Rim Rd Makeover

In any hot real estate market, finding a bargain is almost impossible…especially on the MLS. This diamond in the rough was distressed, run-down, and neglected for years. The seller had a headache and simply wanted to offload the headache and cut their losses. In addition to the need of a massive overhaul, this property came with a tenant on a month-to-month lease.

Reno Basics: New paint, New Flooring preferably LVP for resiliency, new fixtures, new appliances…fix it now, don’t wait for problems later!

This property brought challenges to include a difficult tenant, a tight budget, and a full renovation. Here we break down each one of those topics and more.

Buy

Acquired Rim Rd from the MLS with a bid slightly over asking price. 116K to close

Rehab

This distressed house needed updates and plenty of TLC. All in Reno (including sweat equity) cost ~$22K.

Refinance

Property acquired with a Fix/Flip, we chose a portfolio REFI with 2 other properties for our pivot to a 30-year loan. The hot market and inflation increased the amount of equity in multiple properties.

Rent

Comparative Market Analysis gave us our baseline of $1200/month. The same house was $900/month pre-reno. DSCR is roughly 1.33 (1200 rent/900 PTI)

Repeat

Once Refinance is complete, it’s time to find another property and start the cycle all over again! Rim road happened after our last successful BRRRR at Bluffview.

Unruly Tenants

Whether you have one or two, or especially 100 units in your portfolio, problematic tenants are almost inevitable. Being considerate of others while operating any business is a tight-rope balancing act, but is manageable. It’s extremely important to plan for worst-case scenarios and have a plan in place in managing such situations. Check out our article on planning. It’s even more important to understand when it’s acceptable to be understanding of the human plight. We approached this situation with full transparency and attempted to work a transition for the tenant. However, the tenant had other ideas even if they appeared to be in agreement from the beginning.

After closing on the purchase of the property, the tenant neglected to payout any rent and complained when we issued them a 40+ day termination of lease notification. Regardless, they moved a week prior to the notice date so we could start the renovation. Some key notes: study state/area laws on evictions, consult with an attorney, plan for loss of rents, anticipate less than ideal condition of the rental, and consider the use of a collection agency.

State/Local Laws

States and jurisdictions will impose rules and requirements for notification to properly evict tenants. In NC, you cannot simply change locks and bar tenants from the property. NCCourts.gov is a great website to start.
Loss of Rents

Anticipating for loss of rents is vital and a requirement for most new conventional loans in the first 3 - 6 months. The BRRRR strategy requires a vacancy period to finish the renovation, so a key goal is always convincing the old tenant to leave sooner rather than later.
Loss of Security Deposit

Deposits are collected to cover a range of bills/items from failure to pay rent, damage done to the property beyond normal wear and tear, and other unpaid bills associated with the premise. Click to see a breakdown of NC Security Deposit Laws.

As with any frugal investor, budgets are always tight. However, with the dangerous combination of a highly-competitive market and lack of inventory, the renovation budget is vital to reoccurring success. Regardless of your investing philosophy such as the 1% rule or BRRRR method or even a bloated short term rental market, there is a need to remain true to the numbers

A quick snapshot of numbers on this project placed the budget around $25K. The cash-out REFI @ 75% After Rehab Value (ARV) will leave approx. $5K-$7K of investment in the property with net annual income of $3600. All investments should be out in 18-24 months.

As with any one of our projects, the renovation is the most exciting part. Rim road needed the usual improvements: paint, flooring, cabinets, vanities, appliances, and finishes. For this project we replaced the front and back doors, windows, garage door opener, fencing, and some decking. We sub-contracted plumbing, painting, flooring, and granite to save overall costs of the project.

We always prioritize security and comfort with our projects. The old fence had a ton of issues due to age, poor placement, and poor construction. The decking rotted from years of coverage from the sun by trees and deadfall of mostly pine straw. All of which is commonplace in the sandhills of NC. The prior tenant destroyed the frame of the front door and the sliding back door barely slid open and shut. Both doors were an absolute must and top of the list for replacing.

The overall timeline ran shy of 8 weeks with the biggest lag around sub-contractors painting, flooring, and granite counter tops. As with any renovation anticipate for hiccups and delays.

Here is the

In true BRRRR fashion, we identified the ARV and CMA for rents before we acquired the property which made this house compelling. In volatile markets, we don’t recommend overbidding just to acquire the property, but run your numbers. This scenario we overbid slightly and won. Ideal scenario is “All In” is less than 75% ARV. “All in” = Purchase Price + Reno Costs. The 75% ARV holds true to current Cash-Out Loan products from lenders. This project lost 2 months in the beginning with removing an old tenant and about 8 weeks for the renovation. Once market ready it took less than 24 hours to find an ideal tenant at the desired price point. We enjoyed this project and the result is a great property near commercial businesses in a quiet neighborhood.

