How to refinance property out of residential loan into LLC

[Anthony Prilo]

I recently purchased a home.  I would like to use my old home as a rental property, which has a significant amount of equity.  My apologies if these questions are elementary questions.  I am new at this.  Located in NJ.

Is there a way to refinance my rental property from my residential loan into an LLC?

Am I required to have my rental property in an LLC?

Can I couple my residential loan with landlord insurance?  

Any other tips?

[Robin Simon]

Quote from @Anthony Prilo:

I recently purchased a home.  I would like to use my old home as a rental property, which has a significant amount of equity.  My apologies if these questions are elementary questions.  I am new at this.  Located in NJ.

Is there a way to refinance my rental property from my residential loan into an LLC?

Am I required to have my rental property in an LLC?

Can I couple my residential loan with landlord insurance?  

Any other tips?

Hi - I published an article on this exact topic here on BiggerPockets last year - see below, hope it helps. High high level - LLC will typically be an option for DSCR Loans (or bank other types of financing), while conventional will require you to borrow in an individual capacity, but there are pros and cons of each.

BRRRR Loans: What Are the Options, and How Do DSCR Loans Stack Up?

https://www.biggerpockets.com/blog/brrrr-loans-what-are-the-...

Refinancing: Conventional or Portfolio Lenders vs. DSCR

There are multiple considerations to optimize the refinancing portion of the BRRRR method. Generally, for the optimal refinance, these are top of mind for BRRRR strategy investors:

• Return of capital: The key “secret sauce” of the BRRRR method is to build portfolios using the same capital over and over—which relies on getting your basis (or more) back on the refinance, where basis refers to the money you invested in the property (down payment and cash used for renovations).
• Speed: Refinance lenders use the term “seasoning” to refer to the amount of time (typically in months) between the purchase of the property and the refinance. Velocity of money, or speed in which you can complete a BRRRR investment and repeat, is key to success, and refinancing with the shortest seasoning requirements is highly important.
• Loan terms and interest: Cash flow is also an important consideration for a refinanced rental property, so attaining a low interest rate, as well as other aspects of loan structure (term, amortization, or interest only, etc.), plays a big role.

Generally, there are three main refinance options for BRRRR method investors:

• Conventional loans
• Bank/credit union loans
• DSCR loans

Conventional loans are generally defined as loans originated under GSE (Fannie Mae/Freddie Mac) rules and guidelines and securitized. Bank and credit union loans are generally defined as “portfolio lenders,” or lenders that hold the loans on their balance sheets. DSCR loans are loans issued by private lenders with proprietary and differentiated rules and guidelines and are typically included in “non-QM” securitizations.

The advantage of conventional refinance loans is that they typically have the lowest interest rates and fees. However, BRRRR method investors have run into a lot of trouble using conventional loans for refinances for multiple reasons, especially in 2023.

One issue is the challenge of qualifying, as conventional loans will have DTI requirements, income requirements, loan size limits, and loan amount limits that investors looking to scale a portfolio run into as soon as the financial freedom snowball starts rolling. But most importantly, in April 2023, Fannie Mae changed cash-out refinance seasoning requirements from six months to a full year. This is hugely problematic for the “speed” aspect of BRRRR investing—drastically slowing down the returns and velocity of capital for BRRRR investors using conventional loans.

Portfolio lenders are another option, and they typically offer competitive rates and fees as well. Banks and credit unions can also offer flexibility for investors that engage in strong relationship-building strategies, offering discounts and solid loans in exchange for borrowers willing to use the institution for other purposes (savings accounts, etc.). However, downsides include regulatory restrictions on bank lending, many institutions that restrict concentration and geographies, and other headaches and issues that arise when dealing with a slower-moving bank.

DSCR loans are the option that has completely changed the BRRRR lending landscape in the last few years. While DSCR loans tend to have interest rates a bit higher (generally 0.75% to 1%) than the other two options, which can challenge cash flow, this comes with some advantages that are uniquely suited to the BRRRR method. These advantages of using DSCR loans for refinances using the BRRRR method include:

• More flexible seasoning requirements: As of April 2023, the seasoning requirements for conventional cash-out refinances is now 12 months, but many DSCR lenders are still at just six months (with some even as little as three). Additionally, for rate-term refinances, many DSCR lenders have no seasoning requirements at all.
• Easier qualification: DSCR lenders have much lighter qualification requirements than conventional or portfolio lenders, such as no DTI, income verification, or tax return hurdles that can slow down or disqualify loans
• Flexibility: While conventional and bank lenders are heavily regulated and follow standardized rules, DSCR lenders have much more flexibility and control over their guidelines. This allows DSCR loans to be more adaptable to the market as real estate investing strategies change, including the BRRRR method. Some examples of this include being able to embrace the “AirBnBRRRR” strategy (i.e., not requiring a long-term lease for the “rent” portion of BRRRR before approving the refinance) or allowing investors to borrow in an LLC or other creative structures.