Without ready access to cash, your real estate project isn’t going anywhere. You should have your funding source lined up before you put a property under contract. This article explores your many options for funding.
It’s important to accumulate knowledge in various aspects of the fix and flip process. Lack of knowledge will teach you valuable, but often expensive lessons.
Gaining knowledge and experience in the following six topics should be a top priority.
- Knowing real estate values and health of your target market
- Knowing how to find good deals
- Knowing how to quickly estimate repairs
- Knowing how to negotiate with a seller
- Knowing how to manage the rehab project / contractor
- Knowing how to fund your deals.
Knowing How to Finance Your Deals
Although this is #6 in the blog series about fix and flip real estate, you really need to consider funding very early in the process, and definitely before you start making offers. This article will cover some of the most popular sources of funding. I’ve listed them by cost from lowest to highest.
Self-Funding: This is how I got started fixing and flipping real estate. Assuming you have cash available, the only cost of this money is the opportunity cost of not investing it in other financial instruments such as money market accounts or the stock market. If it was sitting in a low interest account, your cost of money is negligible. If you have an IRA that is well funded, you can tap this resource by shifting to a self-directed IRA or a solo 401K if you are self-employed.
Line of Credit from a Bank: If you have security such as equity in your primary residence, other real estate or even a significant stock portfolio, you can find a bank to set up a line of credit using one or more of your owned assets as collateral. Rates are typically variable and tied to the Prime rate. The loans are interest only and you only pay for what you have drawn against the line.
Family: Perhaps you have a family member who is sitting on a lot of cash and doesn’t have any good options for where to invest it safely. Assuming you have a strong relationship and you can credibly provide your plan to succeed on your next real estate project, they could be a good source of funding. Normally funding would be for a specific project and would be in the form of a loan backed up by a note and mortgage. You will likely need some professional help structuring the loan and the documents to support it. Typically, the interest rate you provide will be at or slightly above what a bank would charge you on a line of credit.
Private Lender: This would be very similar to getting a loan from a family member. In this case no family relationship is at risk but the rate would be slightly higher.
Hard Money Lender: Companies like CCC Holdings, specialize in lending the funds to fix and repair non-owner-occupied real estate projects. Terms are normally 1 year and the loan is interest only with the principal repaid when the property is sold (flipped) or refinanced, for an investor who has a buy and hold strategy. The Loan to Value Ratio (LTV) is based on the after repaired value (ARV).
There are different flavors of hard money lenders. Direct Lenders vs Brokers. Direct Lenders, such as CCC Holdings, own or control the money that is being lent out. All decisions are made in house, as is the servicing of the loan. Direct Lenders are very committed to your success because they want to get paid back. Brokers are middle men who just find deals and take them to other lenders. They have no skin in the game and are just trying to earn a commission, without regard for the success of the loan once it’s originated.
Another difference between hard money lenders in Local vs National. CCC Holdings is a local hard money lender that just serves South Western PA, where CCC Holdings is located. The advantage of a local hard money lender is the service is more personal and they know the market, property values, local market trends, local banks for refi’s, local contractors and subcontractors. National hard money lenders serve all or a large portion of the country. By definition it is a less personal relationship, with less concern for your success. Rates may be slightly lower but they may also be higher if all fees are factored in.
Equity Partner: Finally, the most expensive way to finance a real estate project is with an equity partner. With this type of relationship, you typically form a new entity such as an LLC with you and your equity partner each as a 50% member. You contribute the deal and the operation of the project; the equity partner contributes the cash for the purchase and repair. The positive side of this is that there are typically no interest payments made to the equity partner during the project. The negative side is that normally you give up 50% of the profit from the deal. On a good deal that could be many times more than you would have paid in interest to a lender.
Why aren’t banks with a standard mortgage on the list? Typically, banks aren’t interested in funding real estate that needs a lot of work. Banks like to base loans on the as is value. A property in need of repair won’t support a loan large enough to include the cost of repairs. Banks should be considered if you are buying a stabilized (not in need of repair and occupied by renters) rental property that you plan to hold.
If you would like to get preapproved for a loan and one or more proof of funds letters, please follow this link. https://www.hardmoneypgh.com/loan-request/
Please contact me if you would like to discuss a project by clicking here: https://g.page/r/CTcMtkHdqQHYEBA