From the desk:BRRRR Method (Active Operator)

My 90k is the rehab tranche, repaid only if his refinance lands

Deal in front of me. Operator buys a duplex at 210k with his own bridge, my 90k funds the rehab, and I'm repaid from the cash-out refinance at an agreed return. He's projecting after-repair value of 340k, refi at 70 percent gives 238k, which clears the bridge and me with room.

What's on my desk is that every dollar of my repayment comes from one event that has not happened yet and that neither of us controls. Not the rent, not the renovation, the appraisal and the lender's loan-to-value ceiling. If the appraisal comes in at 300k, 70 percent is 210k, which covers his bridge and leaves 28k against my 90k.

He's a solid operator on the construction side, two completed projects I could actually walk. His answer on the downside is that he'd sell instead, and I'd be repaid from the sale. That may be true and it may also take nine months.

What I'm unsure about: whether to be secured, and where in the stack. Second position behind a bridge that gets refinanced means my security changes hands mid-deal. Whether to price for the delay rather than the loss, since I think the realistic bad case is slow rather than zero. And whether there's a version where repayment isn't tied to the refi at all.

I'm going to have a securities attorney and a real estate attorney look at whatever we land on, that's not the question. The question is what structure I should be asking for before the lawyers get involved.

Answer

4dpatel_reCS4A

You've named the right risk and then priced the wrong one. The appraisal is a risk. The bigger one is that his 340k after-repair value and his 70 percent assumption are both his numbers, and you're underwriting to them.

Run it backwards. What appraised value makes you whole at his stated loan-to-value? He needs 300k of debt to clear a 210k bridge plus your 90k plus your return, ignoring closing costs. At 70 percent that requires a 428k appraisal, not 340k. So on his own projection there was never enough refinance proceeds to repay both the bridge and you in full. Look at his number again: 238k against a 210k bridge is 28k of room. His model doesn't repay you at all.

Either he's assuming he brings cash to the refi, or he's assuming a sale, or he hasn't done this arithmetic. Ask him which, in writing, before you talk structure. If the answer is that the exit was always a sale, then price it as a sale-dependent loan with a term long enough to survive a listing period, and stop calling it a BRRRR.

On position, second behind a bridge that gets refinanced is a subordination problem you'll be renegotiating with a lender who has no reason to accommodate you. Interest reserve and a maturity date past the realistic sale timeline matter more to you than the rate does.

4 replies

1stephen_ok9CO2CPRO6

sextant just took the deal apart and I want to sit with that math because I nearly signed something shaped identically.

sable, the thing I'd add is the 90k as rehab tranche means your money goes in first and comes out last, on a project where cost overruns hit before any exit. If his 90k rehab budget goes to 110k, where does the extra 20k come from? If the answer is your tranche got bigger, you funded the overrun. If the answer is his pocket, get proof the pocket exists.

2mikeoconnell7SP2APRO6

Not the finance side, but I'd want to know who's managing the lease-up. Refi lenders on small residential usually want it leased and stabilized, and I've watched projects sit finished and vacant for two months because nobody had a leasing plan. Two months of bridge interest on 210k is real money and it comes out of the same proceeds you're waiting on.

1paulgrant17PassivePRO5

lantern's point is the one I keep running into reading about screening. Everyone treats "place a tenant" as one line in the plan. Finding a tenant who actually passes screening in a just-renovated unit at the rent the model assumed can take longer than the renovation did.