Currently my husband and I own three rental properties along with our primary residence. We are interested in moving toward small multifamily i.e. 4 to 6-plex to start. My question involves financing. We have a home that has 10 years left on the loan and we owe about 90K. We have a HELOC we can use for 80K. However, if we are to access that HELOC, the lenders have told us that is using financed money for the down payment. Would it be smarter to refinance the home and pull about 100K in equity to use for investing? Another question...if we refinance but it isn't our primary residence anymore, will the terms be worse than refinancing an owner occupied property. Any feedback about the pros and cons of this would be very helpful as we try to move forward in obtaining a multifamily investment.
Sometimes to get around what the lender was saying, you could try accessing the line and keep it in a bank account for a few months before trying to obtain your next property. That way it looks like you have the money in the bank with bank statements. They may not question it as much.
To answer your other question, if you refinance and the loan is no longer owner occupied, the terms will usually be less favorable.
My biggest concern is that you're looking to buy a 4 to 6 unit. Since it's a commercial unit (i.e. over 4 units) you're terms could be dramatically less favorable than residential. You'll have a loan that will require more down payment, have a higher rate, and might even recast after a certain amount of lines. You're also going to need more expensive commercial insurance. So just something to keep in mind. I only learned this the hard way, eventually converting a six unit commercial building to a 3 unit residential one.
Strategy wise, I would recommend against "borrowing short" to "invest long." In other words, HELOCs are usually variable rate loans which are better suited for short-term investments. So unless you have a strategy for paying off the HELOC balance quickly, I think that cash-out-refi is a better option.
That said, even if you do a cash-out, the lending bank may still balk, unless the the funds have been "seasoned" in your bank account for 2-3 months, as @Dave Van Horn suggested. For whatever reason, if you hold it in your bank account for 3-months, it's no longer considered borrowed. As a matter of fact, you may recall from your other mortgages, they usually don't even ask for more than 3 months of bank statements (2 may be the norm.)
4 units is considered residential, anything more is considered commercial. Finding and getting a residential loan is very straight forward. You can get them anywhere, including online. For commercial, you'll actually have to call local banks and establish a relationship and explain who you are and what you're doing, etc.
The final point i'll make about your strategy is about recourse: typically, residential loans are "non-recourse" which means that they are collateralized against the one property, but not your other personal assets. So if things go really south with your business plan, they can only take the house of which you took the loan against. If you happen to be living in that house, then you'll need to find a new place to live. :) As such, consider whether or not it would be worth it to take money out of your other investments instead of your primary. You'll pay a .25 point hit on the rate because they are collatorilized against investment properties, but then you'll potentially reduce the impact on your family if things go bad.
Hope that helps!
That is a good point about sticking with a four-plex to start. With our single family rentals, we have always put down 20%. Is the requirement on commercial higher? I know that one of the lenders we spoke with only offers 10 year loans so I am not sure if that is standard with commercial. Will keep digging. Thank you!
Thank you James for your input with regard to the HELOC terms. When we pulled money from the HELOC twice in the past, we refinanced that property after rehab and paid back the HELOC so it was less expensive but taking that money out for a longer time frame isn't smart at all. The information about leaving the money in the bank for a few months is helpful. The property that we would refinance and pull equity from is a rental property not our home. Since you have more knowledge and probably experience than I do, I hope I can ask you a few more questions. If we refinanced and had about $100K how would you recommend making a slow but steady growth plan? We were thinking that multifamily is better because when one tenant transitions the property is still making money. My husband is a GC and has done the work to rehab our properties and also manages the properties. So far our properties are in A neighborhoods while the multifamily properties we are considering are in C neighborhoods with more of a working class tenant base. Does that sound like the next smart step for building toward retirement?
You can use the HELOC to purchase a commercial property. Some lenders have a no seasoning requirement meaning they just want the source of the down payment and closing costs. This is not Fannie Mae money.
Here's how it works:
Write a check for however much you're going to need and put it in the bank. Get a letter from your guy at the bank that says "Carrie has x amount of dollars in her checking account # on x date". You're done. Then go get your property.
Incidentally, using investor property equity to buy other investor properties is a good idea. Using your primary residence is not a good idea, in my opinion. Some would agree and some would disagree.
The final point i'll make about your strategy is about recourse: typically, residential loans are "non-recourse" which means that they are collateralized against the one property, but not your other personal assets.
That's true in CA, but not in most states and not in MO. In most states residential loans are fully recourse and allow for deficiency judgements against the borrower if the foreclosure proceeds come up short.
That is where holding the property in an LLC comes in handy, right? So if we weren't able to keep up with the mortgage the bank would take the property but not others held in different LLCs? Thank you for the information.
Thank you for the info
Having the property in an LLC, with ONLY the LLC as guarantor on the loan with no personal responsibility would avoid the lender coming after you. Trouble is, that's almost certainly not going to happen. Even if the property is in an LLC and the financing is in the LLC's name, the principals of the LLC almost always have to give personal guarantees for the loan. A new LLC has no financial history, and so won't qualify for a loan on its own.
It is possible to get a true non-recourse business loan. This is required if an IRA buys a property with financing. The down payments on those are at least 35%.
As @Dave Van Horn points out, if you stay with 1-4 unit properties you can get conventional, 30 year fixed rate financing. That gives you the best shot at cash flow. If you go over four units, you're in commercial financing territory and there are no 30 year fixed loans in that space. ARMs, balloons and short amortization periods are the norm. That's going to be the case for a fully non-recourse loan, too.
@Jon Holdman Thank you so so much! It is so nice to learn more as we try to sort this out.
@Carrie Hallensleben - long time no talk! Refi-ing a none primary residence is always tougher. Few lenders will do it and 75% cash out is typically the max you can get.
I would HELOC but use a different lender. PM me please. We always use Platte Valley Bank. They have amazing products, on both the personal and commercial side. You have some great options with them.
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