Author Topic: I think I'm going to speed run this. Am I insane?  (Read 4049 times)

Praxis

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I think I'm going to speed run this. Am I insane?
« on: July 24, 2012, 09:59:05 AM »
I discovered MMM, ERE, and /r/frugal last year.  I had my savings rate at ~33% of my employer income (ignoring taxes and 401k to employer match, just looking at savings out of the paycheck I get), and am in the process of restructuring my life to hit 50% or more.

I took my savings and bought an investment home and have been getting fantastic return by the books; potential ROI of over 30%.  Of course, there's always the potential risk of the tenant screwing things up down the line.

I'm very much a "systems thinker" and constantly look for more efficient methods.  I talked with some realtors and lenders and ended up with a financing scheme- buy a house, cash, HELOC, or via hard money loan (if I'm trying to work multiple) that is significantly undervalued due to needing repairs (either REO's or short sales) that are mostly surface, then fix them up, then cash out refinance with a portfolio lender to get a <4% interest rate.  They'll usually refi to 75% of the house's appraised or tax assessed value.  If I'm buying the house at 50-60% of value and the repair costs are 15% of the house's value, I'm essentially getting the house at 0% down with an insanely low government subsidized interest rate locked in for 30 years.

The PITI is small enough that I can easily cover these houses with my monthly savings anyway, to mitigate risk, and I'm able to get them with zero down.  There's a ton of equity in them since I can only refi to 75% value, so I'm essentially buying net worth with every transaction.

What's the Mustachian community think about this?  Ambitious, probably; at least compared to the passive route most mustachians (wisely) take.  Exceedingly risky?  I don't feel it is, but that's why I'm asking.

ShavinItForLater

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Re: I think I'm going to speed run this. Am I insane?
« Reply #1 on: July 24, 2012, 02:35:25 PM »
Every mortgage you take on increases your level of risk.  You have mandatory payments every month for that PITI, regardless of whether your tenant (when rented) pays you.  How much risk is too much is a subjective question, but at some point you could end up over your head, for a variety of reasons.  What if you lost your job and some tenants at the same time?  What if you had an accident and became disabled?  What if you discovered mold or similarly disastrous problems in one or more of your properties and had a massive repair bill?  What if one of your tenants or their guests got seriously hurt on one of your properties and sued you?  What if you discover some surprise repairs that are too costly and you can't complete the repairs, and are stuck with a high interest hard money loan?

I'm not trying to be paranoid, just trying to make the point that as you increase the scale of this, you also increase the risk.  If something really serious happened to you that upset the apple cart, it could all come tumbling down and you could bankrupt yourself.  If it's happening in a down real estate market (which might be the most likely time), you might not be able to quickly liquidate without taking a huge hit--and might end up facing foreclosures.

If I were in your shoes I'd put a reasonable upper limit on the aggregate mortgage balance you think you could handle even if you had a problem like temporary job loss, and I might also increase the equity % with each subsequent deal.

en dub

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Re: I think I'm going to speed run this. Am I insane?
« Reply #2 on: July 24, 2012, 03:43:41 PM »
I, personally, don't feel it's risky but it depends a lot upon your situation and risk tolerance.

I'm pursuing a similar plan myself and I'm closing on my 4th rental this Thursday. We use hard money and refi using a typical bank loan after it's repaired and rented.

When I first got started a couple of years ago, I stumbled across the $0 out of pocket concept using hard money. But realistically, I've had to put money into each of my deals. It depends a lot on how low you can keep your acquisition and rehab costs. We hire out all the repairs but we manage them ourselves.

Another Reader

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Re: I think I'm going to speed run this. Am I insane?
« Reply #3 on: July 24, 2012, 04:25:53 PM »
Great idea, as long as you have a portfolio lender that will do these loans.  You would run into a huge brick wall otherwise.  Most lenders are selling those sub-4 percent loans to Fannie and Freddie.  They limit you to a maximum of 4 financed properties.  You can get exceptions for up to 10, but the qualifying is much more difficult.  Last time I checked, you needed to have substantial reserves and the income from recently acquired rentals was not counted.

