The 6 main problems when running a BRRRR strategy

There are so many reasons you might want to run a BRRRR strategy.

It’s fast; you can build your wealth quickly; create good cashflow; and you’re in control of making it happen.

And there’s a touch of romanticism about finding a worn-down property and bringing it back to life.

But, before you roll up your sleeves and think you’re the next star of The Block, you need to know that an active strategy comes with its fair share of problems too.

This article outlines the main problems you may or may not encounter along your journey.

To be clear, we’re not trying to portray this strategy negatively. Nor are we saying it’s a bad strategy. But you need to know what hurdles you may run into along the way.

Problem #1 – you’re going to need to learn a lot of information, or you’re going to have to spend a lot of money.

When you make the decision to take on a BRRRR project, you are signing up to either learn a lot of theory or spend a lot of money.

By that we mean you either learn the theories, scope the renovation project and manage the relationships between yourself and your renovation team (e.g. builder, electrician, plumber).

You learn all of this so you can save on costs. You might even pick up a paintbrush and get stuck in.

Or, you could pay a third-party professional to run the project for you. This is where someone else manages the whole project and then charges you a fee for the service.

This means you can be totally hands-off, but you’ll either pay an hourly fee (for instance to a project manager), or you’ll pay a percentage of the property’s price.

So for instance if the property you want is $900k, and the company charges 2.5% as their fee, you’ll be charged $22,500.

Either way, one of these two factors will be pretty intensive.

Problem #2 – you need a big deposit and you need to have money a left over to renovate.

The equity or cash deposit required to purchase a BRRRR project is larger than for New Builds (under current RBNZ rules).

For an existing property an investor needs to have a 35% deposit under the LVR restrictions.

On top of that you will need extra capital to pay for renovations.

In our Opes Accelerate coaching programme we say it’s a good idea to limit the renovation spending to 10% of the property’s value. To be clear, that’s a maximum, not a goal for what you should spend.

So, if the property you’re purchasing is worth $900k, first you need $315k for the deposit (35%), and then as a maximum you need an extra $90k (10%) to fund renovations.

The reason to limit your renovation spend is that you want to create a 20-30% uplift in the property’s value.

Put simply, for every dollar you spend on your renovation, you want to increase the property’s value by $2 to $3.

And just remember, it’s always a good idea to have a “buffer” for an overspend.

All of this requires equity, which is the bar for getting started with a BRRRR strategy.

Problem #3 – it takes time to renovate.

Problem #4 – you might not be able to refinance.

The lending market can change between the time you obtain finance to buy the property and when you want to refinance.

This creates a risk you may not be able to recycle your capital out (to begin another BRRRR project) or qualify to refinance at all.

For example, in October 2020 you could borrow up to 80% of the value of an existing property, so it was easy to refinance. But by December most banks would only lend up to 60% of the value.

So, if you took on a 5-month renovation project in October 2020, by the time you were ready to refinance the rules had changed, which was impossible to foresee.

It’s also important to note the lending environment is not in your control; it’s subject to government regulation and fluctuating interest rates.

However, you can mitigate some of the financial risk by changing a few things for yourself.

Speed, as well as adhering to budget, is critical to providing the best opportunity to refinance (then repeat), which is the final part of the BRRRR strategy.

Problem #5 – the properties you’ll renovate will have higher maintenance costs.

If the maintenance of a property is not kept up its seen as postponed, which is known as deferred maintenance.

This can negatively impact on its perceived value when it comes to tenanting or selling, especially when competing against better-maintained properties on the market.

Existing properties tend to have higher maintenance costs overall than New Builds (for obvious reasons). You are more likely to have an existing property with a worn-down roof, if it’s been standing in the rain for 60 years, rather than a house that had its roof built last year.

However, you can address any potentially damning maintenance by renovating a complete upgrade on the appropriate property.

Problem #6 – you … you could be your biggest problem.

Yes, you.

Unfortunately, you may find yourself to be one of the problems in your project, especially if you have decided not to use a third party.

Why? A successful project requires a sound understanding of managing the renovation and managing the team of people executing the renovation.

Knowing about things like budget management and value-uplift forecasting all takes experience and several projects to refine.

So, if you’re just starting out, expect to make mistakes and miscommunication with tradespeople.

Don’t worry, each time you renovate you will wish you executed some aspects differently.

That’s just more reason to carry those learnings forward into the next project.

What are the things I don’t need to worry about?

We hear you; we’ve just listed 6 reasons why a BRRRR can be really hard.

Here are two things you don’t have to worry about.

#1 You don’t have to worry about brightline tax

The brightline tax only applies when you sell the property (“flip” or “trade”).

But because the BRRRR strategy focusses on renovating to increase equity and rental value – you are holding, not selling. So, you don’t need to pay more.

However, as you have added value through renovation you will need to calculate that net profit margin will result in income tax. For this, it’s a good idea to check with your accountant.

#2 You are GST-exempt

Long-term residential investments are GST-exempt, which includes your newly renovated property.

So, no need to submit bi-monthly GST returns.

Final thoughts …

To be clear, we are not saying these problems are deal-breakers. Nor are we saying you should let them stand in the way of you achieving your investment goals.

On a personal note, I’ve done the BRRRR strategy on countless properties. I know the strategy (I love it), and I coach investors to use it.

While this article seems negative, it’s designed to have a positive impact:

If you know what you’re getting yourself into you’ll be prepared to tackle the challenges.

Because there are a lot of things to consider before deciding to commit to a BRRRR project: finance, time, labour, and what tradesmen you are going to employ.

Yet the BRRRR strategy is a great strategy and you will be rewarded for your hard work – if you have the stomach to do it justice.