Look out for our next project as we keep the BRRRR cycle rolling!

Owner Financing Deals and How to Achieve a “Win-Win”

Financing deals plays a large part in starting or expanding your portfolio. When financing your next purchase, rehab, etc. we need to leverage every financial tool available. Whether it is your favorite podcast, real estate self-help book, or family friend / “real estate guru” most will push you into the direction of owner-financing when traditional methods aren’t possible.

What is Owner-Financing?

The owner agrees to serve in a role typically filled by a bank or lender. Both parties must agree to a purchase price and terms of a loan similar to a mortgage. However, as payments are made, an escrow is not typically established for covering property taxes and insurance

A Key Condition: A property is required to be owned outright by the seller (or down payment covers any/all loan amounts) prior to closing. As a buyer, if this condition is not met then don’t waste the time in typing up an offer-to-purchase.

How do you decide on terms? If you are presenting a seller-financing option as a buyer, have a plan for the details. Be prepared to offer the following:

1. Define the down payment
2. Set a monthly payment
3. Establish the term length
4. Implement a balloon payment (if needed)
5. Industry standard interest rate

As with any real estate transaction discuss the transfer of HOA payments and applicable utilities.

1. Define the Down Payment

As stated with the Key Condition, this might be predetermined or set by a want from the seller. Always focus on minimizing your money in, but satisfying the wants of the seller.

Researching market rents is important here. Focus on a DSCR of 1.1/1.2, but ultimately set your per month cash-flow and establish it here. Remember its P-T-I (Payment, Taxes, Insurance), plus HOA dues if applicable. Plan to set aside money for taxes and insurance since your mortgage company typically handles this for you.

2. Set a Monthly Payment

3. Establish the term length

If there is an area to focus extra on, it will be the term length. Too long and the seller might be disinterested, too short and you may not be ready for the large balloon payment at the end. Think of your exit strategy when developing terms; fix/flip after a lengthy renovation, agency loan REFI, or a long-term holding

A balloon payment is the final payment owed upon the loan reaching full term. This occurs when you down payment and monthly payments don’t cover the mortgage within the agreed upon time. This requires a large one-time payment to satisfy the loan. Be careful to ensure you are able to cover the balloon payment with a well planned exit strategy or likely forfeit all your money paid and rights to the property. Foreclosure rolls back to the seller.

4. Implement a Balloon Payment (if needed)

5. Industry standard interest rate

Perhaps the easiest point to negotiate is the interest rate. Interest provides an incentive to the seller for owner-financing. The seller maybe incentivized with the interest earned in addition to the purchase price. The sellers bottom-line profits require an amortization schedule, set down payment, and profit margin from the final sale.

Having a seller willing to participate in a owner-financing deal can be lucrative for both parties. The seller may sell their house at purchase price with interest, and a previously non-qualified or over-leveraged buyer able to acquire the property.

As for closing, a term sheet can be added to the purchasing agreement just as any normal addendum and looked over by the closing attorney prior to closing. The real estate attorney will cover the terms and ensure all money is collected similar to other transactions in addition to ensuring monthly payments are worked out between both parties.

Does the target property suffer from serious disrepair? Is it back on the market from a failed attempt at agency lending?

Does the seller lack appropriate documentation for a lender (i.e. Rent Rolls, Profit & Loss Statements, etc.)? Are there zoning conditions or issues?

Does the seller own the proper outright? No loan?

When Should I Pursue Owner-Financing?

If you can answer yes to any of the scenarios above, then the property in question maybe a candidate for an owner-financing deal. The key is the last question: “Does the seller own the property outright (free and clear)?” If there are no liens then you may proceed without complication. Use the other questions as talking points or points of leverage when approaching the seller.

Summary

A beautiful aspect of real estate is being able serve in the role of a problem solver. Understanding the various tools available will allow anyone to have a higher success right of making both parties happy and adding yet one more door to your portfolio. Now with this simple break down, hopefully you are able to add owner-financing to your repertoire of financing your next real estate project. Until next time!

Jefferson Single Family: Purchase and Reno During COVID

The COVID-19 pandemic brought many challenges for this project from the initial acquisition to dealing with existing tenants. The property required a timely renovation after nearly 20 years of neglect, but the major obstacle was the existing tenant of 4 years. Immediately after acquiring the property, we talked to future plans with the tenant in which they discussed future plans of moving with timeline set. Immediately, we were concerned with displacing the family during this time, but both parents maintained their jobs.

