5 Risks of the BRRRR Strategy
Over the last couple of years a new term and a new style of investing has popped up. It is called the BRRRR method, which stands for Buy, Rehab, Rent, Refinance, and Repeat. Essentially you’re buying these properties, you rehab them, you get them rent ready, you rent them out, you put your property management in place, and then you do a refinance after you hold the property for six months. Now that you’ve pulled that capital out you can go and do it over and over again.
While this is a great strategy, there are many risks to consider when doing the BRRRR strategy, especially if you’re doing it out-of-state where it makes the most sense. In places such as in the Midwest. There are some risk to consider when moving over from a passive investor buying rental properties to actually going and doing the BRRRR method yourself.
Many investors, when they buy these properties, have their contractor go through, the contractor gives them a bid before they close. They will name a price and timeline for the project.
When you’re doing your first BRRR strategy, you’ve never worked with this contractor before and you don’t know what could come up with that contractor. They may have an influx of deals come through the door from other investors who they know better than you, because you’re just some out-of-state investors, so they may go and work on those projects. Then your rehab project delayed by two weeks, and then it gets delayed two more weeks. And then there are break-ins at the property because everybody in the neighborhood now knows that your property is vacant and the rehab has just been going on and on and on. There’s a big risk when using new contractors that you have no experience with.
Time is money in this business, you’re losing a lot of money when the rehab goes over schedule. But also renovation costs can add up quickly. For example, I’m rehabbing a house right now and I got a rehab bid for $15,000. Week one of the rehab with a new contractor, they come back and tell me that something came up and they need new windows and it’s going to cost $1,500.
Sometimes there may be even bigger issues that may pop up. Maybe they find out that the electrical panel needs to be all done and the wiring are all outdated and it wasn’t caught by the contractor. That’s happened to me as well and that was $4,000 to do all that work.
These renovation costs can quickly add up. When you’re getting into a project with a new contractor that you haven’t worked with in the past, these things can definitely kill your project and make you put more money into the deal than you want.
This is probably the biggest risk when doing this BRRRR strategy. You’re putting all this money to buy a property, you’re putting all this money in to rehab it, and then you’re hoping that you can take this cash out when you do your appraisal.
What happens if your appraisal doesn’t come back what you wanted it to? What if the market crashes at that time and you have all this money sitting in a deal and you can’t pull it out anymore because the property appraised for less than what you have in a deal?
Now you’re underwater and you’re banking on this appraiser to go out and appraise this property for you. And it may or may not come back at what you want, and most of the times they do not come back at the appraised value that you would like. So this can be a complete deal killer and it can definitely sink all your cash.
If you’re using cash to buy these properties and do the BRRRR strategy, then you also have all this cash sitting in a deal. If you’re using hard money, that is even worse, because now you have to pay off this hard money loan, and you’re not even going to be able to pull the cash out from the appraisal because it came in lower than what you thought. Therefore you have to sink even more money into the project to pay off this hard money loan that you have.
Time to Fill Vacancies
When you’re doing the BRRRR strategy, once the renovations have been completed you’re going to have a property management company come and rent out the property for you. Many property management companies should be able to rent a property out when it’s all done within two weeks. That’s normally how long it takes my property management companies. But working with new property management companies, you always take that risk where it can take a lot longer than you think.
We had a four-unit apartment building which took about a month and a half to rent out one of the units, and it also came in below what we thought we could rent it out for. This certainly does happen when you’re using new property management companies. You don’t know how long it’s going to take them to rent it out, they may say one thing and do another.
Many property management companies when you buy a property will say yeah we’ll be able to rent it out for $800, and it comes down to it and you list the property for $800 a month. Three weeks later the property still isn’t rented out and now you’re freaking out because you’re going to have to drop the rent. And the property may rent out for $700 eventually but now it’s been two months that you’ve been sitting on this property and the rent amount is $100 less per month than what you thought.
This can also turn out to be very costly for you. If you have a vacant property sitting there in some of these neighborhoods with no tenant in there, nobody protecting the property, then there’s a high chance that the property may get broken into. So there are many other risks that come into account when you have this property sitting there vacant for a long period of time.
These are just a few of the risk of the BRRR strategy. There are many other risks that come into account, such as market factors or choosing the right location for these properties. The BRRRR strategy is a great strategy but it’s not for everybody. It is a risky strategy and this should be taken into consideration when you’re making these kinds of investments. If you’re looking strictly for cash flow, then buying rental properties that have already been renovated and already have a tenant in place would be a better option since much of the rehab risk has already been taken out of the equation.
If you would like to talk to us and ask us questions, feel free to schedule a call with us.