Hi @Jeffrey A., please accept some thoughts from Jeffrey B.
Welcome to the craziness that is real estate investing! I am both an investor and licensed mortgage broker. I've financed deals using equity from my home and loans from others. You are going to get conflicting responses on this because a lot of it comes down to your plans and your tolerance for risk, which are things known only to you. You mention having a mentor. Have you considered collaborating with them where you could pool your resources and directly benefit from their experience? This would also allow you to get better pricing from lenders. Otherwise, you may be limited to doing deals that are less than or equal to the equity in your home, and miss out on some bigger opportunities.
That said, fix-and-flip loans will have higher fees and interest rates than most HELOC's. However the difference may not be as significant as you think. I'll do something that appears to be taboo on BiggerPockets, I'll share my rates and fees.
Today, we were quoting interest rates between 10% and 12% for (1) a first-time flipper - 0 flips, (2) with a credit score in the 740's, and (3) putting only 10% down with us financing 90% of the purchase price and 100% of the rehab. (The difference in rate depends on the deal structure, e.g., the ratio of rehab dollars to purchase price.)
Like a HELOC, you only pay interest each month on the loan. If the rate on your HELOC is prime, that would be 7.5%. So the difference between prime and our 10% - 12% would be 2.5% - 4.5% per year, or 0.208% - 0.375% per month. That translates into $208 to $375 per month on a $100,000 loan. You mentioned the risk of an unsuccessful flip. You have to decide if it's worth putting your house at risk to save $200 to $400 per month. If all goes well and you complete the flip in 3 - 6 months, you would have saved between $600 and $2000 in interest. Again, your call on whether it's worth putting your home at risk for that. If the rate on your HELOC is higher than prime, then your savings will be even lower.
We think we have the lowest fees in the market. For a $100,000 loan, we would have to charge 2 points ($2,000) for originating the loan. That's because it's as much work for us to originate a $100,000 loan as it is to originate a $1,000,000 loan, and we need to make some money. In theory, since we don't have a prepayment penalty, you could borrow the money, complete the rehab and pay off your loan before your first payment was due. Then we'd make no money at all.
The only other fee we charge for this program is a flat $1,500 services fee. That's it. This fee covers all other services from us including underwriting, appraisal, legal, wire transfers, etc. We do not charge any of the junk fees I've see from other private lenders. So, for a $100,000 loan under this program, your total loan fees to us would be $3,500. And, since we don't require reserves for this program, once we add in the 10% down payment, only $13,500 would be needed to close. We can typically close this type of loan in about a week. (We have other fix-and-flip programs we can close in 3 days or less.)
My take is that for very small loans, a HELOC may make sense, because we do charge small origination and service fees. But as you point out, using a HELOC has some risks. As your deals get larger, especially when they are bigger than the equity in your home, a fix-and-flip loan may be worth considering.
I'm happy to share my experience as an investor and as a lender. Please let me know if I can be helpful to you. Best wishes for your first deal!
Jeff
