I own a home valued at 400k with 230k on a 30 year fixed FHA. Our debt to income ratio is too high due to student loans and a few credit cards hence the FHA. Also my credit score is not great right now due to some late payments and the low percentage of available credit versus outstanding credit. Originally I wanted to get a HELOC to fund my first deal but quickly realized that there probably wouldn't be enough money there to purchase outright and rehab. Obviously for the reasons mentioned above we wouldn't qualify for any conventional financing right now. So my new plan is to look for a 90% HELOC at around 5% with a 5-10 year draw period and interest only payments during the draw. Right now we have a monthly debt service on credit cards and student loans of $1,100 which total about $80,000 combined. I want to use the HELOC to pay off the credit cards and student loans essentially consolidating the debt into the HELOC. While this wouldn't necessarily help in lowering the debt to income ratio because i'm just moving the debt from one place to another, it would lower the monthly payments on those items down from $1,100 a month to around $300 a month. The next step would be to use hard money to fund 100% of the purchase price of my deal. I've set a minimum net return on investment of 35% on the deals I've been analyzing (that's after taxes). While that limits the pool, I simply won't accept lower numbers than that before I pull the trigger. I'll use hard money for the purchase, use HELOC to pay hard money points and rehab costs then sell the property. Use the gross to pay back the hard money, pay back the points and rehab costs to the HELOC, pay all closing costs/fees, agent commissions, and set aside money for capital gains tax. The entire net profit would then be applied to the HELOC thereby reducing the outstanding balance and further reducing our monthly payment. Then go and repeat the process until all debts are paid, debt to income ratio is well within guidelines, and then switch to a long term buy and hold strategy. Please let me know your thoughts on this game plan. I want to know if there are holes in the theory and what roadblocks might be expected.
My thoughts are pretty simple, there is good debt and bad debt. You shouldn't be looking for more debt until you take care of the bad debt (credit cards, student loans) that you have. If anything goes wrong or isn't planned for, you'll be in a world of hurt without cash reserves and sufficient income to support your investments.
Christopher Brainard, Contemporary Property | http://sellnow.vegas
I am assuming you are talking about hard money lenders. They are all about the numbers. All the moving money around may throw a flag and they usually want you to have skin in the game as well.
With that said, IF the house you find is an amazing opportunity and the numbers are a match you may just find the right hard money lender to work with you. If they are putting in all the money they will definitely want a much higher return than normal.
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@Christopher Brainard Thanks for your input. I understand the idea of looking to take on additional debt, when my personal finances are not great in great shape, seems like a slippery slope as far as investing goes. You can never 100% plan for everything and there is no such thing as a guarantee especially in the REI world. It's real money and real risk. But if I do my due diligence and the numbers are truly there I have to seize the opportunity.
@Nicholas Crum You're absolutely right about the moving money around potentially raising a red flag with a lender and that's something i'm going to have to investigate further. In my position and with what i'm proposing, i'm going to have to account for a hard money lender looking for a higher rate of return and the deal has to fit accordingly. Thanks for the advice.
@Account Closed Thanks for responding. You're probably right and I know that the terms i'm looking for on the HELOC are a long shot. But since the entire plan really hinges on getting those favorable terms, If I can't get what I need then there is no plan and nothing happens. Nothing lost and nothing gained.
Let me expand on my previous post. I know this is a real estate website and everyone always cheers for someone to invest, but sometime, buying is not the right answer. Let me also say I am not a financial adviser, and I will recommend that you speak to one before you dive head first into this endeavor.
You mentioned that you have 80,000 in credit card and student loans. This is a huge red flag. If you have credit card debt you should not be expanding your personal debt. Why? Because credit card debt indicates that you can't pay your monthly bills or you had insufficient reserve funds to weather some hiccup that life throws you. High amounts of credit card debt kill you credit score and ensures when you do get a loan, you get a worse rate, which can significantly impact profits. You need a budget to pay off the credit card debt and to build up a 6 to 9 month reserve account for household expenses. In addition to improving your credit score, having cash in reserve never hurts.
You currently have 170k of equity in your personal residence, that's great. However, converting unsecured debt (credit card debt) into secured debt (Heloc) is always a bad idea. If **** hits the fan and you default on your credit card debt, the bank gets mad at you, you'll probably get a bunch of nasty phone calls, and it hurts your credit score. If you default on your mortgage, you lose your house and all the equity you have. Yes, I realize that will save you $800 a month, but are you going to put that $800 to pay off the Heloc? Most likely not, as you will need operating capital for your investments.
As others have mentioned, your personal credit is generally one of the items that hard money lenders consider when looking at a candidate. The better you look, the more companies that will be available and the better terms you can get. Additionally, hard money is expensive and if you are unseasoned, things may take longer or cost more than you think. Always plan for the worst case - then you always come out on top.
I highly recommend that you sit down with you family and draw up a budget to pay off your debts with your existing income. This will teach you discipline and how to properly budget money. This is a critical component to investing and I don't believe that jumping into doing flips is going to solve your personal financial issues.
While you're doing that, Bigger Pockets is a great place to study. Wholesaling is a great activity for people who are new to the business and would allow you to identify good deals and make cash to help pay down your debt. If you have the time, getting a license and selling homes is also a great way to make a little cash and learn the market. Even if you can only find a few deals a year and average $3k-$5k a deal, that would help you significantly, if your goal is financial freedom.
P. S. If you really don't want to wait, you could always sell your existing house and pay off all your debts. Find a fixer that qualifies for a standard FHA loan and let the house hacking begin. It is an excellent strategy when you don't have a lot of operating capital, however, the trade off is your own personal comfort. Living in a renovation for an extended period of time tends to annoy the wife and kids.
Christopher Brainard, Contemporary Property | http://sellnow.vegas
@Christopher Brainard Thanks for taking the time to expand on your original comments. All of the points you brought up are absolutely the reason why I wanted to bring this idea to the forums, that's exactly the kind of feedback I was looking for. By no means did I post with the motivation of needing someone to tell me all the reasons why this might not be the best idea, but it's always good to hear honest and straightforward opinions. Your comment on financial advisors is spot on and I actually have an appointment to meet with one very soon to get everything on track, I'll even run this plan by them to see what they say.
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