Starting a refinancing conversation before a deal
Member since 2023 · 12 posts · 4 votes
Hi all! I was watching the BiggerPockets on YouTube and I was watching a video on BRRRR. This is a strategy I am trying to get into and learn as much as I can. I forget which video this was but this stuck with me. David mention when doing BRRRR, he tends to start it backwards so he has everything inline when it comes to buying (probably not exactly what he said but overall this was my understanding). So he mention this includes talking to lenders about doing a cash out refi before even having a deal. I would like to do this but as someone who has never done a deal yet, Im not sure how this conversation looks like? I wouldn't have a deal yet so Im not sure how this conversation would go. I am wondering if someone can help me figure how to start this conversation, what questions I should ask/or they will ask, and what items should I have have ready when calling a lender.
Thanks all!
I'd look for a lender that can do the first stage of the BRRRR (purchase + reno) as well as the refinance, this way they can draft you a master plan for the entirety of the BRRRR, and already have most of your documents.
Hi all! I was watching the BiggerPockets on YouTube and I was watching a video on BRRRR. This is a strategy I am trying to get into and learn as much as I can. I forget which video this was but this stuck with me. David mention when doing BRRRR, he tends to start it backwards so he has everything inline when it comes to buying (probably not exactly what he said but overall this was my understanding). So he mention this includes talking to lenders about doing a cash out refi before even having a deal. I would like to do this but as someone who has never done a deal yet, Im not sure how this conversation looks like? I wouldn't have a deal yet so Im not sure how this conversation would go. I am wondering if someone can help me figure how to start this conversation, what questions I should ask/or they will ask, and what items should I have have ready when calling a lender.
Thanks all!
The conversation with your lender will be very short at the moment… he will basically tell you a cash out refi will cost you upwards of 8% interest and you will likely walk away saying the refi part of the BRRR doesn't work right now… because it basically doesn't until rates drop back down to reasonable levels. That 8% rate is going to mess up your cashflow if you refi a typical property- read: your property will have a hard time cash flowing when you are paying such a high interest rate on a new loan.
BRRRRing isn’t the easiest thing to pull off for a beginner. To start with, you have to buy a property really cheap compared to its after repair value. That’s difficult at best in most parts of the country right now. Then, the first 25% of profit will have to stay invested in the property on your refi. To put some real numbers around this…. If you bought a property for $100,000, then put $40,000 into the property as a rehab, you would need the property to appraise for $186,000 to get the bank to finance your $140,000. Finding a house that underpriced in the market today is not easy when most real estate is priced high to begin with. And you can’t refi it for a year now with the new seasoning rules that have come into play. If your plan is to finance your initial purchase, it will have to be able to pass inspections in the condition it is in now if using traditional financing. Plus, factor in the fact that you have to close twice… once to buy it, and once to refi it. That is probably about $8-10,000 in costs between those two transactions. I have done a cash out refi where we walked away with $100,000 more than we put into the property. So the concept can be done… but that was at a 3.5% interest rate on a property we bought almost $75,000 under market value and the rehab was very minimal.
So in todays market I'm going to say at best, be sure you really understand what you are getting into. I see BRRRR sort of being on hold until the real estate market and interest rates settle down.
All the best!
Randy
Thank you so much for your response @Randall Alan! If I understand correctly, basically the Refi in BRRR will not work because of the current high interest rate. That makes sense because the with the higher interest rates, it'll require a larger mortgage monthly payment. Would it make sense to possibly still go through with this Refi and have a higher interest rate? Assuming this will either be minimal cash flow or even a bit negative for possibly a few years. Once interest rates go down, I would then be able to refi again, get a better rate and should be cash flowing. Is this a possible strategy? I understand there are risks to this as no one knows when rates will go down or even how low.
Thank you so much for your response @Randall Alan! If I understand correctly, basically the Refi in BRRR will not work because of the current high interest rate. That makes sense because the with the higher interest rates, it'll require a larger mortgage monthly payment. Would it make sense to possibly still go through with this Refi and have a higher interest rate? Assuming this will either be minimal cash flow or even a bit negative for possibly a few years. Once interest rates go down, I would then be able to refi again, get a better rate and should be cash flowing. Is this a possible strategy? I understand there are risks to this as no one knows when rates will go down or even how low.
