You’veprobably heard of the famous BRRRR method, the phrase made popular by BiggerPockets’ Brandon Turner.
TheBRRRR method involves five steps:
- Buy
- Renovate
- Rent
- Refinance
- Repeat.
It’s anew name for a time-tested strategy to create wealth through real estate.Whether you know the acronym or not, all seasoned real estate investorsunderstand the concept. First you buy a property cheap, renovate the propertyto make it presentable and then rent it to create cash flow. Finally, yourefinance to get all your cash back and go do it again!
Whilethe concept does indeed sound straightforward, investors often struggle toobtain the financing (loan) needed. Traditional banks and conventional lenderswon’t lend on these types of real estate investments.
Infact, traditional loan programs will not help you BRRRR your way to wealth inreal estate. Investors need to align themselves with a lender that understandsthe method itself.
Here’swhat that looks like in two steps:
Step 1:Fix/Flip BridgeLoan:A short-term fix/flip loan will give you the financing you needto buy and fix the property. These loan programs are designed to allow you tobuy a property “as is” and renovate it. The programs typically provide 80-90%of the funds to buy the property and 100% of the construction funds needed torenovate it. This type of loan allows you to act fast and close quickly, makingyou the next best thing to a cash buyer.
Theseloans are usually referred to as fix/flip loans, , but in regards to the BRRRRmethod, the true plan will be to fix/hold. It’s very important to let yourlender know the plan is to buy/fix/hold because they will look at the dealdifferently than if the plan is to buy/fix/flip.
Mostlenders focus on ARV, or “as repaired value,” but if you let your lender knowthe plan is to hold, they will analyze the deal differently and may lend ahigher percentage of ARV. When flipping, lenders typically won’t lend you morethan 70% of ARV. If the plan is to hold, you may get more flexibility based onyour potential rent cash flow.
Step 2:Long-termLandlord Loan/DSCRLoan:DSCR stands for Debt ServiceCoverage Ratio, referring to the cash flow of a property.
On DSCRloans, lenders are basing their lending decision more on the rental income andcash flow of the property and focusing less on the personal income of theborrower. In fact, these are considered “No Doc” loans, meaning you won’t needto provide nearly as much documentation as you would for a traditionalmortgage.
Anotherbenefit of a DSCR loan is that many lenders will allow you to close thetransaction in the name of an LLC or corporation. This is highly beneficial toinvestors. Holding a property in the name of an LLC offers potential taxbenefits to investors and reduces exposure from a liability standpoint.
Byusing a short-term buy/fix loan and a long-term DSCR loan, you can now buy adistressed property, renovate it and then refinance into a 30-year fixed-rateloan. The best part is most DSCR loans allow you to “cash out” on the newproperty value without a long waiting period. Most traditional loans will makeyou wait up to 12 months before lending on the new or renovated value. With aDSCR loan, you should be able to “cash out” as soon as the work is done and theproperty is renovated.
Here isan example to demonstrate how this really works:
Buy asingle-family home: $100,000
Constructioncosts: $30,000
ARV (AsRepaired Value): $175,000
Step 1:Fix/Hold Bridge Loan:
$85,000to buy the property (85% of purchase price)
$30,000to renovate (100% of construction costs)
TotalLoan Amount: $115,000
Step 2:DSCR 30 Year Fixed Loan:
NewValue (ARV): $175,000
Cashout refinance (75% of value): $131,250
You nowhave most or all of your cash back in the bank, and you have a property thatcash flows completely. Your tenant is paying down your debt and, long term,your asset is expected to appreciate in value.
Obviously,this example keeps it very simple and many other things still need to befactored into the equation (e.g., closing costs of each loan, carrying costs,loan qualification parameters, etc.). But my point is to get you thinking! Youcan make this happen and most likely with not as much cash as you think. Startbuilding your real estate portfoliotodaywith the BRRRR method.
