@Shakirah Y James it sounds like you still might be in hard money or something? Is that why we need to refinance? We always suggest being prequalified before purchasing a property since that will help us understand our numbers. I don't mean this to come down too hard but only to help. Since we are here, the Fannie/Freddie loan type can go over 75% when just refinancing out of hard money. Now, there's some nuance to this. How much did you borrow? What is your credit score? Can you even qualify for Fannie/Freddie? Thus, the reasoning for prequalifying first. So, if we cannot qualify for Fannie/Freddie that means we would need to use a DSCR loan. DSCR loans require you to cashflow. And in 99% of the properties...you can't cashflow if you go over 75% of the value of the property. Normally, we are in a catch 22 with that loan product because of where rents are in proportion to interest rates.
Keep in mind that 99.9% of the properties you analyze won't cashflow. So, even if you sell this one...you'll be facing the same on the next one too. I know, I know - how can you tell this without knowing anything about my property or even the next property? And that's because this is how it is when you analyze the properties. When you get prequalified. When you calculate your expense ratio....you will see it too.
Does that mean I shouldn't invest in real estate? No, that's not it at all. This is where we make our money. Pre-Housing Crises (pre-2008) interest rates for investment properties were 6.5%-7%. Cashflow wasn’t even part of the discussion. Frankly, neither was the interest rate! Pre-9/11 rates were 7%-8% for investment properties. Everyone knew the score. If you wanted to be a full time investor then you flipped properties. That’s what you did. But if you kept a couple of properties a year, then in the long run you would be very wealthy. Only in the past few years has “cash flow” even been a strategy. But now that prices are so high, interest rates are high, insurance premiums have shot through the roof, etc. many investors are wondering how to make this work. I’ve had people tell me “I’m only buying a property if I cash flow $500 per month”. Ok….I guess I’ll see you in about 5 years? Meanwhile, the rest of us are becoming millionaires while you wait on the sidelines. And at no fault of their own – cashflow is what they were SOLD on.
Here's what I want you to understand about “buy and hold” residential real estate:
- Let’s use a single family home with a property value of $300,000
- Let’s use an initial loan amount of $240,000
- Let’s use an interest rate of 7.25%
- And I’m going to give you $150 of cash flow per month
- Use a 5% appreciation amount for your property
Let’s see what happens after 5 years:
After 5 years…
- $150 of cash flow per month = $9,000
- Your mortgage has been paid down to $227,000 = $13,000
- Your property is now worth $382,000 = $82,000
So that’s $9,000 of cash flow, $13,000 of principle buy down, and $82,000 of appreciation. We make money in 3 ways with “buy and hold” properties…and cash flow is the smallest piece!
Will you cash flow in this environment currently? No, you will not. At least, I want that to be your expectation. Make your offer a little lower because of it. Also, don’t forget you will increase your rents in year 2, year 3, year 4, etc. So you WILL cashflow eventually but go into the property expecting not to cashflow now. And then you are still going to make $95,000 on a property. Remember Brandon Turner’s article on “How to Make $100,000 per year” – you can read it HERE. Don't forget about it.
If you analyze properties on their "Year 1 Cash Flow" then you are going to miss the boat. Buyer's have all the power now. It's not your fault someone is asking too much for their property! Just adjust your numbers on your offer to account for the difference. Don't miss out on the opportunity that's in front of you.
Hope all of that makes sense.
