What is considered over leveraged?

18 Replies

My plan is to buy 4 4 plexes over the next 4 years. Im living in my first one currently. In my area they sell for 700-900k. So after 4 years I’ll be 3-4mil in debt to the bank.

I’m a avid listener to Dave Ramsey, I believe and follow all his plans about not having debt. So my life personally has completely changed paying off my wife student loans, cars paid off, no credit debt, 6 months in mortgage payments set aside.

But I don’t agree with him when it comes to real estate. I know some people who say leverage everything, don’t put a cent down over 3.5% down and have tenants pay it off.

He says buy all cash because the bank man can come to collect. He lost all of his real estate because he was over leveraged and the bank said all his loans are due.

But wether you agree or not I’ll be taking the cash flow off of the properties to pay off the others.

So all the income from 4 plex 2, 4 plex 3, and 4 plex 4 will go towards the loan pay down of my 1st 4 plex. Once I get one or 2 paid off I’ll be stepping into apartment deals.

Let me know what you think about “over leveraging”

If one thing goes wrong or if a few people stop sending rent checks will you fold? Are you so spread out that mortgage payments are keeping you up at night? Are you putting off repairs or having to borrow more in order to get things up-to par? If this sounds like you I would say your over leveraged lol.

@Patrick Flanagan

In the real estate investing industry; banks usually require 20%-25% down and will cash out refinance usually at 70%-75% LTV. This being the industry standard and widely accepted throughout commercial and multifamily real estate; it seems the banking industry believes any down payment under 20% is over leveraged and 20%-30% down makes it a safe bet for the lender. Of course, if you are lending and it is federally backed, it is safe for the lender to go down to 3.5%. An important question here is what type of reserves are you planning on keeping?

@Charles Carillo

Great info.

A years worth of mortgage payments on each properties.

But I’ve been advised that 3.5 down is the best route to take. I personally don’t like putting so little down, so I was curious about everyone’s thoughts on it.

@Matthew Crivelli

Well I’m not really directing the question on if I’m personally over leveraged. I will have a years worth of mortgage payments set aside, be setting aside money for cap x.

I’m more talking about will the bank look at you and say have you are over leveraged.... like they did to Dave Ramsey and say you need to pay us back all of our money by the end of the month

@Patrick Flanagan

As I understand from reading about Dave; he did not lose properties he had leveraged with 30-year FHA mortgages.

From WIkipedia (https://en.wikipedia.org/wiki/...): 
By 1986, Ramsey had amassed a significant portfolio worth over $4 million.[4][5] However, when the Competitive Equality Banking Act of 1987 took effect, several banks changed ownership and recalled his $1.2 million in loans and lines of credit.[2] Ramsey was unable to pay and filed for bankruptcy in 1988.

He was flipping properties and they started calling loans and lines of credit that he was using to flip properties. There was a pull back in the market and he could not sell them. It seems it was not cash flowing properties that lead to his bankruptcy or fixed term mortgages.

You said you want to finance them all with 3.5% down? Have you spoken to a mortgage broker about this? They said that you can get multiple 3.5% down FHA mortgages?

You will not be able to buy four 4-plex over four years using 3.5% down payment through FHA. You can only have one FHA loan at a time. I believe conventional Fannie or Freddie loans will require 15% or 20% down on owner occupied fourplex. They may have additional requirements like 6 months payments in cash equivalent on hand per property. I think you will find it difficult to buy these four properties that quickly.

Originally posted by @Patrick Flanagan :

@Joe Splitrock

Most all My mentors did exactly this strategy. It definitely can be done.

You can only have one FHA loan at a time, so please explain.

@Patrick Flanagan I'm in agreement with Joe, you can only have one FHA loan at a time. Also typically any loan over $600k becomes a jumbo loan requiring more money down and I don't believe it's FHA compliant anymore. I'm currently shopping for a place at $900k (same range as what you stated), excellent credit and W2 job, and no lenders will touch it unless I go 20% down on a jumbo loan.

@Joe Splitrock

I’m not sure if you have to refi those into conventional loan before you get another fha.

But I just read a lengthy blog that a well know bigger pockets member wrote about using fha loans over and over. You have to live in it for a year.... then you can move out and get another fha loan. But now I have no clue lol


You can only have 1 FHA loan at a time. Unless you relocate 100 miles away. Period.

The rinse/repeat part of house hacking is refinancing the FHA mortgage into a Conventional mortgage, to free up your FHA eligibility to do it again.

You can buy with 3.5% down FHA, but then you need 20% equity to refi to Conventional as a primary residence (going to live there for another 12 months), or 25% equity as an investment property (not going to live there).

So then the million dollar question is, how do you create 16.5% or 21.5% equity in 1 year?

That's pretty easy to do in Bufoo, Nebraska where you can buy 50K properties and increase them to 65-70K (no offense to Nebraskans).

That's pretty tough to do in Beaverton, Oregon taking a 700K property to 850K or more.  Or in Chicago, Boston, Seattle...or any affluent area.

