How to build a property portfolio more quickly

Stretching your investment capital

The biggest problem most people face when trying to work out how to build a property portfolio is a lack of funds. There’s no quick and easy fix to this problem. However, there are strategies you can employ to stretch your capital further. In this post, we’ll look at one of the techniques property investors can use to lower the capital they need. This is known in property circles as “buy, refurbish, rent out, and refinance” or BRRR for short. We’ll look at how this strategy works, the risks you’ll face in execution and the keys to success.

How to build a property portfolio with BRRR

The basic idea behind this strategy is straightforward. You buy a property, carry out a refurbishment, rent it out, and refinance it. This releases some (potentially all) of your capital, lowering the amount of cash tied up in the property. The strategy shares a number of similarities with property flips. Firstly, the core principle at work here is that you need to “add value” to the property. Therefore, you should focus your efforts on those areas that will add the most value to the final price. Secondly, you need to know your end market well. That is, you need to be confident you can refinance at your target price. Lastly, it means you’re likely to be taking on projects which need a heavier refurbishment. That’s where the potential to add value and drive an uplift in the market value can be greater than the cost of the works.

Aims and objectives

In this post, we’ll look at how this strategy works with a simple buy-to-let investment as the end goal. At a high level, this strategy has two principal aims and objectives:

To lower the capital required – If you get it right, you should be able to cut down the amount of capital tied up in the final investment.
To build your wealth and income faster – By “forcing equity” and leaving less money tied up, you can build wealth and income faster.

With this strategy, it’s all about finding the right property to work on. You’re looking for a property that needs a bit more work than most people are prepared to do. Then, you’re using this to help you strike a better deal. At this same time, you’re looking for a property you’d be prepared to buy and hold for the long term. Therefore, the refurbished property needs to meet all the investment criteria you would apply to a regular buy-to-let. This will include your target capitalisation rate and ROI, and the property’s potential for capital growth.

A worked example

Let’s look at a worked example. We’ll start with the figures for a basic buy-to-let investment. Then, we’ll compare these figures with what we could achieve using BRRR.

The basic buy-to-let investment

Our basic buy-to-let investment, Property A, is a two-bedroom apartment near Leeds City Centre. Our key assumptions are as follows. We can secure the property for £160,000. The deal is financed by a 75% loan-to-value interest only mortgage at a 3% p.a. interest rate. The flat needs no work, but we let the property out furnished, with the cost of furnishings being around £2,000. Our investment generates £208 of profit per month or around £2,496 per year before tax. Our total cash tied up in the deal, after allowing for the additional cost of stamp duty, legal expenses, etc, is £50,000.

The equivalent BRRR investment

Suppose that instead of buying a basic buy-to-let investment that’s ready-to-go, we buy a similar property in need of a refurbishment. This is our equivalent BRRR buy-to-let property. We’re going to assume that because the property needs a lot of work, we can secure it for a knock-down price of £110,000. We’ll spend time, money and effort bringing it back up to standard to reinstate its “true” market value of £160,000. Our assumptions are as follows. We purchase the property using a 70% bridging loan. The building works will cost around £20,000, including a 10% contingency fund. We incur financing costs of £8,430 in relation to the bridging finance, with an estimated time of six months to complete the works and an additional two months to complete the refinancing.

How to build a property portfolio – An example of BRRR at work

	Property A	Property B

Purchase price	£160,000	£110,000

Deal financing

Financing method	Mortgage	Bridging
Loan-to-value	75%	70%
Loan amount	£120,000	£77,000
Deposit	£40,000	£33,000

Cash invested

Deposit	£40,000	£33,000
Stamp duty	£5,500	£3,300
Furnishing costs	£2,000	£2,000
Building works (with 10% contingency)	–	£20,000
Financing costs (see later for breakdown)	–	£8,430
Fees (e.g. valuation, survey, legal advice)	£2,500	£2,500
Total cash invested	£50,000	£69,230

How to build a property portfolio with 50k – Example of BRRR at work

The figures above set out the total cash invested for both deals. For our basic buy-to-let investment, this is £50,000. This includes the deposit plus costs like stamp duty, furnishings and fees related to the purchase. For our equivalent BRRR investment, we’ve invested cash totalling £69,230 before we refinance. This includes the cost of the deposit, stamp duty, furnishings and fees related to the property purchase. However, it also includes the additional cost of the building works and the bridging finance.

Here comes the magic

At this point, we’ve invested more cash in the equivalent BRRR deal than the basic buy-to-let. However, all that’s about to change. With the works complete, we’re going to refinance the property using a traditional mortgage. For this, we’re going to assume we can refinance using an equivalent mortgage to that used in the basic buy-to-let example. That is, we will use a 75% loan-to-value interest only mortgage at a 3% p.a. interest rate. When we do so, we’ll borrow 75% of the uplifted value of £160,000. That’s what we (and hopefully the mortgage provider) believe the property is worth. So, we’ll borrow £120,000 (75% × £160,000). Then, we’ll use this to pay off the bridging loan of £77,000. Let’s take a look at how this works.

