Ep. #14 - BRRRR Might Be The Best Method Of Building Your Rental Property Empire

BRRRR - Buy, Rehab, Rent, Refinance, Repeat... The letter B for Buy, followed by 4 R's for Rehab, Rent, Refinance and Repeat. This is the investment strategy I've used for ALL of my properties. Although some rehabs have been relatively lite (only a few thousand dollars required), compared to others being nearly and even over 6 figures - they all required some amount of rehab to make rental ready. I think the BRRRR method of Rental Real Estate Investing is by far the best method to make money and grow wealth with Real Estate... Let's talk about WHY!

Intro...

“Now, one thing I tell everyone is learn about real estate. Repeat after me: real estate provides the highest returns, the greatest values and the least risk.” – Armstrong Williams

Welcome to Episode #14 - BRRRR Might Be The Best Method Of Building Your Rental Property Empire

So let's talk about BRRRR... First, I think the general agreement is that this term of BRRRR (again, meaning Buy, Rehab, Rent, Refinance, Repeat) - was coined by Brandon Turner of BiggerPockets.com. They've even released a book on it recently (that I have), but I've yet to read.

Before getting into Real Estate in 2015, I had talked about it for years - and it was always in the context of being a Landlord. So I never caught the flipping bug by watching too much HGTV. It never really made sense to me why I'd want to do all the work to find a good house to rehab at a decent price, and then take on all the risk of the project with the singular viable exit of selling - and then end up having to pay taxes on any profit (assuming there even is any). Then at the end of each project you have nothing lasting to show for all the risk and effort but possibly some cash that quickly disappears for things you won't even remember a few months later. After each project you're starting all over from zero, so you have essentially created a never ending job for yourself... No Thanks!

Instead, I got into Real Estate Investing to own Rental Properties. And I immediately found that the best deals are on distressed properties. You see if a house is in pristine / move-in ready condition, then absolutely anyone can buy that home. It's therefore almost certain to go for maximum retail price in just about every Real Estate market. Someone is going to buy that home to live in it themselves. As anyone seeking to buy that home as an Investment Rental Property (and if they buy it at full retail price), they're almost certain to have negative cash-flow.

What you need is a distressed property. A house that has a problem you can solve. You want the house that needs new flooring, paint, has a bad smell, needs new appliances, new HVAC, roof, gutters - or you can go big with foundation issues and fire damage (although I wouldn't recommend you start there). I estimated my first property needed $3,000 in rehab and it actually cost me $9,000, but knowing what I know now, I could have gotten it done for six.

Once you find that distressed property and take it down for a price that fully takes into account the rehab that it requires - the BUY in BRRRR. Now the rehab begins - the first R. At this point you haven't made any money. In fact your likely in for 20% down, closing costs, holding costs, and the cost of the rehab - although I often fund my rehabs in full or in part with zero interest credit card promotions (I LOVE FREE MONEY). But once you have the rehab done and the property is ready to rent (you should actually have the home listed for rent and start showings during the rehab to have a tenant ready to go as soon as the rehab is completed). But once it is completed - now its time to start getting paid.

You collect the security deposit and first month's rent, and now that the property has a tenant present, you can begin the refi process (in some cases). You see, there's an ugly thing related to refi called "seasoning". Depending on the refi lender's policies and how you funded the purchase, you may be in the unfortunate situation of needing to have owned the property for some number of months (like 12) - before being able to refi at 75% of appraised value. And you very much WANT to be able to refi at 75% of appraised value. You don't want money being locked in the property that you can't get at because of this technicality. Otherwise, you may be limited to only being able to refi up to the purchase price plus rehab cost of the project - having no association to what the property is now actually worth.

You see the best execution of a BRRRR deal is where you buy a distressed property for like $70,000 and put in something like another $25,000 into the rehab with maybe $5,000 in closing and holding costs throughout the project - so you're $100,000 all in. But then it appraises for $160,000 and you're able to refi at 75% of that ($120,000), thereby putting $20,000 of profit in your pocket - TAX FREE! But unlike the flippers, you still own the property with $40,000 of equity present, and hopefully you have it rented for something like $1,300/mo - and so you are pulling in a couple of few hundred dollars per month in positive cash-flow after paying the mortgage, any HOA (if there is one) and holding reverses for Vacancy, Repairs & Maintenance, CapEx and Property Management. And at some point your reserves may become high enough to cut them back a bit, increasing your cash-flow further - especially if you did a great tenant proof rehab and selected your tenant well.

