Refinance and Pull Cash Out
Refinancing your property (or another property in your portfolio) can be the smartest way to pay for the cost of improvements if your rehab is significant but not transformational in nature.
- Maximum leverage. If the bank is willing to lend you a large amount of money based upon the value of your property—take it! You are unlocking your equity.
- Safety. The bank-ordered appraisal will provide you with valuable up-to-date information about your market and competitors. Bank due diligence will reveal if you are spending more on rehab than the property will generate.
- Costs. Most borrowers are charged a percentage of the total amount of the loan, including broker fees, bank fees and closing costs, and third-party fees for title, escrow and appraisal.
- Paperwork. You should have three years of your property income/expense reports in good shape and all of your tax returns filed and in good standing before approaching a lender or broker to move forward with your loan request.
- Time. Refinancing is a process that could easily take up to 45 days or longer.
Refinancing Case Study: A property built in the ’80s valued at $4.6 million required $350,000 in upgrades. The mortgage was $1.9 million at 7.5 percent due in four years. The owners refinanced at a lender-friendly 50 percent LTV and got cash out to complete the rehab. The new loan on their facility is a non-recourse, $2.3 million with an interest rate of 6 percent and a five-year term.
Leaning on a Second Lien
A second lien (a smaller, junior debt piece placed behind the larger first lien) is best for minor improvements such as cosmetic upgrades and site enhancements.
- Low documentation. Unlike a complete refinance, many seconds can be placed with just a few forms.
- Relatively quick. If time is of the essence, many seconds can close within 30 days.
- Keep your first lien. Placing a second lets you keep your first lien in place. If you have a great rate on your first or face a high prepayment penalty for refinancing, consider a second.
- Line of credit. Commercial seconds are sometimes offered as a line of credit, the same as on your home where you pay interest only on the amount drawn.
- Interest rates. Seconds are a higher-risk loan; therefore, money is priced as such.
- Limited lenders. Placing seconds on commercial properties is a niche in the lending industry; your choices will be limited. Also, your first lien holder may not allow a second to be placed, so check before considering this option.
- Exit strategy. The LTV of the property must allow for sufficient leverage to take this cash out, and there should be a clear exit strategy to pay down the second.