Best Plan For A New Investor?

Question

For a new investor with good credit but limited cash to start out with, what's the best path for building wealth and being able to finance multiple properties (say 1 property a year)?  I don't want to get myself stuck in a situation where I invest in my 1st property and then can't do it again for a few years.  If I start out with a buy, refurb, and hold as a rental property, would I be able to use the equity in that home 1 year later to do a home equity loan to fund my 2nd property down payment on a 2nd property?  And could I continue to do that somehow?  Or would it be smarter to fix & flip so I can get some more cash in my pocket for my 2nd deal.  Or are there any other ways of financing multiple rental properties that I haven't thought of yet?  I just want to be smart and plan ahead before I make my 1st leap !

Jon Holdman · Answer

Account Closed rentals are a cash on cash return game.  There's really no way to build up a decent income without putting cash in.

If you buy a junker property, fix it up and hold it a year you may be able to do a cash out refi and get some of the cash back.  The year period is because you want to use a new appraisal.

Even that doesn't work very well if you buy a property in good condition and rent it.  If you've financed that at 80% LTV, then its unlikely you'll have enough equity after a year to be able to pull much cash out.  And refis are costly.

So, really, you have to figure out some way to be accumulating cash to put into acquiring rentals.  Its really no different than investing in stocks.  You need cash.  Once you've started building a portfolio, you can use the income from the rentals (assuming they're good ones) ask the source of cash to buy more.

Account Closed · Answer

Thanks for the input Jon.  A cash out refi sounds like a good game plan if I need the cash for the next down payment; especially because I plan to do refurb on the 1st rental property I purchase.  My goal would be to get a $2 increase in value of the property for each $1 worth of refurb.  So if I put 20K into refurb and increase the value of the property by 40K then the additional closing costs for the refi wouldn't be such a big deal.

Jon Holdman · Answer

$2500 is in the right ball park for a $100K refi.  At the very least you have an origination fee and an appraisal.  So there's 1% plus about $500.  Usually have some underwriting fees, title company fees and recording fees.

According to the Fannie Mae Eligibility Matrix you can get a purchase money loan at 85% LTV and a cash out refi at 75% LTV.  I've not heard of lenders going to 85%, so I'm going to use 80%.  I'll use a $100K purchase for this example.  You buy a house for $100K and put $20K down.  You spend another $20 on rehab to add $40K in value.  Realize that to do that you need to start with a junky property and make it reasonable.  Taking a decent property and doing upgrades doesn't yield that sort of improvements.  But lets assume you do it and a year later it appraises at $140K.  Now you can do a 75% LTV loan.  That's $105K.  Figure $2500 in costs, and you pay off your existing $80K loan (yes, its paid down a tiny bit) and you'll net $22.5K (plus that bit of paydown.)  So, this gets you about half your cash back at a cost of $2500.  That $22.5K is a LOAN, though, not income.  So, you are paying about 10 points to get that $22,500.  And it reduces the cash flow from the property.

Bill Mitchell · Answer

@Jon Holdman You stated refis are costly. What does it typically cost to refi a property? After loan origination costs and such I figured it would be $2,500 or so, which doesn't sound too bad, but I may be way off base here.

Thanks