Quoted from Scorch:
One of my former co-workers has used the following formula to acquire about 50 rental houses (it's a ground of 4-5 guys with rentals being run by property managers)....
- They purchase a house that needs to be fixed up with 20% down. ($20k down on a $100k house)
- They fix up the house which significantly increases the value of the asset (Spend $10k to make the house worth $140k)
- They then re-finance the house after it's fixed up at the higher value, which allows them to take out the original downpayment, and often the cost of the reno. (Mortgage for 80% of $140k = $112k.)
- They now own that house with no cash invested of their own.... they could walk away from the house and let the mortgage company foreclose and not be out a single penny.
This can go on forever... but it takes time. It is relatively low risk if done correctly. Biggest risk is if there are any unforseen problems with the property which need to be addressed. Or if you can't rent it out for whatever reason. All things that can be avoided if you do your research ahead of time.
I agree with another poster that said this strat has some downsides. Most importantly is the long-term aspect of this investment and the associated costs (both up front and in maintenance). As you say, you can walk away because you have nothing actually invested. But, you actually aren't making anything either. You're renting the house out at mortgage value or a few hundred bucks over, because that re-fi being done after 30 or 60 days from the initial loan isn't going to be at 3%. This type of payoff comes when the house sells after someone has paid off a substantial chunk of the debt. And we all know how long it takes to payoff any sizable amount of principal.
I would say take this formula, tweak it a bit, and sell the house right away (it's called flipping!!). There's a bigger up-front investment, but there's a faster return. Rather than borrow twice on the same house, racking up closing costs that are added to both notes (about $5000 total for nothing), pay cash. Using your own scenario and numbers...
- Buy a house for $90k....pay cash! (Or borrow if you have to, but your profit is cut by the appraisal, closing costs for the note, and any interest on payments you might make.)
- Put $10K into it (at this amount, whatever you're doing to it should be done in less than a month).
- Don't waste money on a new appraisal...put a for sale sign in the yard, and let the new buyer do that.
- House sells for your estimated $140k.
- You just made $40k...no rent...no renters...no maintenance hassle.
- Or if the house doesn't sell, drop the price by $10k, and you only make $30k...aw shucks!!
- How long does it take to make $30k profit in the rental scenario?!?
The renovation isn't that tough actually. This isn't HGTV. This is real life. You're not knocking down walls. You're not adding pond sculptures and sunrooms. You're re-facing cabinets, adding solid surface counters, replacing worn out floors and trim, adding new appliances and painting. The key as @taylor34 says is finding the "bargain". You have to find the house that is in good shape but dated. All you're doing is bringing it up to current trends. You'd be amazed at how much a simple update can add to the sales price of a house. Most home buyers don't look at that "bargain" house and see it that way. They see a pain in the ass. When they walk in and nothing is left to do, they just say "wow".
Sorry about the essay-long post, and de-railing this thread even further, but I just don't like the rental investment model...too many variables.