14. BRRRR Strategy and Subordination
This is the next installment in a multi-post series on financing your rental investment properties using the BRRRR strategy.
What is subordination? Subordination is the process of ranking home loans by order of importance. For example, you have a primary mortgage and a HELOC. These are two loans. The mortgage is your primary loan (first lien) while the HELOC (second lien) and is subordinate to the mortgage. For traditional home mortgages, lenders will allow second mortgages, HELOC’s, etc. However, for investment properties, commercial lenders rarely, if ever, will allow a subordinating lien.
Why does it matter? Well, for a home mortgage with a traditional lender, a homebuyer may have an 75% primary loan and a 20% secondary loan. These mortgages work well for homebuyers who want to have as little down payment as possible when closing on the loan. For investment properties, the commercial lenders want you to have some of your own funds invested in the property to mitigate the risks of the loan. Depending on the type of loan, these lenders will want to see up to 25% of your capital invested in the loan.
What if you bring in an equity partner to cover the difference? You can certainly do this. However, if your corporate operating agreement has the equity partner with a secondary recorded interest against the property, that is a second lien, and the lender will not allow it. Now that does not mean you can’t bring in an equity partner to cover the difference. Your agreement with the partners is strictly for the distribution of profit or equity at the time the loan is satisfied. If it is a rental property, then it would be the distribution of the net income and perhaps an equity distribution when the property is sold.
Is there any way I can cover 100% of the costs of acquisition, renovations and holding costs? Yes with a private lender. This topic will be discussed in a later post.
Looking for funding? REI Trader, LLC has purchase, refi and fix and flip loan programs for your SFR, rental and multifamily portfolios. For rates and terms, please email jonathan@reitrader.com
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