The Refinance step is where the BRRRR method either recycles your capital or exposes problems from earlier steps. After you buy, rehab and rent a property, you replace the original financing with a long-term loan based on the improved value. If the numbers work, you can pull out some or all of the cash you put in and use it for the next deal.
This article covers how a cash-out refinance works, what lenders look at, and the risks that come with borrowing against your properties. It is general information, not financial advice. Loan programs and terms change often, so compare offers from several lenders and talk with a CPA about the tax side of your plans.
If you are just getting started, read the BRRRR intro and Buy step first.
How a cash-out refinance works
In a cash-out refinance, a new lender pays off your existing loan and lends you more than you owe, based on the property’s current appraised value. You receive the difference in cash, minus closing costs.
Here is a simplified, hypothetical example:
- After the rehab, the property appraises at $250,000
- The lender offers a maximum loan of 75 percent of value, or $187,500
- You owe $130,000 on a short-term purchase and rehab loan
- After paying off that loan and about $6,000 in closing costs, you receive roughly $51,500
If your total cash invested was around $50,000, you would have recovered most of it. If the appraisal comes in lower or the loan limit is tighter, you may leave more money in the deal than planned. Actual terms vary widely by lender and borrower.
Seasoning periods
Many lenders require a seasoning period before they will base a cash-out refinance on the new appraised value rather than your purchase price. Seasoning simply means you have owned the property for a minimum time. The required period varies by lender and loan program, from a few months to a year or more, and some lenders will consider your documented rehab costs.
Ask about seasoning before you buy. If your short-term loan comes due before you can refinance, you could face extension fees or pressure to sell.
The appraisal
The appraisal often decides whether the refinance works. The appraiser will compare your property with recent sales of similar homes nearby and consider its condition and features. See appraised value.
To prepare:
- Finish all work and make sure the property is clean and fully functional
- Provide a list of improvements with costs, dates and any permits
- Share comparable sales you believe are relevant, if the lender allows it
- Have leases and rent records ready, since some loans consider rental income
Build your Buy analysis around a conservative value so a lower appraisal does not break the deal.
Loan-to-value and lender requirements
Lenders limit how much they will lend relative to the property’s value, known as the loan-to-value ratio. Cash-out loans on investment properties usually have lower maximums than purchase loans or loans on a primary home. The limits vary by lender, loan type, credit profile and property type.
Lenders also commonly review your credit, reserves, debt-to-income ratio and the property’s income. Some investment loan programs focus on whether the rent covers the loan payment. Keep clean records of rent collected and expenses, which TenantLoop accounting and rent collection can help you produce.
The risks of overleveraging
Pulling cash out feels like free money, but it is debt. The more you borrow, the thinner your margin for vacancies, repairs and rising costs. Common risks include:
- Negative cash flow. A larger loan payment can wipe out the property’s monthly profit.
- Rate exposure. Adjustable-rate or short-term loans can reset at higher rates.
- Falling values. If values drop, you may owe more than the property is worth and be unable to refinance or sell.
- Portfolio contagion. Problems at one highly leveraged property can strain your ability to support others.
A practical safeguard is to check that the property still cash flows after the new payment, with room for vacancy and maintenance reserves. Keep cash reserves for each property, and avoid repeating the cycle faster than your systems and finances can support. Our single-family investing guide covers more on managing a growing portfolio, and the BRRRR hub walks through each step.
What owners ask at this step.
What is a seasoning period?
The minimum time some lenders want you to own a property before they will base a cash-out refinance on its new appraised value instead of your purchase price. It ranges from a few months to a year or more, so ask before you buy.
What if the appraisal comes in low?
You can borrow less, so more of your cash stays in the deal. Base your plan on a conservative value, and give the appraiser a list of improvements with costs, dates and permits.
Why are loan-to-value limits lower on cash-out loans?
Lenders generally see cash-out loans on investment property as riskier than purchase loans or loans on a primary home. The exact limit depends on the lender, the loan type, your credit and the property.