What money are you taking out when you Refinance in a BRRRR?

[Ben Feder]

When you go to use the BRRRR strategy, you buy the property, rehab it, rent it, and Refinance it... what exactly are you doing when you refinance the property? I think you are pulling money out of the deal somehow, but what money are you extracting from the property? Is it the downpayment that you made? What's going on?

[Matty Foley]

@Ben Feder the above posts are correct about equity, but to better clarify for you; by renovating and getting it leased you are adding value. When you refinance this using a commercial loan, they will see the income of the property as the primary source of repayment to service the debt (mortgage payment). A bank will usually determine your net income by reducing your gross rental income by 25% to 30% to factor in expenses and vacancy. So if your annual gross rents are $20,000, your net income will be calculated at 70% of that figure (14,000). They will want some cushion to make sure you can cover the debt if things go sideways, so you will want your net income ($14k) to cover the debt at a minimum of 1.2 to 1. Meaning your annual mortgage payment should be a maximum of $11,600 ($14,000 / $11,600 = 1.2x). As long as the property meets this requirement, and you are in decent shape financially you should qualify for a cash out refinance of around 75% depending on the bank. If you were under a 1.2 to 1 coverage ratio, they could simply reduce the cash out to 70% or whatever % would reduce the debt payments to get you to a 1.2 to 1. They will also want to make sure you aren’t losing money on other properties or business ventures that would prevent you from paying back the debt. If you have other forms of repayment such as good liquidity (cash/stocks), salary or other types of income, equity in other properties, that will show them you have a secondary source of repayment if something unexpected happened; for instance if you lost your tenant and the property remained vacant for a long period of tame. That’s the underwriting side of things on a commercial loan. But to summarize, as long as you qualify, you can expect to cash out approximately 75% of the appraised value of the property - after renovations are completed and the property is leased. Banks are mostly conservative when approving a cash-out refinance for investment properties, so its just another good reason to be conservative in your initial projections.