How to build a property portfolio – How the refinancing element works

Total cash invested before refinancing	£69,230
Less: Money received from new loan (75% × £160,000)	(£120,000)
Plus: Repayment of bridging loan (70% ×£110,000)	£77,000
Total cash invested after refinancing	£26,230

How to build a property portfolio with 50k – How the BRRR refinancing works

We originally invested £69,230 in the BRRR deal, but the refinancing allows us to take £43,000 out of the deal. This is simply the difference between the new borrowing of £120,000 and the outstanding bridging loan of £77,000. Therefore, we’ve now got just £26,230 of our cash tied up in the deal, compared with £50,000 for the basic buy-to-let investment.

The impact on ROI and our net worth

The impact on our ROI

Let’s take a look at the overall impact of this strategy on the ROI achieved. We’re going to assume that the final profit and cash flow achieved is the same for both Property A and Property B. That is, both will generate an annual pre-tax profit of £2,496. However, the ROI achieved with the BRRR strategy is higher, owing to the smaller amount of cash needed. The basic buy-to-let investment generates an ROI of 5.0% p.a. (£2,496 ÷ £50,000 cash invested) before tax. The equivalent BRRR investment generates a pre-tax ROI of 9.5% p.a. (£2,496 ÷ £26,230). That is almost double the ROI. This makes sense, as the investments generate the same profit, but the BRRR deal leaves us with less cash invested in the deal.

The impact on our net worth

The BRRR strategy is also a more effective wealth-building tool. Let’s take a look at why. With the basic buy-to-let investment, we’ve acquired assets worth £42,000 through the purchase of Property A. That is, we own £40,000 of equity in the property (market value of £160,000 less the outstanding loan of £120,000) plus the furnishings which are worth £2,000. We’ve acquired these assets for a total cash investment of £50,000. However, with the equivalent BRRR investment, we have acquired the same assets worth £42,000 for a cash investment of £26,230. In short, we have spent £23,770 less (£50,000 less £26,230) with the BRRR strategy to acquire the same assets. We’ve done this by driving a hard bargain during the initial purchase and by using a refurbishment to add value.

A word on bridging finance

In general, it’s not appropriate to use a mortgage to finance the initial purchase using BRRR. Mortgages are a longer-term financing product and they’re supposed to be held for a number of years. So, even if you are able to find a mortgage product that doesn’t have any specific penalties for early repayment, lenders don’t like it if you refinance too soon after the initial purchase. So, if you are planning to refinance quickly after your refurb is complete, you’ll need to use bridging finance instead.

Recap on bridging finance

To recap, bridging loans up to 70% loan-to-value are typically available for this kind of project. The fees you pay tend to vary quite a bit between lenders. In the worked example above, I’ve estimated the financing costs associated with the bridging loan as the sum of the following:

an initial valuation fee, e.g. £500 in this example
an arrangement fee of 1%-2% of the loan, e.g. 1% × £77,000 = £770
the interest costs, e.g. 1% per month × 8 months × £77,000 = £6,160
the lender’s legal fees, e.g. assumed to be £1,000 here

In this example, the fees and charges come to £8,430. However, in practice there could be other charges on top. Some lenders add exit-fees, which might be say 1% of the amount borrowed. Also, if you arrange the loan through a broker, their fee could be up to 1% of the loan amount. So, it isn’t cheap, but it can give you access to projects you don’t have the savings for yourself. Just make sure the costs are factored in to your calculations.

An alternative option

If you’re prepared to wait for a number of years before you carry out the refinancing step and live with having a larger amount of cash tied up in the deal over this period, you could consider using a traditional mortgage instead. In this case, you should opt for a short, fixed rate mortgage of say two years. You can then refinance at the end of this period.

The reality of how to build a property portfolio more quickly

Now that we understand how BRRR works, it’s worth discussing when it works well what kinds of results are possible.

What types of markets work best?

BRRR opportunities are easiest to find when the general activity in a local market is slightly depressed. When there are few buyers but ample sellers and when there’s a lack of competition for these types of projects, you’re more likely to be able to secure the property for a lower price. This will give you the best chance of securing the margin you need to recycle part of your cash. However, you need to be confident you can refinance at your target price. So, there needs to be sufficient activity to be able to point to those recent sales and comparables.

What types of areas work best?

You want to be hunting for these deals in areas that haven’t yet become the next property hotspot. An area that’s on-the-up and at the early stages of a turnaround is ideal. You can use the fact the area is becoming fashionable to your advantage and to lower your downside risk. That is, given the choice between an area where prices in general are increasing and one where they’re decreasing, pick the former. At the very least, you should pick an area where you expect local prices will remain stable over the time frame of the refurbishment. The fact that you’re going to rent the property out rather than sell it on also means you’ll want the property to meet your regular investment criteria as far as ROI, yield and capital growth prospects are concerned.

What does good look like?

If you do everything right and you don’t have any hiccups, you should be able to achieve good results with this approach. But what does good look like? For us, good means the following: (a) being able to pull out half or more of the cash you’ve invested after the refinancing; (b) securing a decent uplift in the final ROI versus a basic buy-to-let investment. Both these elements need to be present in a BRRR deal to justify the time and effort that goes into a project like this. It’s sometimes possible to achieve even better results than this. There are stories of experienced investors being able to pull out all of the cash they’ve invested and achieving an infinite ROI. These deals are rare in practice, but they do make for fantastic headlines.

