how does refinancing work?

Question

Hello,

I am just starting my real estate career (I bought a couple of best selling books and started reading) and have a question regarding refinancing:

1- If I understood the concept well, refinancing is great in real estate because you can buy a house at $100k (made-up number), fix it up to market value at $150k let's say, so you have an extra $50k in equity that you can get out through refinancing, is that correct?

2- If so, then my question is, is this actually a good strategy? Won't we have more debt accumulated through the refinancing?

Again, I just started reading a couple of books so sorry if my question is a stupid one :)

Thank you in advance for your help!

Wassim

Nathan Gesner · Answer

You can usually borrow around 75% of the equity, not the entire amount.

Yes, you would be taking on additional debt so you need to crunch the numbers and ensure the rental will still cash flow after borrowing against the equity.

Eliott Elias · Answer

Let's use your numbers

Once you appraise at 150k the bank will cash out refinance 75% of that. You will be collecting $112,000 before closing costs and paying off any current lenders.

Wassim Moukarzel · Answer

Thank you so much for your answers, it's very clear :)

Nathan Grabau · Answer

So there are two main types of convention refinances. The first is a normal refinance where you just take the existing loan balance, get is paid off, then open another loan for the balance. These carry the lowest rates(but higher than purchase rates). You can get some "cash out" on these which allow you to skip 2 payments and get about 1 payments worth of cash back at the table. These are good for when you are trying to remove or reduce PMI, get a lower rate, or get a small amount of money out of a property you have paid down.

The other main type of refinance is a cash out refi. You can normally borrow up to 80% of your properties value this way, though you will get a better interest rate if you just go up to 75%. So in your example, if you put 20k down on your 100k house, and then another 30k in renovations, to get it to a value of 150k, after some time(normally 121 day to 180 days) you could do a cash out refi for up to 120k. You would have in essence only put 10k down 120(new loan)-80(loan)-20(downpayment)-30(rehab)= 10k left in the deal, to buy a property that has 30k in equity and is worth 150k. This is a good deal for you because you have now "made" 20k in equity, and only have 10k tied up in your 150k home instead of 30k.

This is one of the best reasons why "good" debt is not bad. Most of us are not aiming for 0 debt, we are aiming for maximum cashflow or maximum equity, and debt allows us to grow much much faster. There are also some other, specifically tax advantages to debt that are complicated, but just know that as you research more and more, you view of debt will improve.

how does refinancing work?

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