What am I missing on this deal?? Let's talk $$$

[Zachary Peacock]

Here is the story: I have partnered with two other individuals who are passionate about real estate, and have experience with rehabbing shotgun style homes, but I worry they have limited business savvy.

The goal is to buy severely distressed homes outright for <$25k, finance the rehab costs, and then rent them for 5-7 years as cash flow properties before selling when the market is in our favor. Sounds like a solid plan right?

Here is my dilemma - Yesterday the lead on the project, the guy who has experience with a rehab, said that he and the other partner had discussed paying $500 OUT OF POCKET per month for the first year or so to help pay down the loan for the repairs. I am not into this idea. It defeats the purpose of an investment. The idea is to make money. 

Here is the basic math House #1 - $7k purchase price, total gut job/rehab - estimated $65k in rehab costs. Rents in this area follow the affordable housing rates so we would be grossing roughly $650-750(max) - After our general expenses we would have a cash flow of $437/month - but this is without figuring the cost of paying back our rehab loan. 

Word on the street is that a business loan is hard to find with a term longer than 5 years, which at $65k over 60months is roughly $1083/month..... Not good.

Even if we all contributed $500 (an arbitrary number) we would still fail to pay off our loan even within the first 2-3 years! 

I feel like I am missing something in terms of how rehab financing or business loans work. If we can get a 20-30 term on our loans, we will be fine, but if not... there is no money. The property will not be cash flow positive, and we will have busted our tails, only to end up spending more money each month just to keep afloat.

The fact that the guys are ok with losing money the first few years is preposterous to me. 

How can we make this work? What am I missing in terms of the loan term and financing options?

In my mind, the gross rents simply won't fund the rehab costs. It seems like being able to acquire a property for so little would be an advantage, but right now I think I'm better off breaking away, shopping for good deals on turn key properties, and borrowing against them.

Any feed back (constructive and positive in nature) would be great! 

[Joe Villeneuve]

You are correct in your concerns.  Paying down the loan does defeat the purpose, and it is an illusion that it is helping.  All you are doing is two things:

1 - Reducing your cash flow

2 - Helping your tenant pay off the mortgage.  Let the tenant pay down the debt...that's their job...not yours.

Paying extra cash in per month just means you are taking your money, putting it into the house, only to take it back later...and while it is resting in your house, it isn't out making you any money....see, that's your job (actually, it's your money's job).

The tenant pays off the loan, the REI takes their money and invests it in other properties where the tenant pays off that loan, so the REI can...