Help Me Understand, Loan = Quicker Growth?

Question

So I just purchased my first property and want to brush up on a concept. Basically I rather grow quicker than slower and want to find out if taking this "loan" will be conducive to that goal. Im sure that it will, but how much so? I'm new and am having trouble quantifying it.

So for sake of understanding the theory I'll keep it as simple as I can.

I just bought a house for $115,000 to use as a rental. I am putting 20% down on the property which is $23,000. The cash flow on this property is $280 per month.

I am happy with the return but not thrilled with the amount of money that I am sinking into the property. After closing costs and repairs it will be around $30k total. I can pay this amount no problem even though it is more than I would like to put into a property.

So I have a family member that is willing to loan me $20,000 with no interest over a ten year period. This comes to $167 a month.

So if I am looking at this correctly my cash flow should drop to +113 per month for the first ten years but I have the luxury of having the 20k to either invest or put into other investments.

Measuring my cash on cash return on the two.

Without loan: 280x12 = 3,360/30,000 = 11.2%

With loan (first 10 years): 113x12 = 1356/10,000 = 13.6%

With loan (after 10 years) 280x12 = 3,360/10,000 = 33.6%

However, lets say I get $50 dollars less a month for rent:

Without loan: 230x12 = 2,760/30,000 = 9.2%

With loan (first 10 years): 63x12 = 756/10,000 = 7.6%

With loan (after 10 years) 230x12 = 2,760/10,000 = 27.6%

Looks like getting the loan is the clear cut winner. How does this correlate to the quickness that I can buy my second rental?

Joe Villeneuve · Answer

@Kyle M. I look at it this way. Let's say it takes you 5 year, at $10k/yr, to save up $50k for a house (all costs to buy/rehab, etc...). If you buy with cash, and leave it in the house (100% equity), it will take an additional 5 years to get the $50k for the next house, and the next house, and so on. You want 10 houses, it will take 50 years...and cost a total of $500k. If after T/I, PM, and CR, you net out $600/month, you would be getting $6k/month and $72k/year. Not bad, until you realize it cost you $500k to get there, and 50 years to get there.Now, take the same $50k and pay cash for a house. 6 months later, refi it all back out, and use it on the next house. Do it again 6 months later, and so on. In 5 years (2/year), you would get to that same 10 houses. If you subtracted about 250 from your CF (REFI PMTS), you would now be getting only 350/month, 3500/month for 10 houses, and 42,000/year, but...it would only take you 5 years (not 50), and it wouldn't cost you anything (not $500k)...since you kept using the same money over and over again, then refi'd it out at the last house.The power of leverage, and the speed of money.Joe VilleneuveREcapSystemA2REIC

Kyle M. · Answer

thats an interesting approach, I see how that can speed up the process to acquire more rentals. It takes off the handcuffs and lets you invest less than typical down payments on properties.

Kyle M. · Answer

thanks for the advice, I like the fact that I will be able to get into my second property faster by having the 20k.

Joe Villeneuve · Answer

@Kyle M. You need to use that $20k as many times as you can over that 10 year period. What you should be doing is partner with someone doing flips that needs that $20k as cash. It's important that the terms you get are for fast payoff. The idea is to take that $20k and quickly turn it into $30k, then $45k, then...etc... You do this by having the terms for payback being tied to a date with penalty after, but you are going to be a partner in the flip. This isn't going to be a loan. This means you are ahead of any lien positions.Your payback is either when a flip takes place, or if the investor is a holder you get your money back with profit when the investor refinances (after rehab bumps the ARV).You can see, that if the turnover (flip or refi) happens within 6 months (should be sooner), you could have this happen twice a year. If your return is based on a set number, like $5k, then in 6 months you would be at $25k, then 6 months later at $30k, then at year 2 you'd be at $40k.At this point you might consider increasing your return or investing in two deals at a time. As you can see, you can increase your cash very fast this way. Pretty soon you are the one with the cash buys. Now the fun really begins.Joe VilleneuveREcapSystemA2REIC

Elizabeth Colegrove · Answer

Personally we leverage as much as possible but I prefer 30 year loans. Smaller loans while awesome to acquire big loans get stressful because you have to remember to keep turning them over.

Hattie Dizmond · Answer

@Kyle M. I don't know that anyone can answer the question about how quickly you can get your next property. Certainly reserving the $20k to use as a deposit on the next property puts you ahead of the game. However, your DTI ratio is still going to be the primary factor in determining whether you can qualify for another loan. Depending on your overall financial condition, you may need to allow the first mortgage to season for a bit, while building a history on the rental income.Otherwise, you definitely get the concept correctly. It isn't the first property where you will get the big boost with the 2nd loan. It's the subsequent properties that it will help you get into faster. The other thing I would suggest is that you might look into FHA or other insured loan products that will allow you to get in for 5% down. A lot of people complain about the PMI on those, but it's negligible and would be even less than the payment on your no interest loan, particularly for properties in this price point. Just a thought.

Ben Bakhshi · Answer

If you can get 0% interest loans for investing in real estate, then you should consider yourself lucky. But don't forget, it's a loan, not a grant, and you don't want to screw up your personal relationships because you forgot to pay back loans.