How to fund large rehab

Question

Hello BP community

I'm looking for advice from some of you seasoned/experienced and savvy investors out there.

I am a newer investor with one property at the moment. A 4-unit house hack I bought last year with FHA loan in Omaha NE. I am now ready to buy another property with the same house hack/FHA strategy. I have been looking in Austin TX as I am planning a move there.

My realtor found a 4-plex for me at a discounted price because it needs a LOT of work.
The asking price is $675. It's hard to find comps nearby for a 4-plex and updated small MF properties but based on a few recently sold duplexes and a triplex within 2 miles if the price per sq ft is extrapolated (range $280-320 per sq ft; property I am looking at is just over 4000 sq ft) ARV is potentially $1,120,000-1,280,000.

I obviously plan to get estimates from a few contractors but based on videos and photos of the property one estimate I got is it may cost $200-250k to update completely. Again this is a quick estimate and I will have contractors actually walk the property to get more accurate estimates.

The question I had is, what is the best (or some best ideas) for how to pay for such a large rehab if in fact I would purchase the property?
I have the capital to cover the loan down payment but certainly not that big of a rehab. My mind keeps thinking of one of the mindsets/quotes to change from thinking "I can't afford this" to "how do I afford this," and that is where I am hoping those of you with much more experience can help me.

Some thoughts I did have were to stretch out the rehab and cost. I will likely just rehab one unit at a time which would work well as one unit is open now and the rest are filled with tenants on month-to-month leases. I know I have heard people talking about using PML, hard money loan, interest free credit cards but I'm trying to figure out what might be the "best" strategy or ideas that I'm not thinking about (loan from my 401k?). I don't have enough equity in my first property that I can use a HELOC. I didn't really want to use a FHA 203k loan given it is so much extra money I would then be paying interest on for 30 years and with the higher rates today, though maybe I'm wrong?

I appreciate any input/advice! This is a great community to be a part of and I realize I need to lean on it more for guidance.

Evan Polaski · Answer

@Andrew Beckmann, there are likely some lenders out there that will do acquisition + renovation loans.  In my experience, they come from local/regional lenders like credit unions or small banks (1-6 branches) serving the local market.

You will typically need 20% down, and will be funding 20% of the draws yourself, so if you need a $1mm, you will have to have $200k available + reserves.  Not saying these are the right fit, necessarily, but an option, nonetheless.

As for the ARV, I am sure you are doing this, but I would get clarification on the ARV.  First, depending on the area you are looking, 2 miles is a LARGE diameter.  Where I live in Cincinnati, 2 miles one way takes me to some areas I don't want to live, and 2 miles the other way takes me to areas I can't afford to live.  And while a PSF isn't the worst, finish levels, rent levels, price per unit, should all be factored in.  In rentals, but houses too, bigger properties often take a discount in PSF, i.e. if the duplex had 900 sq ft units and you have 1,000 sq ft units, but they are all 2 bed 1 bath, the duplex will likely have a higher PSF

Jordan Moorhead · Answer

@Andrew Beckmann I think the FHA 203k is the best way to go, plus you can refi if rates drop. It'll be a lot more affordable than borrowing private money and will yield the same result!

Caleb Brown · Answer

I doubt you can use an FHA loan if the condition is poor. Not sure on the criteria of FHA 203K loan, might be an option. The only other route is having the cash to fund or going hard money. Hard money is more expensive so I would reach out to lenders, get quoates. Definitely get multiple bids and run the #'s. With it being your first rehab I would not take on a project this size but it's up to you :)

Mason Liu · Answer

Hey Andrew,

Firstly, congratulations on already having a 4 unit!

In terms of this new property, lets assume you purchase it for $675k, and it costs $250k to rehab for an all in cost of $925k. Lets also assume that you are on the lower end of the comps of $1.1mm after repair value. There is roughly $175k of equity to be had in this instance, all things being equal, which is roughly 18% equity. Not bad, especially for house hack purchased on the open market.

In terms of financing, if you are already going to get a FHA loan, I'd say just stick with rehabbing the units enough to get them rented out, and then work each unit one by one (starting with the one you are living in). Whenever a tenant moves out, renovate that one to better than market standards, and rent out at market rents. Sure this process is slower, but it is not capital intensive and can be argued is a lot less risky. Since you'll be doing each unit one by one, you can utilize interest free credit cards as long as you have a clearly defined payment plan to avoid high interest costs.

HML might be tough since there isn't really enough equity in the deal for it to be worth the high financing costs (today's rates are roughly 10-12% + 2-3 points upfront from what I've seen). PML may be a choice if you can secure private investor money for a lower cost. I still think doing it one by one and taking it slow is the best strategy in this regard.