You will find different arguments on your question, but I will share my opinion in the form of a scenario (first):
“Hey, I’d like to spend $100,000 on a sort of crappy house. But don’t worry, I’m going to spend another $40,000 fixing it up to make it really pretty where I can rent it. Once I rent it, I’m going to lose money each month… but probably for just a few years, and then I’m going to spend $4,000 more to refinance it to actually make a profit 3 years later of about $300/month”
In my book that makes no sense… AT ALL. In a high appreciation market you can argue that the appreciation will be worth it across a few years. We had that from 2018-2022. It’s definitely not what we have right now… so buying solely for appreciation at this time isn’t something I would encourage you to do.
One more thought for you… let’s say it costs $5,000 in closing costs on the initial buy, and then it costs $4,000 on the refinance… and let’s say you run $200 negative a month for 3 years ($7,200). But when you do eventually refi you get all your initial and rehab money back out and now you cash flow $300/month. It will take you 54 months (4 1/2 YEARS!) just to recover the $16,200 in closing costs and negative cash flow). If you add that to your 3 year hold time you are at 7 1/2 years to break even (ignoring appreciation). That’s just not a smart move in my book.
Plus there is the writing a check out of your personal bank account every month for YEARS to own an asset that is costing you money?!! How soon before you ask yourself… “Why in the hell did I buy this thing?” How about when you have to replace the $800 water heater? Or $5,000 AC, or $12,000 roof? How are you liking owning the asset that isn’t making you any money then?
At what point do you shout “I give up!”??
In my book, it only makes sense to buy a cash flowing asset unless you have significant reserves where those things mentioned above don’t give you pause.
I can tell you that where I’m at (personally) is that I have 37 properties all contributing to a maintenance fund each month. It’s WAY easier to contemplate a low cash flowing asset knowing that every month there is $4,000+ going into a separate account to offset those expenses. That doesn’t count about double that amount as free cash flow that can be put towards a significant repair if needed each month. Point being: where you are at on your journey can make a significant difference on what you choose to take on. But as a beginner, with one rental, I would never consider a negative cash flowing asset as my first purchase; and frankly I haven’t bought one yet. Up until rates got ridiculous my answer was always “Why would you do that when so many DO cash flow?” Today my answer is, “I’m going to wait on rates to come down or until I CAN find a deal that cash flows.”; and that would be my suggestion to you as well.
One way to cross check any deal is to look at alternate investments for the same money. A high interest savings account (and CD’s) are currently paying 5% interest and are 100% safe with zero risk of loss and a no hassle investment. If you put $25,000 in one of those for 7 years you would have made somewhere close to $10,000 on your money. The 5% rate probably won’t stick around that long, but the point is to be smart with your money and investments. Don’t deploy your dollars to a losing proposition.
Randy
Wow, All I can say is follow Arnold's rules and do not listen to the naysayers. It is still possible to BRRRR successfully, it is just harder. All real estate deals are won at the time of purchase. If you purchase right you can either flip or hold and make it work. I completely agree that you should start by buying properties, rehabbing and flipping them as that scenario is far less complex. But, if you are determined to build a rental empire than it is sound practice to speak with a mortgage broker or originator to determine the parameters of the refinance before you buy a property to fix and hold. (BRRR) A goof mortgage broker will not want to get you into a bridge loan that you can not get out of. A good broker should have experience and be able to analyze the financing to determine if your deal makes sense! Good luck.
Start by meeting with a lender and getting pre-approved. Once you are pre-approved, this will open doors for getting a deal as you'll know your finances better. Also, once you are pre-approved for a loan, you can already begin asking the lender about refinancing that loan in the future and what it would entail.
I'd look for a lender that can do the first stage of the BRRRR (purchase + reno) as well as the refinance, this way they can draft you a master plan for the entirety of the BRRRR, and already have most of your documents.