BRRRR via HELOC or Cash?

Question

Hi everyone,

My parents are interested in starting to BRRRR for investment properties, as my dad is a contractor who can oversee the rehab. This will be their first investment property purchase. My question is whether they should use cash or a HELOC on their primary residence to finance.

The options are:

- 90k in cash, i.e. putting down 90k as a 20% downpayment and using a private lender to finance the other 80% + rehab cost

- HELOC on their primary residence. Their home is worth around 450k and they have no mortgage, so assuming an 80% LTV they would be able to get a HELOC for 360k.

What would it look like to use a HELOC to BRRRR? I’m assuming that they would buy 100% cash with the HELOC and then the cash out refinance would eventually pay off the HELOC? It feels like the HELOC would be a better option since they wouldn’t have to use their own cash, but let me know if I’m missing something here. Thanks!

Walter Key · Answer

In $90K ALL their cash? I'd never recommend that dive in with all their cash. Traditionally, the HELOC is a great tool because it can be re-used repeatedly. Also, private money is expensive compared to HELOC and especially compared to cash. If I was in their shoes, I think I'd take out the HELOC and use that and/or my cash position to completely take the private money out of the equation. Done right, their ROI is going to be much better that way.

Will Fraser · Answer

I'll second and reemphasize what @Walter Key shared as it is exceedingly important to know when you'll building your numbers (especially with OPM). . . banks are skittish in general, but for the better part of the last 12 months they have been ultra-conservative and fearful.  I've seen some pretty hard lines drawn with refinances where the refi was capped at 75% or 80% of costs . . . this means you'd be leaving 20-25% of the cash into the home.

If the numbers work like this then that's great!  If they don't, it's better to know now then when the bills start coming.

Forrest Faulconer · Answer

Hey man! The only reason you wouldn't use a HELOC (which is essentially a credit card leveraged against a house) is if the interest and payments do not make the numbers work. Using cash will allow you to avoid interest and eventual (since many HELOCs have an interest-only period) principal payments. So you find out how much extra a month the HELOC will and make sure you can pay it off when the refinance happens! Otherwise you'll be stuck with an extra payment, of course, you could then just use your cash to pay off the remainder of the HELOC and have some left to invest, plus the HELOC balance back down to zero.

Forrest Faulconer

Ben Cohen · Answer

Thanks for your response, Walter. Yes, 90k is all their cash.

If I'm understanding properly, is this how it would work:

- Buy: We find a property that needs rehab, purchase price is 100k, rehab costs are 30k, ARV is 170k. We pay for the property + rehab with HELOC (130k)

- Rehab: We do the rehab

- Rent: We put in tenants

- Refinance: We get a new appraisal, then cash out refinance the property. We get 170k in cash from the bank from the cash out refinance, we use that to immediately pay off the HELOC back down to 0, 170k - 130k = we have 40k cash left over. We now have 0 equity in the property, so now we have a mortgage on the entire value of the property, is this mortgage 100k or 170k?

- Repeat: We use the 40k cash we earned from this property + the HELOC, which is back to 0, to do this again.

Is that all correct?

Randall Hoeber · Answer

@Ben Cohen, first off congrats to your parents for seeing the value in real estate investing.  One of the immense advantages of investing in real estate is you can do it with OPM (other peoples money).  The question to ask is: would you rather do it with your money (cash) or someone else’s (the bank)?  Personally we have used a HELOC to fund our BRRRR projects, and then we refi and pay down to the HELOC with the intention to do it again.  My advice to you would be to encourage them to use the HELOC for their own BRRRR projects and keep the cash in hand for personal reserves.  To really diversify their involvement in real estate and add a second stream of income perhaps they would consider being private lenders themselves.  #bethebank.

Daniel Kramer · Answer

@Ben Cohen

HELOC all day, in my opinion. Some reasons:

-You could likely do both the purchase and the rehab in that budget, depending on your market. That would be a healthy budget for me in Toledo.

-The heloc is as good as cash, meaning you can do almost anything you want with it.

-You can do interest-only payments on the heloc through the rehab, which keeps your holding costs down.

-Most helocs have respectably low interest rates, so it's not free but it's pretty darn good.

-You can keep your real cash on hand, in case of curve balls or simply coming up a little short on the refinance. Let's not forget family emergencies, you need some cash.

-Yes, I would refinance to a standard mortgage once the rehab is done.

-You can then do it again. That's the last R of BRRRR, after all!

Walter Key · Answer

You've got the right idea. However, you're not going to be able to do a 100% LTV cash-out REFI on an investment property. So, in this scenario (with a 75% LTV Cash-out) you'd spend $130K on the purchase and rehab, then do a cash-out REFI for about...$130K which would pay off your HELOC, leave 25% equity in the investment property that is now rented and cashflowing, then you have your whole HELOC to do the same thing with again.

Guido Nunez · Answer

@Ben Cohen get the HELOC, then use your cash for the investment. Use the HELOC like a checking account if you need cash for anything.

Henry Lazerow · Answer

Its always better to use a HELOC as the rates will be lower then private money and typically much more forgiving terms. Most of my clients use a HELOC for downpayment+rehab funds and a conventional low risk 30 year mortgage to purchase.

Nicole Heasley Beitenman · Answer

HELOC all the way.