Jason Hutton, Author at Scotsman Guide

Sprucing up the Block

Jason Hutton — Fri, 29 Sep 2023 23:36:44 +0000

Fix-and-flip investors are one of the nation’s busiest groups of single-family homebuyers. In first-quarter 2023, more than 72,000 single-family homes and condominiums were flipped nationwide. These transactions accounted for 9% of all U.S. home sales in the first three months of the year, up from an 8% share in fourth-quarter 2022. Investors are not only growing their rehabilitation or rental businesses — they’re expanding their need for financing and are considering the use of debt on a more frequent basis.

It might be hard to believe that real estate investors, such as fix-and-flippers, are still growing their business. After all, housing inventory remains historically low and mortgage rates continue to tick higher.

“Investors of all types play vital roles in the long-term effort to address the nation’s housing shortage. Ironically, single-family investors can take advantage of low inventory to grow their businesses.”

Nationally, the number of homes for sale fell 15% year over year this past June to reach an all-time low, according to Redfin. The real estate brokerage also reported that new listings fell to 450,000 at that time, down 30.6% from a year earlier for the lowest level and largest annualized decline on record (aside from April 2020, when the COVID-19 pandemic first hit). And according to Zillow, the U.S. needs about 4.3 million more homes to meet current demand.

Adding to the gridlock is the fact that roughly four in five homeowners with a mortgage have an interest rate below 5%, while nearly one-quarter have a rate below 3%, according to Redfin. With interest rates on 30-year fixed-rate loans hovering around 7% late this past summer, nobody was moving unless they absolutely had to.

Inventory problems

Those who are interested in buying a home are watching and waiting to see if the Federal Reserve continues to raise benchmark interest rates in an effort to fight inflation. Prospective buyers may also have to contend with a reduction in lending activity in light of the failures earlier this year of Silicon Valley Bank, Signature Bank and First Republic Bank.

Builders are attempting to make a dent in the ongoing housing shortage, with the National Association of Home Builders reporting a seasonally adjusted annual rate of 983,000 single-family construction starts in July 2023 (up 6.7% year over year). But in spite of significant homebuilding and rehabilitation activity in recent years, there are roughly 16 million vacant homes in the U.S., and it’s a good bet that a large percentage of these need renovation.

“In spite of significant homebuilding and rehabilitation activity in recent years, there are roughly 16 million vacant homes in the U.S., and it’s a good bet that a large percentage of these need renovation.”

On the positive side for housing supply is that independent investors are finding these homes, fixing them up and reselling them to owner occupants in the middle-income range, helping to close the inventory shortage. Independent investors are projected to revitalize 350,000 homes in 2023.

In short, these small, localized investors are taking matters into their own hands and opportunistically filling in the gaps in housing inventory when government bodies and homebuilders fall short. To better accomplish these tasks, these people need financing.

Use of leverage

Historically, many independent real estate investors have used cash to acquire and rehab properties. But despite recent interest rate hikes, investors have grown more comfortable using leverage to fund their deals. Often, this backing comes from private lenders that are usually faster and more flexible to fund a project than conventional lenders like banks and credit unions.

In doing so, investors can reduce the amount of cash they put into any single property, and they can use the loan to complete the purchase and rehabilitation process or pull cash out of a prior investment. Debt also allows them to do more deals and grow their business with higher returns on equity. In fact, the BRRRR method (buy, rehab, rent, refinance and repeat) is predicated on the sensible and efficient use of debt to build rental portfolios and long-term passive income.

Even investors who already use debt seek diversity when it comes to loan products. They need access to nimble and experienced lenders that offer a variety of loan programs tailored specifically to their real estate investment strategies. On a fix-and-flip project, an investor might need a residential transition loan, which is a way for them to pay for construction, repairs and other business expenses.

With a buy-and-hold rental property, an investor might need a rental landlord loan, also known as a debt-service-coverage ratio (DSCR) loan. This is a type of nonqualified mortgage that uses the rental income generated from an investment property to qualify the borrower.

Each of these loan types are typically underwritten based on the borrower’s credit score, liquidity and experience. They are capped at a percentage of cost (purchase price plus repairs) or after-repair value. DSCR loans are also based on how much a property’s rental income covers the required principal and interest payments.

Alternative options

Investors need lenders with varying appetites for risk. Mortgage brokers should help these clients connect with reliable sources of capital and a proven ability to execute. Deals can happen quickly and investors are often looking for better funding options even as they’re closing a transaction.

Different types of real estate also require different lenders and programs. At any point, an investor might need a residential transition loan, which could take the form of a pure bridge loan, a DSCR loan, or a variety of niche products that support multifamily housing, mobile homes, raw land or ground-up construction.

