All Forum Posts by: Justin Klinghagen

@Nick Pederson:

I did the same thing for my first rental, which was a true investment duplex (both sides rented out). My goal was to find a property that needed some work, buy it using a purchase mortgage secured to the rental and use my home equity line for the down payment and most of the renovations. Get it rented out, then apply for a cash out refi on the investment property mortgage in order to use my new equity in the renovated property to pay the home equity line off and repeat. Typical BRRRR deal

1. the home equity line is on your primary residence so as long as you continue to live there, you can generally use it for any legal purpose. the mortgage you'll get when you buy the investment property will be an investment property, so the required down payment (and rate) amount will be higher than it would be if you were going to live in it (at least 15% down depending on the bank, could be 25% down if 2-4 unit).  You can use your home equity line for the down payment, just need to disclose on your loan application that the down payment is borrowed. the lender should account for that payment in your debt to income calculations when qualifying you.  

2.  no restrictions on how you use the funds.  a lot of times they are interest only payments, which is nice when the property you are renovating is vacant with no income coming in, minimizes carrying costs until you get it rented. 

Risks other than the fact that you are highly leveraging the home you live in are that the interest rate is typically variable. 

Also, the final value the rental property appraises for is very important as that can make or break your plans.  In my case, i bought a side by side duplex and finished the basements on both sides, so each unit was a 3 bed 2 bath.  not a lot of comps out there in my area for that style home so when i went to do the cash out, I didn't get nearly enough value to get all my money back out. This would have really stretched out the time until the next deal. I ended up deciding to sell the property and start over with a more typical property that is easier to establish after-repair value on.  Luckily I got the value i needed when I sold to pay everything off and walk away with a little bit.  Seems easier to get the value you need when you actually have a buyer saying they'll buy it than it is with a refi.

@Josh Cook

Yes I did get everything permitted, didn't want any safety issues for my tenants, potential issues with the city, issues with insurance if something happened or issues selling the property down the road.  Definitely don't regret doing it the right way upfront. 

We had some minor issues with the permitting process, some of it possibly due to the inspector and some due to the contractor.  Prior owner had the electrical panels replaced at some point but apparently didn't have it permitted. Since we were adding circuits and changing out outlets the inspector ended up having us change out a lot of breakers to Arc fault and putting grounding rods in. The cost for the permits themselves seemed to add up quite a bit more than i was expecting but we did it right for sure.  

@Kenneth Garrett

Thanks for the feedback.  I agree, valuable from a rental perspective which is why I figured I'd do it. I knew going in it was risky and might not increase appraised value much but would definitely be good for rental.  The basements in my place are really nice too with high ceilings, had good spots for egress windows and were dry (or so I thought...).

@Keith Linne

I definitely like the idea of providing comps to the appraiser.  I just struggled with finding them as there don't seem to be very many side by duplexes in my area, or really in the cities for that matter. They are kind of spread all over the place and pretty much none of them have 3 beds, 2 baths per side like mine does. 

Probably will post an update soon regarding my first tenants as that has been quite a journey as well.  Lets just say I'm getting a lot of learning opportunities right upfront....

Thought I’d share some details of my summer project. My first of hopefully many real estate deals! I’ve been reading books, reading forums, going to meetups and listening to podcasts for probably the last 2 years and finally convinced myself to take action and give myself a bit of a challenge. I knew I was as prepared as I could be to jump in and just needed to do a deal to really learn, hopefully not losing all my money in the process. I definitely learned a ton and while this is by no means a home run deal it should do ok for me and my family.

The property is a side-by-side duplex in E St Paul right on the border with Maplewood. Built in 1960, each unit started with 2 beds, 1 bath on each side on the main level. 1 unit had a nearly finished full bathroom and framed in bedroom and living room in the basement. The other unit had just a toilet and sink in the basement but otherwise was a blank canvas.

Renovations upstairs included ripping out carpet and refinishing hardwoods, painting all walls and trim, new front and rear entry doors, new flooring in kitchens and bathrooms, adding exhaust fans to bathrooms, refinished the tubs, new vanities and toilets, painted kitchen cabinets and new laminate counters. I also replaced the fridge and range in one of the units and added dishwashers to both. In the basements I added a bedroom and bathroom to each so each unit is now a 3 bed 2 bath, each with a good sized living room downstairs as well. I also ended up having to replace both boilers.

I ended up hiring a general contractor to do the renovation. The renovation was scheduled to take about 6 weeks but ended up taking almost 20 weeks. Pretty ridiculous, I know. I was pretty careful upfront with screening my contractor (checking license, insurance, signing contract, researching online) but I basically just took the recommendation from an acquaintance and didn’t ask for any other referrals or work samples (my fault, not the acquaintance’s). I was impressed with his promptness, detailed bid and excellent communication upfront but all those things went out the window after a couple weeks. Honestly the work turned out ok for the most part but I’m definitely in the market for a new contractor….

Couple of things I’d do differently:

-Fire the contractor sooner and work harder to find a good one upfront

-Focus on properties with beds and baths upstairs. The basements turned out great but I didn’t get the value I was looking for which is going to make my next deal take longer to get to.