So now you're making an additional few thousand per year from rent - maybe even more if you manage the property yourself, or have it rented for a higher amount, or if you've got great low interest financing. And you've got $40,000 in equity present, meaning your net worth has increased by that amount! But best of all, you've got ALL your money back out of the property, PLUS $20,000 in profit - TAX FREE! This means your Return on Investment (ROI) is effectively infinite, as you've got no money left in the deal - everything you make is FREE MONEY created out of thin air. And your $20K is TAX FREE; whereas there are scenarios where the flippers may end up paying as much as 50% or more of their profit in taxes - again, NO THANKS!

Now as stated, this is sort of a best case scenario, so you can be forgiven for thinking that this won't be your outcome. But I've had BRRRR deals that went even better than this. And the opposite is also true for me, where I've had BRRRR deals that it turned out I had bought too high, the rehab went over budget, and it rented for $100/mo less than expected. And then to add insult to injury (or in this case it may be better stated as injury to insult) - it appraised for far less than expected, so I ended up having to put in MORE money (another $9,000) at the refi closing instead of getting a nice profit check.

But the so called bad BRRRR deals like that are why I love the BRRRR method so much. Because even on that deal, I was eventually able to raise the rent and it never was a negative cash-flow situation before that. The value is now where I had expected it to be the year prior. The ROI I'm getting on the money still invested in the property (even after having to put in more money) is decent. And if I wanted to refi or sell this property now, I'd get that profit I had been expecting the prior year. And if I did sell, because I've now owned the property for over a year, my taxes would be greatly reduced. But this is one of my best single family homes in an area with new construction all around - so the longer I hold it, the better deal it becomes.

Now it generates great cash-flow, and it seems targeted to go up in value like 5% per year (at least for the next few) due to the location and activity all around. But I got great tax benefits from the rehab expense and depreciation. The mortgage is being paid down by my tenant, as despite having to put more cash in, I got a great rate on the refi. And I could refi this property again at any time and get more than the $20,000 I had originally expected to net the year before. As I'm also now much better at getting the appraisal I had expected - a lessen learned on comps. So I love BRRRR - as the good deals are sooo good, but even the bad deals seem to turn out good with a little time.

But now the asterisks on this "bad" deal example is that I had selected my location very well. I bought too high (I should have gotten the property for less), I underestimated the rehab cost (which is also why I should have gotten the property for less), over-estimated rents (even though I got their eventually), and I considered the comps wrong thereby missing my appraisal target. That's 4 mistakes. Had I made a 5th mistake by doing all of this on a property in the wrong location, I guess it would have truly turned out to be a bad deal then. The location and the market saved me.

But then it was the location and the market that made me willing to pay what I paid and made me think it would immediately rent for more, as well as what made me think I'd get a higher appraisal. I saw all the new construction around and saw what those homes were being listed for (smaller than my home and with fewer bedrooms), so naturally mine would be worth more. What I failed to consider is that those homes had not yet SOLD for those listed prices and that concessions were being offered by the developer on those that had sold to get the houses to start moving. So I jumped the gun on my assessment. But less than a year later with the comps now present and the market still on an up swing, I was where I expected to be the prior year. It turned out to be a good BRRRR deal, despite my errors. This means that as long as you don't make certain mistakes on things that cannot be fixed, like location - its hard to lose long-term with the BRRRR method.

And that's what its all about for me... long-term. I'm not a flipper because I'm trying to grow a Real Estate portfolio of a large number of cash-flow positive rental properties. And I've found the BRRRR method to be the best way of accomplishing that goal. Buy a distressed property that no one else wants (other than maybe another investor) - but that is in the right location. Rehab that property to be tenant proof, worth full value of other homes in the area. Rent it out to a great long-term tenant who will treat the home with care (admittedly sometimes a challenge). And then refinance that property, pulling out as much of your invested cash as you can (hopefully all of it, plus a nice profit). And then repeat this process until you have 10, then 100 and then shoot for 1000 - cash-flow positive rental properties, that will eventually be paid in full by your TENANTS! You are only limited by the systems you put in place to automate things and the drive you have to create a rental property empire that will provide for your needs for the rest of your life. And give you a legacy to pass down to those you love.