Even with a 45 day notice, the tenant decided to not pay their last month of rent and neglected to fix any issues with the house. As an initial experience for tenant turnover and dealing with a month of no payments, we still pushed through to renovation right on schedule. This project focused on balancing contractors to do 95% of the project. Our budget threshold was set at $25K to include a new roof, new floors, interior paint, and upgraded kitchens/bathrooms.

One bridge loan and one tenant later, we sat prepared for another renovation project. After getting estimates from various contractors both previously used and new ones, we settled on new contractors. In late summer 2020, we are still facing the top of the real estate cycle in the Fayetteville, NC area. This is highly likely due to Fort Bragg military base, but either way prices remain high and contractors aren’t short on work. With a 5 week reno timeline, we initiated reno.

We focus on renovations similar to fix and flippers. We do this to insure we maximize the appraisal during refinancing. This approach affords us to find the best tenants at the highest market rates. Walkthroughs are a breeze and tenants are typically motivated to have a practically brand-new house to call their own. This project we carried the same approach: Luxury Vinyl Planks throughout, carpets in the bedrooms, light gray wall paint, updated vanities and cabinets, and new fixtures throughout. The property easily will last the next 10 to 15 years with minimal maintenance.

Overall, the project went smooth. The flooring company worked seamlessly with the General Contractor of the project and met the project timeline. The modern update totally revamped the look and feel of the house and gave it the contemporary upgrade the house deserved.

The project exceeded our expectations and we knew from the beginning it would be a smooth project. With a hard deadline set to have it rented by 1 November, we placed Jefferson on the market and under lease in less than 5 days at the top of the market for rental rate. After a professional cleanup and professional pest control, the Jefferson Dr project looks to be a viable addition to our portfolio for the foreseeable future.

LLCs, Commercial Loans, and COVID-19…Buying During a Pandemic

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Starting off 2020, we were on our way to finishing up our first Buy and Hold rental process in Fayetteville, NC. We found a great set of tenants through our interviewing and screening process before moving to the final step which was the refinance. We pull out most of our cash or personal risk and positioned ourselves for the next deal.

Truth be told, it didn’t take long. In fact, my next deal popped up while at work…so not the MLS. A colleague was set to retire and had a thorn of a rental property and after a quick look at the numbers and the property I knew it was time to roll into our next deal. My first phone call was to my lender, at this point, she recognized my number and voice from the REFI on our Candlewood Project. The lender was on board, full steam ahead!

That was early March and as most people know the stock market crashed around March 23rd when lock-downs and social distancing became a norm. Little did I know, but the bullish run of the Real Estate Market post 2008 recession came to a screeching halt.

My first of many emails and phone calls from my lender among others, “I’m sorry to inform you, but we are currently pausing all of our new loan products at this time due to market instability, we will be in contact with you as soon as these products resume.”

-mortgage broker

When I received that first email/correspondence from my awesome point of contact at Finance of America Commercial (FoAC), I could tell there was utter frustration on their end. We ordered and completed the appraisal and everything came in with no issues and all signs pointed to a smooth 30-day closing. The COVID-19 hit the US and Global Economy so hard that non-agency lending ceased. That means if a mortgage wasn’t backed by Fannie Mae or Freddie Mac, commercial lenders stopped.

This bleeds into a much discussed debate, what is better for purchasing? A LLC or in your personal name. When we started Dogwood Crest Innovations, LLC we chose the LLC for many reasons: separate from our personal finances, added layer of personal liability protection, clearer finances for involving personal lenders, and most of all because of the huge tax breaks involved. The pandemic exposed a major shortfall in lending through an LLC, that asset-based lending used for this entity is higher risk, higher interest rates, and overall not appealing to secondary mortgage markets.

The secondary mortgage market is what allows mortgage brokers to offer your a product today and someone else the same product in any given month. They minimize their own capital and rely on others to buy the note. The secondary markets were established in the 1930s and are used to maintain lending baselines and competitive interest rates (Freddie Mac). You probably remember the movie, The Big Short, which was about the subprime mortgage crisis during 2008, well this all originated in these markets. These secondary markets froze in the commercial lending sector, but not for personal investments.

A personal investment is a rental property that any homeowner can apply for in which the property is in their name, but is NOT their primary home. How is this different then being a buy and hold investor focused on Single Family Homes? The entity…A personal loan is through a person or married couple…LLCs can not apply for agency style loans, i.e. Fannie Mae/Freddie Mac.

So what’s the plan now since commercial lenders stopped lending for rental properties? How does this affect REFI even if we are able to purchase the property?

