It was -3 in Minneapolis on that day that I wrote this post, but that’s not why I’ve wrote an article entitled BRRR.
BRRR is one of the main methods I use to build my rental portfolio and stands for buy, rehab, rent, and refinance.
Here’s a quick breakdown:
- Buy, using hard money or private financing. These are not traditional bank loans - they are investor friendly loans that allow you to purchase (and rehab) for little to no money down. The money isn’t cheap and new investors will look at spending up to 5 points and pay 12-15% interest. The loans will typically lend up to 70% of the properties ARV - after repair value.
- Rehab, using professional contractors. This is my weakest area and I’ve had to learn a lot about how to manage pricing and costs. But I spent time learning how to price
- Rent to qualified tenants (financially strong tenants, background and reference checks), making sure that the property is rented at market rate. For the type of property that I look for, there are sophisticated ways to analyze the rate of return - you’ll see cap rates and DSCR (debt service coverage ratio), which I’ll talk about in future articles. However, I generally look for properties who’s rent is over 1% of the cost of the property. If I purchase a $100,000 property I typically want to see $1,000/month in rent.
- Refinance, to a traditional mortgage. Once the property is rehabbed and rented, the rental is now an attractive property for a traditional bank to refinance. Most traditional banks are not able to do these loans, but local credit unions and investor friendly lenders can. Refinancing helps you stop paying the high interest rate loans, and in some cases (rare), you can recuperate some costs. My goal is to finish this process in less than four months.
In the simplest way possible, here is how a BRRR deal works.For all the BRRR examples, we’re going to use whole dollar amounts in the examples. A $50,000 house that needs $20,000 in work would appraise - or be valued - at $100,000 after rehab and then would rent for $1,000/month. Using those dollars, here is how a typical BRRR deal would pan out.
- You find a property that would sell for $100,000 after some rehab (after repair value). After walking through the property, you realize that it would need $20,000 in work to sell - or be valued - at $100,000.
- You make an offer and it is accepted for $50,000. You work with a hard money or private lender that will finance 70% of the after-repair value (ARV). The lender does an appraisal and agrees that the property would be valued at $100,000 after your rehab. Since the lender lends at 70% of the ARV, they will lend you $70,000. That’s enough to purchase and rehab the property. You will pay 3-5 points and make 12-15% interest only payment while you hold this loan. These are short term loans that you’ll want to pay-off as soon as possible.
- You complete the rehab and work to get the property leased to a tenant at $1,000/month and refinance the property to a more traditional 30 year mortgage. The traditional lender does an appraisal and agrees to refinance at 70% LTV. Since the unit is rented, your income stays in tract. They refinance to pay off the hard money loan, giving you a rental that you purchased with far less than 20-25% down. There may be a chance you get the points and interest back - but that is rare and would require the property to have gotten a great appraisal. The interest and origination fees may be tax deductible - and that’s something you should talk with your accountant about
One quick note: please keep this in mind - I'm sharing models and systems that have worked for me. They may work for you as well, but you should take the time to understand your own comfort level when it comes to your investments. I'll share that things could have impacts on tax or legal work (or that they did for me), but I'm not an accountant or an attorney - and sharing an idea or telling you about my experience shouldn't be taken as legal or tax advice.
That’s the process - and there’s a tight path to making it work. It takes the right mix of finding properties, right contractor, and right lenders - a lot of management and attention to details.
If you force the wrong deal into this BRRR model, you leak money pretty quickly. Check out my next post on how you end up with a "Leaky BRRR."