Common pitfalls and mistakes

There are plenty of potential risks with a project like this. The sheer number of letters in the BRRR acronym is a dead giveaway. Let’s run through some of the main pitfalls and mistakes and how you can avoid them.

Getting your figures wrong

Overestimating the property’s market value or underestimating the cost of the building works can be fatal. Be conservative with your estimates and build in a margin for prudence.

Buying in an area with few comparables

When it’s time to remortgage, it will be harder to secure your target price if there are few comparables. To boost your chances of success, make sure you buy in an area with enough market activity.

Buying before a market fall

A fall in property prices in the local area will make it harder to refinance on the terms required, and your cash could be tied up for longer. Although there’s no easy way to protect against this, you can avoid buying late in the property cycle and keep your projects as short as possible. Both of these steps will reduce the chances of a general market fall affecting the outcome of your project.

Trying to move too quickly

Although you should try to keep projects short, in most circumstances you won’t be able to refinance until you’ve owned the property for six months or more. Make sure you build in at least six to eight months of payments on your bridging loan.

Not having a cash buffer or contingency fund

This type of strategy tends to attract investors who are looking to stretch their investment capital further. However, things can and will go wrong on complex projects like this, and you don’t want to run out of cash midway through.

Before you embark on a venture like this, think through all the things that could go wrong. Have a plan to deal with each of these scenarios. It will take some of the stress out of the project, and it help you make better decisions when challenges arise.

Keys to success

We’ve covered some of the keys to success as we’ve gone through the details in this post. However, there are some additional things you can do to maximise your chances of success. Here are a few more of our top tips.

Consider a range of scenarios

If there are a range of refurbishment options available, consider modelling each scenario separately and see which one gives the best outcome.

Prepare some sensitivity analysis

The final outcome of a BRRR project can be susceptible to changes in the variables. This includes the development costs, financing costs, and the market value at refinancing. You can use sensitivity analysis to show how both the cash left in the deal and ROI might change as these key variables change. This can be useful for ballparking the range of potential outcomes and making sure the project is likely to be a success, even if one or more of the key variables goes against you in the execution.

Marketing the property early

When the refurb is nearing its end, you should start marketing the property or ask your letting agent to start promoting the property to prospective tenants. The income generated will help cover the cost of the bridging loan until the refinancing is complete.

Don’t leave the refinancing to chance

Although it’s not fully in your control, you should do everything in your power to demonstrate to the lender the value you’ve added. This will help you remortgage the property at the desired price. Supply the lender with before and after photos of the property, along with a full schedule of the works completed and their cost. There are no guarantees, but being proactive here will definitely help.

Consider whether to go all cash

We’ve talked about using a bridging loan to finance your project, but if you do have the cash available, you could consider a cash-only execution. Buying the property in cash can help you drive an even better price reduction at the outset. It also lowers the cost of the project, as you no longer have to cover the cost of bridging finance. Also, it can buy you time to ride out a dip in the local market, if prices do fall.

Consider a specialist mortgage

On a similar vein to the previous point, there are some specialist mortgage products in the market precisely for this kind of project. These are products where the lender provides a loan based on the original purchase price, then agrees to advance you funds based on the new higher value once you’ve completed the works. The interest rates tend to be lower than bridging finance, and it saves you paying two sets of fees.

Have a back-up plan

Have a back-up plan. It’s worth considering and fleshing out a plan B, in case you can’t refinance on the terms you need. If you’re not prepared to leave your cash tied up in the investment, you could consider selling the property. If you’re right about the market value, you’ll see a profit on sale.

Finally, it’s also worth noting that the financing products available are constantly evolving, so if you’re planning on making BRRR a core part of strategy, make sure you have access to a good broker with strong ties to this market and stay on top of the latest developments. Better still, involve your broker in the planning to see if they can add some value. I promise you won’t regret it.

Redux

This basic idea can be extended to other types of deal and other property rental businesses, including holiday lets, serviced accommodation and even HMOs. Therefore, when you’re thinking about how to build a property portfolio more quickly, you should also be thinking about how you can use it in combination with the other property strategies. There are also other ways to add value to a property, including things like solving a structural problem, extending the lease or solving a tricky legal issue, or simply riding out a difficult and uncertain situation, e.g. think about cladding issues.

How to build a property portfolio – Wrapping it up

This is an approach which requires strong numbers skills, good old fashioned graft, and the mental resilience to see each step through. It’s not a strategy for the faint-hearted, and there are risks you’ll need to manage along the way. However, if you’re prepared to put in the hard work, this is a great way to build your portfolio. At its core, this strategy is about stretching your capital further, and you can use it to build a larger portfolio for a fraction of the money required with basic buy-to-lets. The upfront cash requirements are actually higher than for a basic buy-to-let investment, as you’ll need to cover the cost of the building works. But you’ll get the money back on refinancing. This strategy is well-suited to investors with good refurb skills, a strong network of tradespeople, and time on their hands to carefully manage each step in the process.