How To Acquire FREE Cash Flowing Property Using The BRRRR Strategy
The BRRRR Method means “buy, rehab, rent, refinance, repeat” and describes a strategy and framework used by investors who wish to build passive income over time. This acronym represents steps that should be implemented in the exact order they appear. First, an investor purchases a property that they proceed to rehabilitate. The newly revitalized property is then rented out to tenants for an extended period, through which the rental income can enable the owner to pay the mortgage, earn profits, and build up equity over time. Once a sizable amount of equity in the property is built up, the investor can then purchase a second property by refinancing the first, and so on.
The first letter in the BRRRR method is ‘B,’ which stands for buy. When searching through listings, keep in mind that this phase serves as the critical point and will determine the outcome of an investment. There is a complicated intersection between making sure a property represents a sound investment deal and promising to perform well as a rental property.
This will require an intensive deal analysis, which includes calculating the cost of renovations, estimating monthly rental expenses, and confirming that the resulting rental income will provide a sufficient profit margin. Ensuring the strong performance of a rental property may include researching the best rental markets and making sure that the purchase price provides enough of a buffer zone to allow for renovation costs. Many investors rely on the 70 percent rule, which estimates for the cost of repairs and after repair value, which helps to determine a maximum offer to be made on a property. Using this rule of thumb, they can better ensure that a profit margin will remain after renovating a property.
At the most basic level, landlords must identify how to make their rental properties livable and functional. Once these requirements are satisfied, updates or renovations that will add value to a property (and thus justifying increased rental rates) may be considered. On the other hand, however, investors must be careful not to make any excessive upgrades that will cost more than what can be produced through rental income.
Representing the first ‘R’ out of four, the rehab phase of the BRRRR strategy requires an in-depth cost-benefit analysis every step of the way. Investors are advised to only select home improvement projects that will provide a high return on investment. Here are a few rehab projects with high ROI to look out for:
- Roof Repairs: It is common for appraisers to return the money you spent in property value when adding a new roof.
- Updated Kitchen: Outed kitchens are often unappealing, but many of its features may still be usable. Also, houses with demoed kitchens are ineligible for financing, making them frequently bought with cash. Rehabbing a house with a kitchen in one of these states has proven to have high ROI.
- Drywall Repair: Drywall damage also makes a house ineligible for financing. While this may be a red flag for most homebuyers, this can be an opportunity for rehabbers as drywall is actually very inexpensive to repair.
- Landscaping: Simple landscaping projects, such as removing overgrown vegetation, can be done with little cost to you. This type of landscaping also doesn’t require a professional to complete, making it a high ROI rehab project.
- Updating Bathrooms: Bathrooms are usually not very large and their material and labor costs are inexpensive. Updating bathrooms will allow your home to compete with higher quality homes in the area for little cost to you.
- Additional Bedrooms: Homes with an exceptional amount of square feet but lack enough bedrooms offer rehabbers an opportunity to increase value at little cost to them. Increasing a home’s bedroom total to 3 or 4 will allow it to be more competitive with higher-end properties in the area.
Once the property’s rehabilitation phase is complete, the investor can then execute the rental phase of the process. This might entail screening and selecting tenants, managing turnover, and responding to maintenance and repair requests. After a certain amount of time, an investor will typically figure out whether their practice of minding due diligence was satisfactory. Possible things that can go wrong include vacancies, bad tenants, or rental expenses that exceed the income produced. All these possible outcomes can quickly drive a property underwater, increasing the risk of foreclosure. This is not intended to scare investors away from becoming a landlord or from exercising the BRRRR strategy, but merely to emphasize the importance of properly running the numbers before making any investment decision.
Once your property has been effectively rehabbed and rented, you can start devising a plan on how to refinance it. Some banks will offer a cash-out refinance, while others will only offer to pay off outstanding debt; of these two options, you will want to select the former. You will also want to make note of the required ‘seasoning period,’ which indicates how long you must own a property before the lender considers refinancing against the appraised value of the property. Although you may encounter some banks that are unwilling to refinance single-family rental properties, investors can generally tap into their networks to find a lender that fits their refinancing needs.
Finally, the investor can use the cash out refinance from their first rental property to fund the acquisition and rehabilitation of their second. A cash-out refinance offers additional advantages, such as interest rates that are often favorable compared to other sources of capital, tax benefits, and having control over your financial timeline. Facing quite the learning curve, an investor is sure to encounter some difficulties and mistakes from their very first BRRRR cycle. However, they can apply their experience and newly-acquired wisdom when tackling their second, third, or fourth property, and so on.
BRRRR Method Example
Reviewing an example of the BRRRR real estate strategy can help illustrate how to accomplish each step. Read through the following example to better understand how to buy, rehab, rent, refinance, and repeat.
Let’s say Steve lives in Columbus and is interested in purchasing a house to capitalize on this emerging rental market. He finds a property for $200,000 and runs the numbers on the deal. Steve is able to make a down payment of $40,000 and takes out a loan for the remaining $160,000. After walking through the house with a contractor, Steve decides to spend $10,000 rehabbing the property. So far we have these numbers:
- Sale Price: $200,000
- Down Payment: $40,000
- Loan Amount: $160,000
- Rehab Costs: $10,000
After the renovations are complete, the property is appraised at $250,000, and Johnny can rent it for $2,500. About a year down the line, Johnny refinances and takes out a loan for 75 percent of the appraised value: $187,500. He then uses this amount to pay off the original loan of $160,000, leaving him with $27,500 (plus the ongoing monthly rental income) to purchase and rehab another property. The more Johnny follows this process, the more investment properties he can accumulate over time. While this example does use simplified numbers, it should help to illustrate the BRRRR process in action.
How To Finance BRRRR Properties
One of the most difficult obstacles for starting investors is figuring out how to finance BRRRR properties. Commonly, you will have to finance the property more than once. First, when you purchase the property, and second for any repairs or improvements. Most beginning investors don’t have the funds to finance the property without a loan. If you are purchasing a property for the first time, here are a few options open to you:
- Conventional Bank Loans: As a down payment, you will need about 20% – 25%. However, the interest rate should be similar to that of an owner-occupant loan. It is important to note that if the property is in poor enough conditions, the bank may not offer you a loan to purchase it.
- Local Bank Loans: Local banks offer a more significant amount of flexibility when lending for rental properties. While they will most likely require the same down payment as conventional bank loans, they may also overlook any expenses for repairs. They also offer flexibility on mortgage limits and debt-to-income ratio problems.
- Private Lenders: Private money is acquired by people you know personally, whether it be family, friends, business partners, or other investors. In this case, the rates can vary depending on the property and your relationship with the lender. It is common for private lenders to also finance any repairs the property needs.
- Hard Money Lenders: These lenders specialize in lending to house flipping and rental investors. The cost and rates of hard money lenders commonly exceed bank loans. However, they will most likely cover repairs and improvements.