However, if you only have one rental, you may not have yet experienced the many joys of property management.  I would not do this without substantial cash reserves.  One deadbeat tenant that files BK on you can cost you a lot of money.  In California, this nightmare will take you many months to get through, all with no rent and a big attorney bill.  We evicted a couple at the end of April in Arizona because of property damage.  The house still is not leased because of the cost and time of repairs.  Of course, they checked out perfectly on the credit and background check.  So cash reserves are a must.

I tapped out my home equity through refinancing and bought several houses from 2009 through February of this year.  Only wish I could have bought more.

If you don't mind sharing, what state are you in and who is the lender?

Praxis

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Re: I think I'm going to speed run this. Am I insane?
« Reply #4 on: July 24, 2012, 05:29:52 PM »
Washington state.  For some reason I feel uncomfortable name dropping the lender I'm using, I've talked to a couple and am going to see if I can actually close a deal first before sticking with one.

I bought my primary residence as a foreclosure traditionally, my first rental traditionally, and I just bought my third in cash at ~55% of tax assessed value and am fixing it up to refi.  Looking forward to seeing how it works :)  If it works, I'll start working multiple as I find them using hard money loans.  Both of the first two actually have over 50% equity.

Actually, I was thinking of using LendingClub or Prosper to finance house buying as well.  One does loans up to $35k, one up to $25k, and I have substantial reserves and HELOCs available. I read over the sites and don't see any indication that they charge points up front like the hard money lenders do, though maybe they tell me this later (I haven't signed up).  Anyone have any experience with them?


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Re: I think I'm going to speed run this. Am I insane?
« Reply #5 on: July 24, 2012, 06:27:32 PM »
If I understand you, you have not actually closed any deals with the portfolio lender loaning you 75 percent of appraised or tax assessed value with cash out.  Your plan is based strictly on conversations.

I'm a little skeptical of being able to buy properties consistently at 50 to 60 percent of "after repair value" (ARV) with only 15 percent of the value in rehab costs.  I would look at what professional flippers and full time property investors whose business model is to buy highly discounted properties from distressed sellers are buying in your market, the percentage of ARV they are typically buying at, and how successful they are at their exit strategies.  I would be a little cautious implementing your strategy until I had more experience and information.

As an aside, assessed value and market value are often not the same.  It varies by state and even by local taxing jurisdiction.  Market value is what counts. 

Keep us up to date on how this plays out.  Even if you stop at three properties, it looks like you have done well so far.

arebelspy

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Re: I think I'm going to speed run this. Am I insane?
« Reply #6 on: July 24, 2012, 06:54:33 PM »
Most lenders are selling those sub-4 percent loans to Fannie and Freddie.  They limit you to a maximum of 4 financed properties.  You can get exceptions for up to 10, but the qualifying is much more difficult.  Last time I checked, you needed to have substantial reserves and the income from recently acquired rentals was not counted.

Actually Fannie/Freddie guidelines is 10.  Some banks hard limit at 4 (B of A, for example), but most (like Wells Fargo, and other smaller lenders) follow the Fannie/Freddie guidelines, no "exceptions" needed to go to 10.

You do need 6 mo. reserves on all PITI.  Rental income is counted at 75% (to account for vacancies and such) and needs to be substantiated (i.e. claimed on your taxes if held in the previous year, and some lenders want to see leases.. others don't care).
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Re: I think I'm going to speed run this. Am I insane?
« Reply #7 on: July 24, 2012, 07:25:46 PM »
Hmmmm....all the lenders (brokers) I talk to distinguish between the basic Fannie limit of 4 and the extended limit with 10 max.  Once you hit 10, you have to go portfolio.  Many years ago (until the early 2000's), these limits did not exist.  As a result, a lot of us old-timers are beyond the limit.  It's very frustrating, because the only business you can do with Fannie is HARP, and if you bought well a long time ago, you don't qualify because your LTV is too low. 

Developing a good relationship with a competitive portfolio lender will really help if you do get your business running like this.  Take that loan officer to lunch!


arebelspy

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Re: I think I'm going to speed run this. Am I insane?
« Reply #8 on: July 24, 2012, 07:33:20 PM »
I am beyond the 4 limit and am not having trouble getting more. 

