As a new investor I’m like a sponge. I’m looking for every piece of knowledge that I can find to fill my head with as I begin my journey.
The question I’m asking my peers on here is, how much money should one have in reserves before starting a Fix & Flip, considering I will be using a Private Money Lender. I know I will need to raise the money that they will not cover, 20-25% of the buying price. I know some people do this with no money in reserves but that seems a bit risky to me. I’m looking at buying a property in the 80-100k range, single family.
How did you do your first deal? What are your thoughts on this? Do you recommend PML or Hard Money and why? Any input will be greatly appreciated. Many thanks.
@Kam Lau In terms of reserves a HML will typically look for anywhere from 3-6 months interest payments plus 10% of the rehab costs available post closing (if financing the rehab costs, otherwise they'll want to see the full amount of rehab as well). Aside from the down payment and the cash reserves, you'll also need to be able to demonstrate you have funds for closing costs, which will depend upon the lenders fees and points. Hope this helps.
@George Cox they will need to see 10% of rehab costs even if they are financing 100% of the rehab costs?
Yes, generally you will see this because the rehab costs are usually on a draw down basis but you'll need funds of your own to start the project (initial down payments, material purchases, etc.) and as the project progresses you can then draw down on those rehab funds to reimburse yourself. Basically, lenders want to be sure you have enough liquidity to get the project moving.
To provide a quick example of what @George Cox is saying, let's say that you have a rehab budget of 45k.
Within this 45k rehab budget, you perform three equal construction draws of 15k each.
When working with most hard money lenders, you would be responsible for floating this initial 15k.
The way the math works out is...
You put out 15k and are then reimbursed the 15k by the hard money lender.
You then put out the next 15k and are reimbursed.
You then put out the last 15k and are reimbursed.
As you can see, the hard money lender is technically financing 100% of the rehab, but you don't get the effect of that until the rehab is complete.
Hope this helps,
@Kam Lau It's totally reasonable to be more conservative with your first project. There will be unforseen expenses and things you learn along the way. You may end up with 2 months more of holding costs than you anticipate, or more, the contractor may have delays. One of the biggest reasons flips fail, or any business for that matter, is undercapitalization.
Hard to answer your question without knowing what the ARV will be but if you think you're probably running a bit thin, you probably are and should save a few more grand.
@Michael Kinsella very helpful. Makes sense. Thank you so much.
@Tony Angelos so say for example I get a property for 80k, needing 30k in rehab and it has an ARV of 150k. Would they typically finance 75-80% of the purchase price or the ARV? Since 75% of the ARV would 112k, does that mean they would finance the full 80k plus rehab? Thank you. Newbie here. Lol.
@Kam Lau You are thinking correctly to have some reserves. Obviously the more the better for unforeseen situations. Best of luck in all your endeavors.
I'm saying the amount of cash you have in reserves should be more than the requirements from the lenders, especially on the first one, because there's a learning curve. Dealing with contractors is a learning curve. Dealing with permits is a learning curve. It's best to go in slow on the first one in my opinion, and allow your knowledge and skillset snowball as you move forward.