by - Rental property owners are looking for reliable ways to scale quickly and maintain a steady cash flow.
- One way: buy a house, fix it up for rent, then refinance to get cash to buy the next one.
- Two investors lay out the reasons why they now shy away from this model, nicknamed BRRRR.
Jessica Davis Holland, a real estate investor from Austin, Texas, and her husband recently spent $225,000 on a three bedroom, two bathroom home in the growing suburb of Cedar Creek.
It was the fourth property the couple had bought and renovated in the past three years. Their initial goal, as with their previous projects, was to turn the home into a viable rental property and then use the money they would receive after refinancing to purchase their next fixer-upper.
After all, the Austin market was booming. Home prices seemed to be rising exponentially, which meant payout refinancing was lucrative. Rents were also rising, meaning renters’ money often exceeded the cost — including principal, interest, taxes, and insurance — of maintaining the home.
Except this time the numbers didn’t work out the way Holland originally planned. In addition to the purchase price, they spent about $65,000 on the renovation, $5,000 on property taxes, and another $22,500 on transporting the property — including closing costs and monthly mortgage payments — for a few months while the renovations were complete.
With the $2,000 a month rent they could likely get, their monthly expenses would exceed their income, so the couple decided it would be best to sell the home after the renovations were complete. The $354,000 they made from the sale was more than what they put into the house in total, so they came out on top.
“We looked at long-term rent and would have been a couple hundred dollars a month in the hole based on interest rates and property taxes,” Holland told Insider. “We decided to turn it around because we weren’t able to say, ‘I’m fine laying out $400 a month to support this property.'”
Home renovators like Holland are quickly finding that the once-reliable method known as “BRRRR” — short for Buy, Rehab, Rent, Refinance, and Repeat — has become much riskier as housing prices fizzle out in hot pandemic markets and 30-year mortgages Interest rates reach the 7% threshold.
While large landlords have practiced the BRRRR strategy for decades, it became even more popular in the years leading up to the pandemic, when investor influencers on social media and podcasts hailed major online forums, including BiggerPockets, for its merits. And then, as interest rates fell and rents soared between 2020 and 2022, relocators across the country embraced the strategy even more enthusiastically, believing it was a surefire way to add new properties to their portfolios and make more money to earn.
But a perfect storm of falling house prices, rising taxes, higher mortgage rates and high building material costs has made the BRRRR model less attractive to investors. And Austin is particularly vulnerable, as house prices have fallen drastically since last summer, when they peaked.
The BRRRR method has become more sophisticated
John Crenshaw, a 27-year-old Austin investor who owns several rental homes purchased through the BRRRR method, said exploitation has become more difficult for him and his fellow investors since mortgage rates have risen.
Not only are homes selling and being valued for less than they were six months ago, dampening the level of refinancing at payouts, but lenders have also become more risk-averse.
“Instead of making an 80 percent payout, a lot of people just make a 75 or 70 percent payout, so you only get back 70% of your loan value and the remaining 30% has to remain in the property,” Crenshaw told Insider.
While a 5% or 10% difference might not seem like much on paper, it’s more than enough to change the equation for most investors, Crenshaw said. After a 70 percent payout on a home that the lender said was worth $300,000, the borrower would receive $210,000 — or about $30,000 less than an 80 percent payout. And borrowers who refinanced a home two years ago would have gotten a 30-year mortgage at around 3%, data from Freddie Mac shows. Today, they would be getting an interest rate of around 6.65%, which could add almost $500 a month to monthly mortgage payments on a $300,000 home.
What landlords can do instead of BRRRR
And because it’s impossible to simply raise rents to what they can afford, landlords are looking to expand their options — and ideally their portfolios — when they need to make the switch.
If the BRRRR numbers don’t work, Holland said there are a few strategies investors could consider instead.
“What are your exit strategies?” She asked. “Can you hold it? And if you can hold it, will you rent it long-term or short-term, or will you turn it around?”
While Holland and her husband eventually sold the Cedar Creek property, she said they evaluated all of their options, including using the property as a short-term Airbnb rental. But even that strategy has its own competitive advantages and disadvantages, she said, like seasonality and uncertain income.
In her case, when the cost of the renovation and the high mortgage rates combined, the best option was to simply sell the property to someone who wanted a nicely renovated home – and move on to the next one.