After hours of research, calling, and emailing every person or lender I knew, I broke down and reached out for hard money. Mind you, I was still under contract, and thankfully the seller was a friend and understood the situation, plus I wasn’t willing to walk away from the deal. I found a lender that provided hard money in the form of Bridge Loans to investors.

Mind you, for a typical commercial loan, I would pay about 5.15% interest on a 30 year note (my personal mortgage is closer to 3.75%). Remember interest is based on RISK or LEVERAGE for the lender. The bridge loan was packaged for either 12 months or 24 months of interest only payments and a balloon payment at the end. As the investor, I have no prepayment penalty which is ideal, and I can extend the period for 6 months at a penalty of 1% so $1,000 on a $100,000 loan.

Photo by Alexander Schimmeck on Unsplash

I pulled the trigger on the bridge loan, it took about 14 days to close with a minor inconvenience of paying an additional $300 for a Nationally Accredited inspection. They wouldn’t honor my previously completed Appraisal by a Regionally Accredited Appraiser. Regardless, The lender told me the Appraisal report was on point.

During this period, expect lenders to require more documentation, more cash reserves, and in this case the lender wanted me to prove I was able to cover the purchase up to 100%. Up to this point, my experience is typically 20-25% down payment + closing costs + up to 6 month cash reserves. Of course, my disclosed exit strategy for the bridge loan is an equity REFI. Our plan for now is counting on commercial 30 year loans reemerging for investors. If not the personal agency loan equity refinance is always an option.

Pre-Foreclosures and What to Know

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Are you tired of chasing properties on the MLS and not getting your offers accepted? We were too and finally our first off-market opportunity showed up on our laps. It showed up in the form of a pre-foreclosure from a divorced couple that were desperate to save their credit. My broker approached us after two other offers we placed on houses fell through due to being outbid in a highly competitive market.

The broker represented the seller and of course represents me. He walked the property and already knew how I analyze properties due to the countless hours we spent looking for good deals. He undersold the property as requiring simple cosmetic improvements, a new roof, garage door, and some other improvements. As with anything, I valued his opinion, but knew my experience in construction is more vast than his. Ideally, I wanted to conduct a property inspection first, but we were racing the clock…in this case…the foreclosure date.

Banks and Foreclosures. The bank told the listing broker that the property must be under contract by 1 July or it would be sold at auction on the Courthouse steps. We later learned the seller didn’t communicate clear enough with their broker, because the bank never received the purchase agreement, loan payoff amount request, or communicated the closing date to the bank. This mishap almost proved costly in closing the deal because it forced us to close on 1 July.

The Loan That Never Was. Originally, we tried to get conventional agency financing with a 20% down payment which requires an appraisal and significant amount in closing costs that includes: lawyer fees, title searches, appraisal costs, loan origination fees, penalties for low finance amounts, etc. For the agreed upon purchase amount of $78K, this amount would equal about $6K with a total cost of $84K. We knew this amount with the CAPEX (Capital Expenditures or initial repairs) would force us to leave money in the property after a cash-out refinance, but we were confident with the ability of renting the property at our target amount of $1K for the 3 bedroom/2 bathroom house. We had to pay for the appraisal in advance and the report was to be completed by 21 June with a 1 July closing. The lender didn’t receive the report until the morning of 28 June…exactly 3 calendar days prior to closing. As we waited, the lender and broker grew worried and reached out for an extension with the bank. This is when we learned the bank DIDN’T know the property was under contract and required 72 hours to produce the loan payoff amount. Additionally, NC law requires a 72 hour period for the lender to show the seller the Closing Disclosures (CD) prior to closing. At this point we busted these time windows and we began scrambling for an all cash deal as part of the back-up plan…in the event the bank didn’t agree to the extension. Shortly after I would learn none of that mattered. The LATE appraisal report came back with a low appraisal value and conditions that I was well aware of with a rating of C5 that my lender would affectionately refer to as the equivalent of being hit by a hurricane. Basically, the lender could NOT finance the property. Instantly, we switched gears to an all-cash deal.

Show Me the Money. While we waited for conventional financing to be approved, we were forced to leave money in separate accounts since we were looking at personal financing due to the loan amount being less than $75K, but more than $50K (Commercial Loan minimums are $75K). So now we had money in personal accounts as well as in the business account. On closing day, the sellers signed their documents with no issues and provided the little they could afford. Now it’s our turn, payment options include certified check(s) or wire transfers. Due to the previously stated issues, we went with the wire transfer. While all of this transpired, my broker and I were nervous, because the bank communicated the money had to transfer and deed had to be registered with the county or they would place the property under foreclosure. We successfully transferred the money, but with only an hour for registering the deed. Thankfully, the Real Estate Attorney communicated with the bank attorney that all funds are present, documents are signed, and submitted for writing at the courthouse. As of the next morning, we were listed as the new owners of our very first rental property.