-For how much it cost me to paint the kitchen cabinets I think I’d just replace them next time. This would have allowed me to rearrange some stuff at the same time too so the kitchen flowed better.

Both units are now rented as of late August after quite a lengthy search, which I was surprised by given the hot summer season. This has been much more eventful than I thought it would be as well, especially given that I hired a property management company but I’m not scared away yet!

Any questions, let me know!

Agreed, selling looks like the best option with all those capex items coming up soon.  Those are all very expensive items and none are really going to add value or allow you to increase rent, just drain your cash.

@Bruce Runn

Based on the numbers you provide you can't calculate this person's DTI because all you have is an income figure. the net income of 100000 (8333/month) would be part of the denominator but you have no debt for the numerator. the mortgage payment, taxes and insurance for these properties are all included within the net income figure so you wouldn't use those. The debt in the numerator would include any payments on car loans, credit cards, payment on your primary residence, etc but all debt related to these properties should be reflected within the net income figure you provided.

If you have a truly cash-flowing property with positive net income on tax returns (after adding back non-cash items like depreciation and amortization) each additional rental should increase overall income and help your DTI. There may be one-off situations if you happen to apply during a time when your tax returns reflect abnormally high repair cost or low rent due to vacancy and yes, sometimes lenders don't bother to dig further and may just decline at that point but a good underwriter should know to ask questions and has leeway to use common sense.

I'm not disagreeing with you that small banks or commercial lenders can be more creative in their qualification but it's just not true that more rentals will always hurt a big bank's calculation.  A big bank is concerned with regular monthly income available to pay the mortgage.  I understand there are many types of real estate investing out there and many times the investor's income from that investment may not just be from cash flow.  it could come from appreciation earned through improvement, periodic cash out refi's to recoup expense and leverage equity, etc. These types of calculations are inherently riskier as generally they are rare lump sums received, not regular monthly amounts constantly available to repay a mortgage.  A change in the real estate market or lending guidelines can quickly affect one's ability to obtain these types of income.  Regular cash flow from rent is much more stable so that is why most banks focus on that.  

Rentals shouldn’t really hurt your DTI if they are truly cash flowing well and you’ve reported the income on returns or if they are newly purchased, you can provide a lease showing the gross rent. If they were recently bought and don’t show on tax returns the lender should be able to use 75% of the gross rent from the lease to offset principal, interest, tax and insurance (PITI) and any HOA dues. They use 75% of gross rent to account for vacancy and operating expenses.

If you’ve had the properties a while and have been reporting the income on your returns, the calculation generally used is as follows from tax return schedule e: net income + depreciation + amortization + tax + insurance + mortgage interest + HOA dues if applicable=annual adjusted net income/12 months=monthly adjusted net income – monthly PITI from mortgage statement(and monthly HOA dues if you have them). Depreciation and amortization are added back as they aren’t real expenses out of your pocket, just accounting expenses to reduce taxable income. Basically what you are left with after adding back all these items is the gross rent less any deducted expenses, and then the PITI and HOA dues are subtracted to come up with a net monthly net income figure to use to qualify. If it is positive it gets added to income, if negative it gets added as a debt when calculating dti.

I’ve seen CPA’s get pretty aggressive with writing off capex items as repairs to reduce taxable income so you might run into dti issues if you’ve aggressively written off expenses every year and show negative income even after adding back depreciation and amortization. Helps when it comes to paying taxes but hurts when you qualify for a mortgage as most lenders are going to rely on what you tell the IRS you make, not what your bank account or mattress has ;). Hopefully that helps a little bit.

At my bank (the big one) the normal requirement to use income from self employment is two years however we do have the flexibility to go down to one year with significant compensating factors. The biggest one would be if the borrower has been in the same business for several years and just changed to self employed. So this could be a w2'd construction contractor starting his own business, w2'd IT consultant starting her own business, etc. the loan itself generally has to be very strong (good credit, strong reserves, minimal debt use, 20%+ down, etc) and the one year tax return should show solid income but it can be done with less than 2 year history.

Agree with David, The algorithm that calculates your score understands that if you get your credit pulled by a bank for a mortgage you'll likely shop around as well so it doesn't hurt you to have your credit pulled several times by mortgage companies in a short period of time (30 days sounds right). I'm a conventional underwriter and see people with 4 or 5 mortgage inquiries all the time, no big deal. Auto dealers go crazy sometimes as I've seen probably 20 different inquires for one car purchase in a period of a day or two. Also, one thing to keep in mind is that the score you might see if you pull it yourself probably won't be the same as the one the bank will see when they pull it. Usually what you might see is going to be higher than the score the bank will see. Also, I'd be surprised if a bank would allow you to supply them with a copy of a report you ordered yourself and then issue a preapproval letter on it. They are going to want to pull their own report, which is usually a pretty minimal cost (12 bucks maybe). That way it is in the format they want and imports into their application system.

Hello,
I'm interested in attending as well.