Mortgages & Creative Financing

How Much Debt Is Too Much When It Comes To Real Estate?

Expertise: Landlording & Rental Properties, Personal Development, Real Estate News & Commentary, Business Management, Flipping Houses, Mortgages & Creative Financing, Real Estate Deal Analysis & Advice, Real Estate Wholesaling, Personal Finance, Real Estate Marketing, AskBP, Real Estate Investing Basics
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Recently, a question came in from a BiggerPockets Podcast listener asking, "I'm still unclear how the BRRRR strategy would work, given that every property increases your debt load. Why would anyone keep giving you new loans as your debt balance keeps building?"

Forget the BRRRR part for a second. Let’s just talk in general. The underlying logic is: the more properties you own just adds more and more debt to your life. Why would banks keep giving you loans?

How Loans Work for Real Estate Investors

Well, let’s talk about that. First of all, some banks will stop you after four or after 10. There are limits. They were six for a while, then it was 10. Those are residential, single-family house loans. You typically can only have 10 of them, roughly.

Now, does that mean you can’t invest in more than that? Of course not. You can still find ways to do it. You can go portfolio loans, you can go private loans, blah blah blah.

However, the real core of the question besides the technical, what we’re getting at here is this: By buying more and more real estate, isn’t that just adding more and more debt to your life? Isn’t that getting dangerous?

Related: The Investor’s Complete Guide to Filling Out a Successful Loan Application

Well, not if every property makes you way more money than it costs you. I have a friend who owns a Domino's Pizza. So they have a loan on their building. Their building costs them $2,000 or $3,000 a month they have to pay. And they have employees. That costs tens of thousands of dollars every month for employees.

But their business brings in around $50,000 a month in income and revenue. Guess what? They don’t own one Domino’s—they own 30 Domino’s. And they can keep buying Domino’s because every restaurant just makes them way more money than what they spend.

That said, the bank doesn’t go, “Nope, too many loans!”

No, they’re like, “Great, we’ll give you another one.”

The banks are begging them to buy more Domino’s. Why? Because they’re buying businesses.

That’s what rental properties are. They’re little businesses that produce extra money, profit, cash flow—that is, if you buy them right.

So, if you have a bunch of properties and you buy them all right, you just make more and more money. The bank thinks, “Oh, yeah, I like this person.”

money-investor

How to Get Around Loan Limits

Now, what most people do to get around that 10 limit thing is they just get into multifamily. See, once you get above four units, you get into five-, 10-, 20-unit properties, well, then banks don't care at all.

Now there are still some requirements on the bigger deals, like they want you to have more and more liquid money, which means money just in savings. They also want you to have a higher net worth. So at that point, you just start bringing in outside investors who have higher net worths.

We call them key principals. In Open Door Capital, my real estate fund, I have a key principal. His name’s Brian Murray. He’s also my asset manager. Brian has a way bigger net worth than I do. He has more liquid assets than I do. So, he’s able to help us get these big $5 million, $10 million loans. And so there’s always ways around it.

Related: Creative Financing: 5 Outside-the-Box Tools Savvy Investors Use to Build Wealth

People think that you’re just stuck, you hit a brick wall, but they’re never brick walls. It’s just a turn. It’s like you’re in a maze and you hit one wall, so you turn and you go this way. And then you hit another wall, and you go that way. There are always answers to these questions.

Now, if you’re buying a bunch of tennis shoes on credit cards and every credit card is costing you $200 a month, then yeah, that’s stupid, because that is a liability. It’s costing you money. And the more you have, the more and more money you’re losing. Just like if you bought 10 houses and every house makes you lose $500 a month, you can only do that so much until you’re broke.

But if your properties are making money, then you just keep making money more and more.

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How much debt do you think is too much?

Tell us how far in the hole you’re willing to go in the comments.

