Between the BRRRR method and house flipping, which is better to start in?
If you are just getting started, the BRRRR method is easier to get started in. This assumes you have good credit and can qualify for permanent financing on completion.
Both methods involve buying distressed properties and fixing them up. They differ after that point where with the BRRRR method the investor rents it out and refinances. The Fix and flip method after renovating the house, the investor will sell it. Then both methods repeat the process after.
The BRRRR method is a strategy for single-family homes with the process of:
One aspect of the BRRRR method that is nice is that you do not have to add quite as much equity as if you were going to flip it since you are not selling it. When you fix a home for the BRRRR method, sweat-equity can go a lot further. There are many renovations for a rental that do not take a lot of money, such as adding a coat of paint.
When renovating a property to rent, the goal is slightly different than when flipping it. The aesthetic is a lower priority, and making it solid is a higher priority. Properties that are rented out tend to have more wear and tear on them, and the upkeep of fragile materials can ruin your cashflow.
BRRRR Method Pros
What are the advantages of the BRRRR method?
- The value you create strengthens your balance sheet, not your tax liability.
- You continue to receive passive cash flow from the rental after you are done.
- If you are positively cash flowing, time will heal wounds if you spent too much on purchase and rehab.
- Holding real estate leads to tax advantages and growth of wealth.
The magic of the BRRRR method happens behind the scenes. Instead of an obvious profit at the sale of property that both you and the IRS easily see, many of the BRRRR strategy benefits are how it impacts your balance sheet.
You build wealth slowly in a way that is similar to rolling a snowball down a hill. Each time you do the repeat process, you add more tenants that work to pay your mortgage down and add to your positive cashflow.
BRRRR Method Cons
What are the shortfalls of the BRRRR method?
- While faster than buy and hold, it is generally slower than flips.
- You have to deal with ongoing ownership of rental properties.
- You have to qualify and deal with getting conventional mortgages.
- It takes a long time to determine if what you are doing is working.
Renting the house out is a long-term commitment. Even with professional property management, this method requires an ongoing commitment to making it work for years after the initial purchase. If this is your first house, you will be living with and dealing with any mistakes you made in purchasing this property for a while to come.
The Fix and Flip Method
The fix and flip method's idea is to make money by buying a distressed house, renovating it, and selling it for more money than you have invested in it. This is easier said than done but can be very lucrative for a real estate investor.
What is a distressed property?
Distressed property usually fits in the following categories:
- Short sale
- Fixer Upper
- Ugly Houses
Estimating rehab costs can be a challenge for many new investors.
Because of the fix and flip method's short-term nature and because most mortgage lenders do not like lending on distressed properties, many real estate investors rely on hard money loans for the fix and flip method.
Fix and Flip Method Pros
What are the advantages of the fix and flip method?
- You get feedback on whether what you are doing is making money quickly.
- Less moving parts than BRRRR.
- Potential to scale faster
The big one for me is the ability to scale faster than BRRRR. With BRRRR, the goal is to have a 1:1 ratio with refinancing and repeating. Since lenders will be lending on 75-80% LTV, it is hard to achieve much better than that.
With a Fix and Flip model, if you are using leverage, there is the potential to turn a successful flip into the funds required to flip 2 or 3 simultaneously.
Fix and Flip Method Cons
- You have more complicated renovations because getting it that last mile will impress a buyer is where a majority of challenges are.
- When you lose money on a flip, you do not have the long tail of positive cash flow from rent to take some of the sting away.
- You are more likely only to find properties that need extensive renovations to meet your business model.
- You will likely have trouble with using conventional financing.
- While it is easier to scale financially from profits, it is harder to actually scale the renovations' processes.
The big disadvantage with flipping usually comes down to what types of properties would actually fit the model. When doing BRRRR, there is a good chance that a property needs a series of upgrades rather than a complete remodel. To add enough value in a flip, you will likely need to be doing a complete remodel, which will take much more precision to get right.
Finding contractors is a challenge for the fix and flip investment strategy. While you need contractors for both strategies, the renovation of a fix and flip house is much more in-depth. Renovating the flip house is a much more substantial portion of the business model than with BRRRR.
What about Both?
It is possible to execute both strategies. While both strategies require deal flow to purchase and renovate, the specifics of each are different. You will likely have a different set of SOP's (Standard Operating Procedures) and processes.
The good thing about running both strategies concurrently is using some of the faster growth from flipping to put more money into the BRRRR strategy.
Which Strategy for a Beginner?
Before choosing a strategy, you should educate yourself thoroughly in each. When starting one of these strategies, it is important to have patience, that it may take a while before you see the results you are looking for.
The BRRRR strategy introduces an investor to a wider range of disciplines in real estate investing. Though there are more moving parts than fix and flip, there is a little more room for mistakes in the process without it resulting in a loss.
The fix and flip strategy gives more immediate feedback on how well the strategy performed. It is also fewer steps to do a full cycle of a fix and flip. This is appealing to a new investor who wants to know whether what they are doing is working.
At the end of the day, it comes down to personal preference and investing style to determine the ideal starting point for an investor.