I'm all about BRRRR... And once your skills improve, you can take on the really challenging projects (also the most profitable) like those with foundation issues, fire damage or the dreaded black mold. In a coming episode I'll discuss the many problems I've encountered and those you might encounter in Real Estate Investing and talk about how to overcome them. As a Real Estate Investor, you're basically just a problem solver - and so your profit will be directly proportional to the level of problems you're able to solve.

One of my best BRRRR deals had both foundation and fire damage. It was a duplex I purchased for $85,000 and then put another $90,000 into the rehab - so I was all in for $183,000, including about $8,000 in closing and holding costs. The project was funded by a Hard Money Lender, so they provided 80% of the $85,000 purchase price and 100% of the $90,000 rehab expense. This means that I was out of pocket about $25,000 personally. And after getting the rehab completed and tenants in place, at the time of refi, this duplex appraised for $305,000 - so I took out a loan for just 70% of this, at $213,000. That means I got ALL my money ($25,000) back out of the property - PLUS an additional $30,000 in TAX FREE PROFIT! And I still own this duplex that now generates $2,500/mo in rents to pay my $1,700/mo mortgage, which includes the escrow for taxes and insurance. So prior to accounting for reserves, I'm getting $800/mo in positive cash-flow, which is an additional $9,600 per year on top of the $30,000 I already made.

And with $90,000 going into the rehab, not much is needed in the way of repairs & maintenance or CapEx and it is unlikely to be vacant, plus I manage it myself - so reserves needed are pretty low (but I account for them anyway). This duplex is located in Downtown Durham (which is basically gentrification central), with recent, new construction and rehabs all around. So today it would almost certainly appraise for $375,000 (if not more). Between appreciation and the mortgage pay down that has taken place since the prior refi, this means that I likely have well over $165,000 of equity in this duplex. I could sell it and 1031 into something else, or depending on what the rents would support and resulting debt coverage ratio - I could refinance it again, pulling out even more cash. It is even likely that I'd get a better rate today than before.

So these are the types of BRRRR deals that I seek, and this specific property sat for weeks before I noticed it, because others were apparently scared off by the fire damage and 2 inch cracks in the slab foundation. But my experience level and increased problem solving ability from prior projects allowed me to take on this challenge and solve that problem resulting in great profit for myself. Again, in Real Estate Investing, your profit will be proportional to the level of problems you're able to solve.

Every rental property I own had some problem that needed to be solved. Some were as minor as cleaning and carpet or maybe painting all handled for a few thousands dollars. Others required 6 figure rehabs. For example, in a coming episode I'll tell you about an unfinished duplex I bought that required around $150,000 in rehab. And again, it was one of my most profitable deals that's actually still paying off (more on that in a coming episode).

But now there is certainly a place for turn-key investing, where as the name would imply, it requires nothing to be rental ready other than turning the key. But that also means someone else has likely already taken the profit off the table that is possible from a BRRRR deal - which makes perfect sense, because they solved the problem for that property - not you.

So I'll end it here... But I'll certainly talk more about the BRRRR method of Real Estate Investing. Go to andLandlord.com/books to find a link to where you can buy the BRRRR Book from BiggerPockets. I'll also talk more about problem solving in Real Estate, while also mentioning some of my better and worse deals. But if their is a house you've seen for months or even years in your area that is obviously vacant and distressed - find out who owns it. Get in touch with them and see if they'd like to sell it. If you can get a distressed property under contract to purchase at a price that fully takes into account its current condition and it is located in the right area - you've got the makings of an amazing BRRRR deal at your fingertips. And it sounds cliche, but getting the money is the easy part once you've got a great opportunity under contract. When that happens and you need some direction, BiggerPockets.com is a great place to seek advice, and you can even call me - I'm always happy to be of aid to someone trying to succeed in Real Estate Investing.