Brandon Turner is an active real estate investor, entrepreneur, writer, and co-host of the BiggerPockets Podcast. He is a nationally recognized leader in the real estate education space and has taught millions of people how to find, finance, and manage real estate investments. Brandon began buying rental properties and flipping houses at age 21, discovering he didn’t need to work 40 years at a corporate job to have “the good life.” Today, Brandon is the managing member at Open Door Capital. With nearly 300 units across four states under his belt, he continues to invest in real estate while also showing others the power and impact of financial freedom.
    Daniel Somers Rental Property Investor from Tiffin, OH
    Replied about 2 months ago
    Love this article. As long as you have reserves set aside for big expenses that comes along, and you are making enough profit, the debt isn't that big of a deal.
    Paul Marthaler
    Replied about 1 month ago
    Agreed. Setting aside reserves. Sometimes its hard to do that when you see $$ sitting in your bank earning something pitiful. I approach my reserves a little differently in that my goal is to pre-pay all mortgages notes 6 months in the future. I'm buying down the principle in advance and have peace of mind that should I need a new roof/HVAC/kitchen remodel, then the cash flow is there to cover it without missing a beat. Furthermore, in COVID-like events, gives one the extra cushion if things get rough.
    Brant A Van Dyke
    Replied about 1 month ago
    I've never thought of that before Paul - your return on your cash reserve would be essentially whatever interest rate that particular mortgage would be correct? If it's a 5% mortgage that you prepaid 6 months, you are essentially "earning" 5% by prepaying it and preventing that later expense.
    Nicholas Bolcon from Coventry, Rhode Island
    Replied about 2 months ago
    I think there is still a question of being over-leveraged. Some people have different risk tolerances. If you have 5 traditional loans with little equity, another couple of private loans without the stricter bank terms and then you put all of your reserves into a flip or BRRRR and the bottom of the market drops out at that point you could be in trouble and unable to pay your loans.
    Jessica Lasda
    Replied about 1 month ago
    This is the part I can’t figure out either. How do you hold all this debt without huge risk of not being able to pay? If you pay in cash a new flip it, then rent it out and refinance for 80%, then rinse and repeat, what happens when half your tenants don’t pay rent because of say, oh I don’t know, a pandemic. Your state won’t allow you to evict any tenants. That sounds like a good way to blow it all up. Ideas?
    Brant A Van Dyke
    Replied about 1 month ago
    Jessica, Brandon said a couple of podcasts ago that the pandemic actually had very little effect on amount of rent being paid. He said pre-pandemic that 96% of rents were being paid in the country and that has currently only dropped to 95%. You have a valid concern of unpaid rents, but the actual drop was only 1%. As a result, Brandon wasn't worried because the change was so little. That being said, it's definitely something you factor in.
    Dale Miller Realtor from Tonawanda, NY
    Replied about 2 months ago
    Very interesting article. I'm willing to take on debt as long as it keeps producing consistent results. Then keep stacking. Thank you for the great read!
    Nicholas Rickman Contractor from Gig Harbor, WA
    Replied about 2 months ago
    Does the loan really count against your debt to income ratio? What if you are depreciateinf the cash flow therefore not claiming positive income?
    Paul Marthaler
    Replied about 1 month ago
    I believe it's less the loan, but the monthly payment to service that loan compared against your monthly income which determines DTI. Anybody?
    Gil Cruz
    Replied about 2 months ago
    Great Article ,I guess in my case they have limited me to 2 investment propertieshere in Florida due to my fixed income even though both properties generate incomes and I also have a heftier bank account I guess there looking after my nest interest.
    Eunice Villarroel
    Replied about 1 month ago
    Lol Florida is fun like that. I'd suggest you to talk to an accountant and a good mortgage lender and see how you can prepare. It really depends on the individual and type of loan. Maybe you may not qualify for a conventional loan in the same city so you may have to go a certain distance (I have one in Orlando, another in Miami and another one coming soon to naples)but an investment loan may suit you just fine if you have the capital. DO NOT GIVE UP! THERE ARE LENDERS OUT THERE WILLING
    Sofia Sharkey Property Manager from Kansas City, MO
    Replied about 1 month ago
    Great information! I wondered how one kept going once you’ve hit your limits.
