it out for your family.

2. HM is a very powerful tool. You can get into houses with little to no money down, you get an extra pair of eyes validating the deal for you, you have someone looking over your shoulder making sure you and your contractors are staying on task and you don't have your personal residence tied into the deal in any way. However, being able to get into a deal with little to none of your own money comes at a cost. HML's typically charge points and a higher interest rate. Some charge additional fees (sometimes ridiculous fees). But, when's the last time an investor got a house under contract and ran around telling everyone that they can't wait to lose money in the deal. It doesn't happen. No one ever expects to fail. If they did, they would never do the deal. Way to many borrowers neglect the fact that despite not thinking they'll fail, they do. HML's are much lower risk on the gran scheme of things. If it goes sideways, you lose the property, not your house. Safety comes at a price. But, what's the real price? Unfortunately, few people seem to understand the difference between cost and making less. A cost is money you pull out of your pocket. A good lender will roll most if not all of your fees into the loan meaning they are paid on the back-end out of the profits of the flip. When you pay on the back-end, you make less; but you didn't experience a cost to do that.

When I speak at the REIA's, I try to educate my borrowers how to think like a lender. If you can learn how a lender thinks, you become a much better borrower. You learn how to use the tools to their maximum advantage. The easiest way to win this game to become and expert craftsman of the tools you wield. If you understand the true risks of the loan, you'll be able to get HM almost will. You'll also be able to build a nice little portfolio that you can show to potential private lenders (usually the best way to borrow money; but not always - I can tell you lots of horror stories about bad private lenders). Over time, you'll convert most of your financial needs to private capital. Once you do that, HM and HELOC's become a back burner item for you.

Good luck. I'm always happy to help where I can.