These "mentors" love to talk about how easy it is to house hack, so they can sell books, programs, social media...whatever their game is.  And they really don't care if you get stuck.

Knowing the lending guidelines, understanding your exit strategy, and having the right loan officer and realtor on your team can make or break your success.

@Patrick Flanagan good thing you didn't jump into the first property with guidance from your "mentor", only to find out that you can't move on to property #2 in a year (unless you have a 20% down payment to go Conventional).

Please start with an investor-friendly LO, who is experienced, and truly knows their stuff.  That's where you start your journey.

Best of luck!

I'm currently finding myself answering this very same question myself although not quite on the scale that you are on. My mortgages are much smaller because I live in a lower cost area of the country but by comparison my salary obviously is smaller too. I want to continue buying property as I'm able to amass further debt once my reserves are built up and my debt to income ratio improves with time.

I personally feel that if you have enough reserves built up to cover what you consider to be a safe amount of bills and mortgage payments than you should be safe. I'm having this argument with my mother right now who is non-supportive of my real estate investments despite that she and my father successfully invested for years, made a ton of money in rents and sold and made more money than they could need in their lifetime. She is concerned about my use of leverage and doesn't think it is a good idea.

I'm working on two deals currently, one will have a mortgage and the other will be cash because of the nature and scope of the project. I'll decide once the second project is done whether to refinance it to get some cash out and do another deal or use the excellent cash flow I'm projecting to simply help pay off the other mortgages. Either way I don't think I can go wrong.

I think your strategy is a sound one. If the buildings cash flow nicely and you eventually want to get into larger apartment buildings then I agree with trying to pay down the mortgages using the rest of the money. It will take you a few years to accomplish this strategy but you will get there. Having a down payment of close to $5 million or more after mortgage paydown and appreciation will help you get into a nice building with more units. 

Originally posted by @Patrick Flanagan :

@Joe Splitrock

I’m not sure if you have to refi those into conventional loan before you get another fha.

But I just read a lengthy blog that a well know bigger pockets member wrote about using fha loans over and over. You have to live in it for a year.... then you can move out and get another fha loan. But now I have no clue lol

 Yes, you can refinance into conventional, but then you need to meet the higher equity requirement. A new appraisal may get you there, but odds are good it will not. That means you need to put cash into the refinance. Refinancing after a year is very expensive. You have to factor in thousands of closing costs.

At that point why bother refinancing the FHA? Why not just use a conventional on your second, third and fourth?

You can have multiple FHA loans. I know this to be 100% true. You do not have to refinance them. You do have to live in the house for at least 12months but the longer the better. I have had good luck with FHA qualifications when living in house for as little as 15 months and as long as 3 years. With that being said from personal experience using house hacking method on duplexes.

However with the 4 plex prices you mention you are unlikely to qualify for FHA as you are in jumbo loan territory unless your finding deals on the 4 plex below the market value you listed in our first post.

Aside from the above info I will say I would not want to be at the leverage point your suggesting; but I'm not excessively aggressive in my investing strategy. To give an example of why. An FHA loan is going to offer a lower down but higher interest rate long term and reduced cash flow capacity. Using conventional you can get a loan as low as 10% down (maybe lower if you build a relationship with your lender) if you live in the property. What that offers you is a hire cash flow capacity which means bumps in the road wont hit as hard. And trust me everyone at some point has a bump in the road. It could be a job lose, layoff, tenants not paying rent, extended vacancy, tenant damages, etc. You might get lucky, but don't count on it. I have had water heaters that go out the 1st month in a place and roofs that go bad 10years earlier than expected because of wind damage. Things you won't know until living in the property.

@Patrick Flanagan I follow a lot of Dave's rules... except when it comes to investing. I think his philosophies on investing are not correct yet he's so deeply entrenched in them it would be "bad business" for him to change his tune. Additionally, @Matthew Crivelli 's definition of over-leveraged is one of the best I've heard!

Some things to keep in mind

  • These days banks are not calling the note due on a mortgage that is performing.
  • Did your mentors mention the "self sufficiency test" to you? In order for a bank to lend on a 3-4 unit property, the property must pass what is called the “self sufficiency test.” This is so the bank can mitigate their risk. Here’s the equation:
  • Gross rents for all units LESS a 25 percent vacancy factor MUST be greater than or equal to the mortgage payment. >


    (Gross Rents * 0.75) ≥ PITI

    Basically, when you buy 3 or 4 unit properties, the bank has tighter underwriting rules. Very, very few 3-4 unit properties qualify in our area unless you put more than 3.5 percent down. When you talk to realtors or lenders I recommend using this as a litmus test. If they don't know what it is, go find another one.

It sounds like you've been bit by the real estate investing and biggerpockets bug... that's why we're all here! What is and isn't possible is different in different markets due to things like landlord-tenant laws, price-to-rent ratios, and more. I've helped a lot of house hackers in the area. Shoot me a DM if you'd like to connect and strategize.

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