Summary. We learned so much during this period and here it is.

Plan for Contingencies (Financing, Inspections, Timelines)
Constant Communication with Your Team – Broker, Lender, Contractor
Get Construction Estimates Early and Often
Be Prepared for the Worst
Be Prepared to Walk Away

We knew this property would be a challenge especially after the initial inspection and the list of items that needed fixed. We established a hard cutoff for maintenance at $40K. We knew anything over this amount would require too long to pull our money out. Remember, we plan to Buy, Rehab, Rent, and Hold for 10 years. This is concrete for us and has proven to be our backbone in all of our decision making. Additionally, through tons of prep work and communication with others we placed ourselves in a situation that allowed us to use all cash as a contingency. IF this is not available to you, just get more creative, be proactive because hard money and other lending is available.

Find the Money. Make The Offer.

There are varying opinions and schools of thought when it comes to funding any project. I am going to discuss the approach I am taking for the first one…Conventional Funding. As of now, I have gathered information on various financing options, whether it is conventional, hard money, portfolio, it doesn’t matter. My goal is to identify my level of affordability before placing offers. Based on cash on hand, I know I have the 25% down required for a $125K-150K purchase. This information along lets me know exactly what market I should look into before finding a property. I know my target range and it sits well in my business plan for marketing areas. If this criteria wasn’t met then I would continue to save funds to reach this goal.

For lenders that serve conformed loans, which are in line with industry guidelines set by Fannie Mae and Freddie Mac, it’s important to understand friction points in the loan application process. These rules are strict due to the issues that arose during the sub-prime mortgage issues in 2008. This situation gets complicated when the property targeted is no longer a single-family house. So if you are like me and choose a duplex, 3-unit, or 4-unit property, the simplicity of a conventional loan for investment property comes with additional interest and inquiries from the bank. They are likely to tack on penalties, restrictions, and insure you have more liquid assets.

At the minimum most lenders want assured that you have proof of funds for the following:

25% down payment
Closing costs (not covered by seller)
3-6 month cash reserves
Debt-to-income ratio below 43% for qualified buyer

Note: I don’t bring up credit score, because you should focus to be in the mid to high 700’s. I highly recommend focusing on building your own personal credit before going any further. Higher credit scores bring instant credibility with any lender and will make them work harder for you. Just like someday your hard money will work harder for you.

Debit to Income Ratio

“Don’t live beyond your means. Don’t buy more than you can pay for. Don’t expect to get rich quick. And don’t confuse salesmen for friends or advisers.”

-Charley Reese

Your debt-to-income ratio should be affected predominantly by current mortgages and be mindful banks are required to adjust the ratio based on number of family members in the house. At the end of the day, the bank wants to make sure you can make the payments of the investment property and your critical bills without starving. It is good to know that the new mortgage is added in this valuation. If the income from current tenants in the new property is required, it will require additional paperwork provided by the seller to substantiate steady occupancy in order for underwriters to approve based on the new debt-to-income ratio. This valuation is much easier in larger multi-family houses because there are typically extensive income/expense statements associated with those properties.

Without throwing shade at specific lenders, I will say that I reached out to a couple big name mortgage lenders in hopes of receiving an investment loan. I received pre-approvals, but then I found a 3-unit which was no longer supported by the same investment property. After working with my good friend and Real Estate Broker, he and his wife (Real Estate Team) provided contact information for local mortgage lenders. I immediately reached out to one and noticed a significant shift in the personal approach to the conversation. The local lender explained the minutia that halted the big company, but found a way to get the pre-approval letter I needed to move forward with my offer.

The Offer

The offer is for a 3-unit property. Two tenants occupied and one vacancy with some tenant roll information to understand current net income and possible income with full occupancy. After walking the property, I have identified three key areas to raise appraisal value (equity) in the property. At least one area is a maintenance concern which justifies a reduced offer price of $10,000 below asking. Additionally, the property has sat on the market for nearly a year which for most is concerning, but for me isn’t based on potential improvements and increased cash flow. So the current offer is focused on the Seller knowing these items:

conventional loan
25% down
Seller provides max 2% closing costs
$1,000 Escrow

The offer requires working with the seller/seller agent to insure the purchase agreement has the appropriate information and the right format. For instance, this property the seller “prefers” a commercial agreement over residential due to the level of detail in the document. However, due to the lender and loan type being used a residential agreement with additional provisions is the only way the offer can be submitted. Now let the negotiations begin!