I’m kinda a math nerd, so when opportunities arise in the BiggerPockets Forums to analyze a deal, I love to jump into the conversation and help people look at the deal. I understand that the math can be complicated, and it’s taken a long time for me to wrap my small mind around it (and I still mess numbers up often!)<\/p>\n
So yesterday, I spent some time analyzing a deal and when I finished, I thought “Well… I bet a lot of other people might be wondering the same thing – I’ll put it on the Blog.”<\/p>\n
So here it is!<\/p>\n
If you’d like to read the whole thread, click here<\/a>, but I’ll sum up the question below.<\/p>\n Special thanks to Junior Salters for posting this question! Essentially, Junior wanted to know more about the strategy that is often talked about around BiggerPockets where an individual:<\/p>\n I have personally used this strategy a few times, and am in the middle of using it on a four-plex (soon to be 5-plex) that I bought several months ago – which you can read about in my (super long winded) article “How to Buy a Small MultiFamily Property: A Step by Step Case Study<\/a>.” I am a large fan of this strategy – though there are definitely some major precautions a person needs to take – which I’ll go over below.<\/p>\n Junior posed the following hypothetical question, based on a real-life property:<\/p>\n “If i had a rental that I wanted to purchase for $25,500 cash and the After-Repair-Value (ARV) was $50K; and the HML would give me 70% of ARV and it only needed 3-5K in repairs (turnkey with tenant – rent at 625), how much money would I need to bring to the table?”<\/p><\/blockquote>\n Do you have a guess on how this situation would play out in real life? Take a guess, and then follow along my analysis below and let me know if you agree or disagree!<\/p>\n First, let me re-cap the numbers presented in the question:<\/p>\n Purchase Price:<\/strong> $25,500. First, I want to make some minor changes to the numbers above – because I believe it’s important, especially for new investors, to double your repair budget when calculating the numbers. You can always reduce later and try to save money, but when analyzing, I always recommend doubling your budget.<\/p>\n So, $3,000 – $6,000 in repairs I’m going to turn into $10,000 for repairs.<\/p>\n Therefore, a $25,500 purchase + $10,000 repairs would be $35,500. Add $1500 in closing costs and you’ll be at $37,000.00 into the deal.<\/p>\n Now – a quick note on the “After Repair Value.”<\/p>\n Remember, hard money lenders<\/a> are going to be ULTRA conservative. So you might think it’s worth $50k and they might say $39k. So I believe the #1 most important step in this whole thing is being 100% absolutely positive in the final ARV amount, confirmed by at least 2 different real estate agents and supported by at least 3 comparable SALES, sold within 3 months and within half a mile. It might seem like overkill, but as I’ve outlined in my article “How NOT to Flip a House: An Embarrassing Story of Wasted Time, Money, and Opportunity<\/a>” – over estimating the ARV is a recipe for disaster. <\/em><\/p>\n So let’s assume the $50,000 number is a solid, good number to use. So, if $50k is the After Repair Value, a hard money lender, as suggested in the question, will fund 70% of that deal, or $35,000, which means you’d be “technically” expected to come to the deal with $2,000 worth of repairs (because the total deal was going to cost $37,000.)<\/p>\n However… <\/strong><\/p>\n Most hard money lenders are not going to fund all the purchase price AND most of the repairs on your first deal.<\/em> Most likely, the repairs will be 100% the responsibility of you, even if the 70% and the ARV support it. You might find a lender to do it – but it’s unlikely on your first deal. The 4-plex (soon to be 5-plex) that I am working on right now was funded almost 100% by my lender, but that is because I have the experience and financial backing to support the added risk – plus the relationship I’ve built with the lender was very important as well. However, don’t assume this will be easy to find.<\/p>\n So, I’d say most likely, the lender would say:<\/p>\n “Since this is your first deal, I will fund $20,000 of the deal. You will come to closing with the remainder, and the repair costs will be on you.”