It has been about four weeks since my friend John closed on his first out-of-state investment property. As a reminder, his strategy is the good ol’ BRRRR method (Buy, Rehab, Rent, Refinance and Repeat). So for our method to work, our all-in investment (cash) must be less than 75% of the ARV (After Rehab Value).
Rehab started quite smoothly on November 25th 2019 with carpet removal being first on the List. As a reminder, we decided to replace the existing green cabinets instead of painting them.
The difference in cost was just $300!
Our contractor was able to find very nice, white shaker style cabinets at Menards for a little under $1200. This shows the importance of getting cost estimates for various projects before making decisions (and the importance of a trusted contractor). We were delighted to know that our kitchen will have a brand new face lift. The feeling of walking into a kitchen with fresh paint, flooring AND new cabinets is amazing and will possibly lead to an even higher appraisal and rent!
Since John and I live in California and the investment rental property is in Kansas, we are in constant contact with our rehab crew.
"To say that having a good, reliable and honest contractor is important is an understatement"
This is the time that having a knowledgeable and efficient contractor will save you so much money.
For example: Our contractor pointed out that a door separating the restroom from its adjoining closet needs possible replacement due to its poor paint job.
- We had a few options:
- 1) Replace the door, which would cost $250
- 2) Remove the door, which would cost nothing
- 3) Paint over the door window
- 4) Do nothing at all.
- 1) Replace the door, which would cost $250
- After a few exchanges and what ifs, we decided to paint over the door window, which cost absolutely nothing extra, saving us $250 AND making the door look much nicer. We just have to remind the tenant not to bang on the door, as it is made of glass panes. But they shouldn't be banging on closet doors anyways, right?
A Pesky Surprise:
As the final weeks of rehab drew to a close, the contractor informed us that they have been seeing fleas inside the property as well as some roaches. So there goes the $250 savings out the door. Of course, no rehab will come without any surprises and it is important to always be prepared and flexible. Fortunately, this one wasn’t so bad. John contacted his property manager to order a pest control company to visit the property once rehab has been completed.
Here are some progress photos:
As I’m writing this article, rehab has been fully completed! We have marketed the property since the very beginning and already have two potentially interested parties.
The Cash-out Refi:
To complete his BRRRR strategy, John has ordered the appraisal as required by his lender for the cash out refinance portion of this strategy.
Remember, John’s “all-in” investment is $58K. In order for him to pull most or all of his cash back out, he would need the appraisal to be at least:
$80,000 (75% of $80K = $60)
This will leave about $4K in closing costs left in the deal.
If the appraiser comes back at $84,000, John will have invested $0 of his own money in the deal! The gained equity he built from his rehab work will now become the 25% “down payment” for the new 30-year fixed mortgage he has placed on the property.
Leveraging Debt for Cash Flow
Some may say that he is over-leveraged; however, this is a misconception. As long as his rents cover his mortgage’s monthly payments along with other expenses and reserves, then he is actually letting his debt work for him.
Secondly, by placing a mortgage on his property and not being vested in the property free and clear, this will reduce his liability in case he gets sued. In court, judgement can only be placed on the equity of the property. Meaning, if he has a mortgage, the claimant can only sue him for the equity he has in the property, in this case just $25K. If he was free in clear, $80K of his asset is now exposed to any lawsuit. Therefore, having a mortgage is a great form of asset protection. This, of course, is besides the fact that John does have an insurance policy on his property in case anything unexpected were to happen, which is always an important precaution to take.
The appraiser visited the property in late December, and we should get the report back soon. In the meantime, John’s property management company will perform a very thorough walkthrough of the property to ensure all rehab items are completed before John releases the final funds to the contractor. Additionally, they will also do a final clean up so that the house will be spotless during tenant showings.
Lastly, John hired a professional photographer to come take marketing photos of the newly rehab property. He hopes that the clean, professional photos will grab prospective tenants’ attention and quickly get the property rented.
Please follow along for the final part of this series!