My broker has assured me he'll get me a lender that goes past 10 as well, but I have talked to multiple brokers who say 10 is the standard Fannie/Freddie limit (and I've actually read the guidelines myself, about a year back, when doing separate research for some commercial stuff).

Maybe try to find another broker in your area?
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Praxis

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Re: I think I'm going to speed run this. Am I insane?
« Reply #9 on: July 24, 2012, 07:44:14 PM »
Re: the conversation about lenders, the lender I'd used for my prior houses (a local credit union) said they'd do 10 but with higher interest rates after 4.


Re: The emergency fund, yeah.  I've got that in place, and then I've got the HELOC's as a secondary backup.
If I understand you, you have not actually closed any deals with the portfolio lender loaning you 75 percent of appraised or tax assessed value with cash out.  Your plan is based strictly on conversations.

Yes, but also preapprovals. My lender has all my paperwork, feels my financials are great, and notes that he has had other clients who do the same thing.

Quote
I'm a little skeptical of being able to buy properties consistently at 50 to 60 percent of "after repair value" (ARV) with only 15 percent of the value in rehab costs.

I will definitely update this thread as I go then :) I'm in line to do it with the house I'm working on now.  Bought it on HELOC, fixing it up with my cash reserves, should start the refi at the end of the month.

Quote

Keep us up to date on how this plays out.  Even if you stop at three properties, it looks like you have done well so far.

Thanks!  I'm actually planning to sell the house I live in now, so I'll be at two rental properties and move in to a tiny apartment or studio biking distance from work (I'm a single early-20's guy, I don't need as much as I thought I did a year or two ago).  That's the restructuring I mentioned at the outset.
« Last Edit: July 24, 2012, 07:47:20 PM by Praxis »

Another Reader

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Re: I think I'm going to speed run this. Am I insane?
« Reply #10 on: July 24, 2012, 07:54:19 PM »
Arebelspy:

You can't sell what does not exist.  There are a few portfolio lenders that will do more than 10.  If your broker has one he or she uses, that's great.

I haven't looked at this in the last 6 or 8 months.  When I looked at this then, all the brokers that thought they had back-up financing for investors with more than 10 financed properties discovered when they called for pricing those lenders weren't willing to make these loans after all.  However, the market is fluid, and the availability of the product may have improved. 

If your broker is licensed in Arizona, let me know.  It's certainly worth having the conversation again.  And let us know what happens when you hit 10.


arebelspy

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Re: I think I'm going to speed run this. Am I insane?
« Reply #11 on: July 24, 2012, 07:58:39 PM »
And let us know what happens when you hit 10.

Will do.  I should hit it within the year (depending on inventory.. inventory everywhere has dried up, as I'm sure you know).
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Re: I think I'm going to speed run this. Am I insane?
« Reply #12 on: July 24, 2012, 08:02:48 PM »
And you know better than to chase the rising prices.....

Seriously, if your broker is licensed in Arizona, let me know.

arebelspy

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Re: I think I'm going to speed run this. Am I insane?
« Reply #13 on: July 24, 2012, 08:10:37 PM »
And you know better than to chase the rising prices.....

Yes, in general.  But if they're so far undervalued that a little rising still presents good cap rates, I'm not opposed to paying a little more (okay with the fact that they were cheaper 6 months before).

That being said, I personally believe a lot of the low inventory is due to banks holding back in order to force home price rises in an election year.  It's false appreciation due to manipulation, basically, and I expect it to dip back.  In any case, I think prices will be low for quite awhile to come, even if not at an absolute bottom.

And then when interest rates rise, that will keep prices deflated (as that will make payments go up, so prices will have to go down to compensate, as buyers who can only afford monthly payments of $X will see more of that X going to interest with higher rates, leaving less going to principal, meaning buying at a lower price).


Seriously, if your broker is licensed in Arizona, let me know.

I will ask him next time I speak with him.
We are two former teachers who accumulated a bunch of real estate, retired at 29, and now travel the world full time with two kids.
If you want to know more about me, or how we did that, or see lots of pictures, this Business Insider profile tells our story pretty well.
We (rarely) blog at AdventuringAlong.com. Check out our Now page to see what we're up to currently.