<\/p><\/blockquote>\n The hard money lender will then charge you their points as well, and add it to the loan. Let’s say the HML will charge 5 points and 12% interest. So the total loan is going to be $21,000 ($20,000 + $1,000 for the “points”) and you’ll come to closing with $7,000 to cover closing costs and the rest of the purchase. Then, you’ll pay the $10,000 for repairs (hopefully it’s less than that – and if it is, awesome but don’t expect it,) close on the deal, and begin work.<\/p>\n Keep in mind also – you’ll pay the lender $210 per month for the mortgage payment plus another estimated $100 for taxes and insurance, so $310 per month in holding costs. Assuming it will take 3 months to clean it up, and get a renter in it (probably less, but always double your timeline), this is going to add another $1000 or so to your bottom line.<\/p>\n SO in the end, you’ll have spent:<\/p>\n $20,000 loan Total cost: $39,000<\/p>\n At this point, you get the house rented out for $625 per month. Using the 50% rule, figure $300ish goes out to expenses, and the remained pays the mortgage ($210 per month). So, while using the HML, you are getting around $100 per month in cash flow. Not too shabby, but with the short term hard money loan, you don’t have a lot of time either. As soon as the “seasoning” period is up (banks will typically require you to wait 6-12 months before you can refinance) you can start the refinance process.<\/p>\n At that point, the bank will do the appraisal and it comes in (hopefully) at $50,000. The bank agrees to do an 80% loan to value mortgage, on a “Cash Out Refi” (which means you get the original HML loan paid back, plus cash to pay yourself back) so they will loan $40,000 – which covers everything you’ve put into it. However, the bank is also going to charge a couple thousand in fees and closing costs because they all suck like that. So you may be a couple grand short in the end, but nothing is free in life!<\/p>\n The new mortgage of $40,000 at 5.5% for 30 years is $227 per month (just the principle and interest.)<\/p>\n Now, using the 50% rule again, and assuming a rental price of $625 per month, you, you are left with around $90 or so per month for cash flow.<\/p>\n Sure, that cash flow is not amazing, but knowing that you have no money into this thing, it isn’t a bad thing either.<\/p>\n As I mentioned earlier, there are a number of important considerations and assumptions to consider when using this strategy. This section is going to cover a few of those. This is very important – so be sure to read carefully through this section. <\/em><\/p>\n So, this whole deal hinges on a few important things:<\/p>\n 1.) The property really being worth $50k. This is a big deal. We talked about this above.<\/p>\n 2.) Having the, roughly, $18,000 of your own money needed to do the deal. Or finding a partner with the $18,000. For more information on investing without cash, check out “How to Invest in Real Estate with No Money<\/a>.”<\/p>\n 3.) Finding a HML that will fund 70%. Most will only do up to 60-65%. Maybe less on a first deal – so be sure to look around. For the internet’s most comprehensive list of hard money lenders, check out the BiggerPockets Hard Money Lender Directory<\/a>.<\/p>\n 4.) Being able to get the refinance from the bank. This is vitally important if you are going to use this strategy. Lending practices could change – so be sure to have multiple exit strategies. At the end, you’d only have $39,000 into the deal. Could you quickly sell it for $45,000 if you had to unload it fast? Are properties in that price range selling quickly in that neighborhood? Having multiple exit strategies planned is very important – and will also help you secure better terms from a hard money lender.<\/p>\n Anyways – that’s my analysis of such a hypothetical deal. Hope that all made sense to everyone! Feel free to post your questions or comments below if I didn’t explain something clear enough or if I messed up in my math anywhere!<\/p>\n Also let me know … would you do this deal? Why or why not? Share your thoughts below, or on the forum post itself<\/a>! <\/strong><\/p>\n
\n<\/em><\/p>\nThe Strategy<\/h2>\n
\n
The Question<\/h2>\n
How to Analyze a Fix, Rent, and Refi<\/h2>\n
\nRepairs:<\/strong> $3,000-$6,000
\nAfter Repair Value:<\/strong> $50,000.<\/p>\n
\n$1,000 HML points
\n$7,000 cash you brought to closing
\n$10,000 repairs
\n$1,000 holding costs
\n————<\/p>\nCash Flow Analysis<\/h3>\n
Important Assumptions<\/h2>\n
Conclusion- What do YOU think?<\/h2>\n