Baby It's Cold Outside... Drawbacks of the "BRRRR" Method
The acronym BRRRR is used in real estate to describe a time-proven strategy that many investors use to turn a profit. You may not have heard of the acronym, but there’s a good chance you’re familiar with the process: BRRRR stands for buy, rehab, rent, refinance, repeat. Despite the chilly name, BRRRR is a hot trend that has created millions of dollars of wealth for those who have mastered it. Still, like any investment, there are considerable risks involved.
1. Purchasing the Right Property
Location, Location, Location may be a tired mantra in real estate, but it’s impossible to understate. The first major hurdle is simply buying the right property in the right area. You’ll probably be looking at a relatively affordable neighborhood with upside potential. For most real estate investors, that means you’re likely to be buying in a different city, or you may even be buying out of state. You’ll be spending a lot of time and money traveling to see different properties, paying for accommodation, etc. You also need to talk to someone with some level of expertise in the locale you’re looking to invest in: As an out-of-state investor you’ll want to make sure you’re doing your due diligence, or you’ll be left high and dry.
Tip 1: Finding the Right Property
Look for areas with widespread appeal, i.e. young couples and established families
A bad school district reduces the number of families interested in an area
Affordability is important. Not just the purchase price of a property, but high taxes can eat into profit — especially for a long holding period.
Identify proximity to jobs. Ideally your tenant should not have to commute 1+ hour for work.
3- and 4-bedroom rental properties offer high returns with a margin of safety.
The marginal rent of a room decreases with home size: a 5-bedroom home does not command 25% higher rent than a 4-bedroom.
Do your due diligence and tour the property in-person before making a decision.
2. Fixing Up the Property
Many people think that rehabbing is the most difficult part of the process. (We’ll revisit that assumption later.) Just think of all the things that could go wrong - from unexpected design flaws, to cost overruns, to the risk of falling behind schedule for the aforementioned reasons. That’s a significant burden on you whether you’re doing the rehab yourself, as part of a one-man team, or you subcontract the work to others. And that’s without mentioning the physical danger of rehabbing, where you could risk contamination, electrocution, or any number of undesirable “-ions” that can catch a rookie rehabber off guard.
Tip 2: What to Look for in a Contractor
Documented experience with former projects
A walkthrough of a completed project is best, but photos will suffice
Positive referrals from previous clients
Good contractors are always team players
Good communication is key, but contractors should also be able to self-supervise.
3. Finding a Tenant
Now that the house is fixed up, it’s time to rent. Just like it’s important to inspect a home before buying it, you need to thoroughly examine any prospective tenants. Since there’s never a 100% guarantee that a tenant will pay their rent on time and in full, it’s your job (or the job of your property manager) to minimize that risk by checking the tenant’s credit score and references, and interviewing them when possible. You’ll need a tenant before refinancing, since banks won’t want to appraise a rental property that isn’t occupied. You should also make sure to notify the tenant before an appraiser comes: a messy tenant could negatively affect the property’s appraisal value.
Tip 3: What to Look For in a Property Management Team
Need to be hyper-responsive: test out their office line to see if someone picks up
Customer service oriented
Capable of using technology effectively (i.e. tenant services)
Assuming you got through the first few steps without a scratch, it now comes time to refinance. This part of the process may seem trivial compared to the initial purchase and rehab phase, but this is what truly makes or breaks the project. For example, say you purchased a property for $80K and put in $40K worth of labor and materials. But an issue comes up (as they tend to do) and you find yourself paying another $20K in costs which you didn’t budget for. Suddenly the $140K appraisal you were hoping for no longer makes sense; you already have that much money in the property, and the bank isn’t going to offer you a 100% loan. Assuming a 75% LTV, you’d need the property to appraise for at least $160K to avoid having to put up more equity. You could also run into issues getting your desired loan terms, such as the mortgage interest rate.
Turnkey as an Alternative
Before we scare you away from real estate investing entirely, there is an alternative to BRRRR: rental turnkey services do the acquisitions, rehab, and management for you. Here at Altus, our bread and butter business is acquiring and rehabbing distressed properties, finding the right tenants, and selling them to our investors. After you buy an Altus property, our in-house management team collects the rent and addresses maintenance items for you: giving you time to sit back, relax, and accumulate passive income.
Call us today at 312-761-4472, or email us at email@example.com to find out more about our offerings. We look forward to hearing from you!