Do I hold or unwind a deal where the refinance left $24k in?

Question

Here's the deal I'm looking at right now. Purchase $118k, rehab budget $42k and I'll finish close to it, closing and holding another $8k, so all in around $168k. Appraiser's ARV opinion is $205k. The DSCR lender I've been quoted caps cash-out at 70 percent, so $143.5k, which leaves roughly $24k of mine in the house. Market rent is $1,750. At 7.75 percent on $143.5k, principal and interest is about $1,028, taxes and insurance another $420, so I'm at a 1.20 coverage before management and reserves.

My problem is the next deal. I've got one more pile of capital and it's now $24k short. Do I hold this as a rental and accept the loop takes 18 months instead of 9, or sell it into the retail market, take the spread, and run the whole thing again with a full stack? I've been running thin margins on flips and I have no real feel for what the long hold is actually worth.

Rena Expert · Answer

Price the two options on the same basis before you decide, because right now you're comparing a cash number to a feeling.

Selling at $205k retail nets you maybe $190k after commission and seller costs, against $168k in, so call it $22k pre-tax with the tax treatment depending on your holding period and structure, which is a question for your CPA. That's one payment, and you're back to sourcing the next distressed house.

Holding gives you a 1.20 coverage that gets thinner fast once you load it properly. Take $1,750 rent, subtract $1,448 of debt service and escrow, and you have $302. Now take management at 9 percent of collected rent, roughly $158, plus vacancy at 5 percent and any real capex reserve, and you're at or below break-even on month-one economics. The hold thesis has to be carried by rent growth and amortization rather than by current cash flow, and rent growth in most rental markets has been cooling while still positive. If you need this house to fund the next one, it won't.

The number that decides it is the cost of the $24k. If your next deal genuinely produces a $22k spread on a nine month turn, trapping $24k for eighteen months is expensive. If your deal flow is uncertain, the trapped equity is cheaper than it looks.

Two things you haven't raised. Most DSCR loans carry a prepayment penalty, commonly a step-down over three to five years, so a decision to sell in year two can cost 3 to 5 percent of the balance. Confirm the exact schedule in writing before you close, because that one clause decides whether the hold is reversible. Also, your 1.20 is the lender's test on their assumed rent, and if their appraiser's rent schedule comes in under $1,750 the loan gets sized below $143.5k and your $24k becomes $30k.

nicole_adeyemi · Answer

Put a real price on the $24k. If your own money earns 8 percent elsewhere, that's $1,900 a year of carry against a house that clears maybe nothing after reserves. I hold land specifically because it doesn't pretend to cash flow, so I'm biased, but a rental at 1.20 coverage that eats its own margin in management fees is a bet on the rent line, not on the deal you just did.

diane_kowalski · Answer

What's the step-down on your prepay, 5/4/3/2/1 or a flat three years? That changes the sell-later option a lot.

Do I hold or unwind a deal where the refinance left $24k in?

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