    Daniel Cisneros Rental Property Investor from San Jose, California
    Replied about 1 month ago
    Hi Sandra you can use private money, portfolio lending, owner financing, etc. I got six properties under my name, once i max out and hit the 10 we are going to start buying using my wife's name and credit. That's if we decide to continue buying SFH but we are gearing up to buy multi, happy investing!
    Paul Marthaler
    Replied about 1 month ago
    NASB (North American Savings Bank) of Kansas City does portfolio loans. You'll pay a little more 5-6%, but if the #'s work, they work and they're easy to work with. Call Adam Welsh 816-508-3122
    Brooke Booth Rental Property Investor from Rogue River, OR
    Replied about 1 month ago
    This is always a great option! Assuming she has the dti available to purchase using her own name. My husband and I are working it like this for now, too. I will buy until they don’t lend to me anymore, then it will be his turn. :)
    Timothy Lewis Investor from Miami, FL
    Replied about 1 month ago
    Great read. Thanks!
    Shuba Lodd
    Replied about 1 month ago
    What lender do you use, Daniel?
    John Cummins
    Replied about 1 month ago
    For almost forty years we have used the term economic flywheel to understand how our rental cash flow helps us. As you know a flywheel is heavy and contains momentum. We borrow from that momentum to pay short terms bill, we manage it for our benefit. It takes a big hit to slow it down, a massive hit to stop it. However bad habits and government intervention can upset things. A government moratorium on evictions is one massive hit, high vacancy rate is another. To sum it up, the bigger the flywheel, the bigger the momentum, so I think debt and owning properties go hand in hand but by no means replace dumb management practices. We have never bought a property with the intention of selling it to cover our debt load, that's a ticking time bomb.
    John Cummins
    Replied about 1 month ago
    Another time bomb is a variable rate loan. I admit to a few of those and thank god got rid of them before any exploded on me.
    Jerome Kaidor Investor from Hayward, California
    Replied about 1 month ago
    I haven't been able to get ANY commercial loan that wasn't variable rate, in the past 10 years at least. The REAL time bomb is a loan with a balloon payment. I have scrupulously steered clear of such. I had a friend who had to sell her fourplex because it had a balloon, and the market wasn't right for her to refi.
    Amy Pfaffman
    Replied about 1 month ago
    I think what you're saying makes perfect sense, and I totally agree. Also, I think it's good to have a cash cushion of some amount for each property, because things to go wrong and need fixing, and vacancies do happen. Personally, I struggled with getting loans because my rental properties are all low value, and my income looks really low because of all my tax deductions as a real estate investor. Then I found a lender who'll let me borrow against the significant equity in my primary residence, which will allow me to make cash offers on my next rentals.
    Dante Pirouz Rental Property Investor from Fort Gratiot, MI
    Replied about 1 month ago
    It also depends on whether the properties are owned in your name or in your business/LLC name. And how you report your rentals' income. If you can't show the revenue on your tax returns for a property that you have a mortgage in your name you will be penalized by the bank. Also the more mortgages you have in your name, the more your FICO gets dinged...oh and it doesn't help if you happen to be a woman of color I have found. Obviously your demographics impact your FICO and how a bank views your risk taking behavior which will penalize me as an entrepreneur even with 3 grad degrees, a big steady income, etc. ho hum...
    Brooke Booth Rental Property Investor from Rogue River, OR
    Replied about 1 month ago
    I was always told that women owned businesses are good to have because of the minority issue. But, I have yet to see it play out to my benefit. I think it’s a ruse, and gives them leverage to say “no”, even though they claim it doesn’t.
    Tipp Mason
    Replied about 1 month ago
    Great article and even better practical responses from the BP family. I'm just a newbee trying to suck up the knowledge, enjoy the stories, and try to prepare myself for my next move! Great stuff I love it here, no fluff just facts.
    Ron NA from Myrtle Beach, South Carolina
    Replied about 1 month ago
    At the end of the day, the bank check your debt ratio. the dollar that you make is not fully calculated as a full dollar. I got stuck on the 4th unit. going to private loan cost more and may not be worth buying
    Ruben Simon from Cleveland, Tennessee
    Replied about 1 month ago
    Great article!!!... My wife and I have two single homes we live in one and the other one is rented; both of them are conventional loans 20% down. We acquired the first one in 2017 and the last one in January 2020. What should be my next move for my next one? Thank you...
    Tim Parker Investor from Bremerton, Washington
    Replied about 1 month ago
    The key is to buy right. BRRRRR works best if the buy is at a price where you can add lots of value. You don't buy just to have more rentals, you buy to have cash flow and more equity. We just did a deal where we bought for 266k and have a budget of 50k for reno. All in for 316k. It will appraise for 450k+. We can get a loan back for 315k leaving us with 1k in the deal. We are converting from a sfr to a duplex. The rent will about 3200 per month. Our payment (including tax and insurance) will be about 1700 per month. Cash flow and forced appreciation. We would do this 100 times a year if deals were easy to find, but they're not. You have to look a lot and walk away from anything that's not what you're looking for. BRRRRR is awesome when done properly. So far the banks love us. They do indeed want us to buy more because they know we only do great deals.
    David Stich
    Replied about 1 month ago
    That's a textbook BRRRR! Nice work!
    Marc Cohen
    Replied about 1 month ago
    Everything looks good when the market is on the up and up. The key is how protected are you against the downside? Some cities (like LA) have experienced a major dip in the 2020 rental market which is leading to increased vacancies and rent reductions not seen for 10-15 years, especially in MFH. Yes I know some areas are seeing rents rise but that doesn't help if you are not invested in that market. The vacancies and reduced rent can crush cash flow so without cash reserves can create a knock on effect. The calculations made at purchase can reverse thus creating a potential loss maker.
    Brian Ahrens
    Replied about 1 month ago
    I understand the concept here, I agree with it, and it makes a lot of sense. My biggest concern is, what if one house needs a roof, another house has termites, the basement of another floods, the plumbing needs to be replaced in another, and another has rats and the attic insulation needs to be cleaned out, and I'm looking at $75,000 in costs in a month? How % of cash do you keep to make sure you have adequate reserves for the darker side of things? How do you pay for all of the possible deferred maintenance or cost to cure items that will inevitably pop up?
    A Schwartz Investor from Raleigh NC USA
    Replied about 1 month ago
    Three points. First, the most conservative approach is to have cash on hand equal to your debt. That way if a loan or loans gets called, you do not have to liquidate at fire sale prices. Second, most lenders want to see cash on hand equal to at least six months of PITI. Looking back on all real estate pullbacks from 1900 to present, that would have worked well except for 2008-2010 when you probably needed at least one year to two years of PITI. Third, many long time real estate pros seem to have portfolio equity of about 50% to 65%. That equity, if you can tap into it, (which may not be easy in a downturn), is essentially the same as cash on hand.
    Luis Machado
    Replied 22 days ago
    Great comments!!! Here just trying to learn. Bought my first 3 family rental property 6 moths ago and so far so good. Already considering a second to try to take advantage of the great rates but don't have enough for the downpayment just yet. So to use Leverage I'm considering a "Fast Track Loan". Wondering if its worth taking out on my primary residence to use my own Equity. They're offering 3.15% for 12 years and I can take roughly 50K from my existing 100K equity. Along with some of my own savings, this should give me enough for the 25% down on a second rental property. Would this be a smart move? The Fast Track Loan seems to be a huge saver because it does not require closing costs. Only a fee of roughly $350. I have 11 years left to pay off my primary home and taking this type of Equity loan would have me payed off in 12 years with my mortgage going up roughly $400. Thoughts?
    Peter Hanna from Spring, Texas
    Replied 14 days ago
    I understand the benefits of tax laws and government designed benefits for operating in the red (mostly). I know this is how the rich dad's get to be rich. Way back (Merry Christmas, Bedford Falls!), the idea was to get to financially operating in the black. Then credit became the standard instead of gold. Is there ANY value today in working from a black ledger? Much (paraphrased) has been said here about the ratios maintaining a positive cash flow (black), but is there value in no loan, and still cash flow (doesn't that even imply more cash flow)? I'm kind of a noob, so maybe this is a stupid question. It's okay to say that too if it is.