Many investors also operate across multiple markets. While fix-and-flippers usually renovate homes in their own backyards, or specialize in a city or region, they can range far and wide to find the most profitable opportunities and diversify risk.

Buy-and-hold rental investors may build portfolios in multiple cities where they can find value-add opportunities at below-market prices. They may buy in markets as diverse as Boston, Dallas, Houston and Charlotte, and the strategies for acquiring, selling or recapitalizing these properties can vary significantly — hence the need for local lending expertise.

Strategic support

Investors of all types play vital roles in the long-term effort to address the nation’s housing shortage. Ironically, single-family investors can take advantage of low inventory to grow their businesses.

This is because they buy homes that may be uninhabitable, or those which the average consumer homebuyer simply doesn’t have the appetite or experience to renovate. Often, rehabbers also have the knowledge and resources to complete a project on time and on budget, and they make design decisions that are likely to be in high demand among most end buyers.

They can do all this work much more easily by partnering with commercial mortgage originators and capital sources that have experience and a high level of understanding of the investment landscape. They also need access to more than one lender, thus ensuring depth and diversity of mortgage programs and risk appetites.

A real estate investor might be looking to make an actual purchase while pricing a hypothetical deal (or a handful of deals) at the same time. They may be closing on one project and starting another simultaneously, and therefore need bridge financing to move quickly.

These investors can greatly benefit from a marketplace that supports their many strategies by offering multiple funding sources and programs, all with a central point of contact across the real estate investment space. This would enable lenders and brokers to more efficiently widen their originations pipeline, lower the costs of acquisition and quickly scale up their lending portfolios. In other words, such a marketplace would make it easier for mortgage professionals to up their game in an increasingly competitive landscape.

Increased speed and minimized friction are essential for lenders and brokers who seek to grow their businesses and encourage repeat customers. Borrowers will return to a marketplace when they know they can find the best available options and feel confident they are getting the best value.

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Independent single-family home investors continue to play a critical role in the real estate market, and their impact is growing. Many iBuyers — companies that use automated valuation models to buy homes quickly — and large institutional investors have either left the playing field or have dramatically scaled back their operations for now. But the local players, knowing they can source and close attractive financing to support future growth, are leaning in and taking action with confidence.

With the housing shortage expected to continue for the foreseeable future, fix-and-flip investors will remain important drivers of inventory replenishment and growth in the market. They’ll generate a variety of attractive and repeat business opportunities for mortgage lenders and brokers for years to come. ●

The post Sprucing up the Block appeared first on Scotsman Guide.

Opening the Door

Jason Hutton — Thu, 01 Sep 2022 09:00:00 +0000

For years, we’ve heard about the ongoing U.S. housing inventory crisis. Since 2001, underbuilding has led to what is now a historic deficit of between 5.5 million and 6.8 million housing units, according to a National Association of Realtors (NAR) study. The report notes that the state of America’s housing stock is dire, with a chronic shortage of affordable and available homes needed for the nation’s population. The housing shortage is only being intensified by the recent rise in interest rates.

Up until now, investors have had to hunt for quality lenders and analyze a variety of options for hard money loans. Those days are over as technology is unleashing a better way.

While the shortage of housing units has been discussed for years, the COVID-19 pandemic has exacerbated an already challenging situation. Early in the health crisis, available homes sold quickly, with the majority on the market for less than a month. This fast and furious pace has continued through the first half of 2022, even as the median home price has exceeded $400,000 for the first time.

Rising rates have somewhat tempered home-price growth and the pace of sales, but the supply-and-demand gap is still significant. NAR chief economist Lawence Yun noted this past June that despite rising interest rates, appropriately priced homes are selling quickly, and available inventory levels will need to almost double before price appreciation cools and buyers are given more options.

First-time buyers, in particular, continue to pull back from buying, as evidenced by an ongoing decline in their share of existing-home sales. Millennials currently account for 43% of all homebuyers, but they face the most challenging market in recent history.

Where are builders?

Supply chain challenges, skyrocketing prices for construction materials and labor shortages have increasingly plagued homebuilders since the COVID-19 crisis began in the spring of 2020. Robert Dietz, chief economist for the National Association of Home Builders (NAHB), said this past June that the shortages include a lack of lumber, appliances, cabinetry, electrical transformer equipment and buildable land.

Now is not the time for borrowers or brokers to push the envelope on higher loan leverage, more aggressive pricing or unusual exceptions. Simplicity, clarity and experience will carry the day.

NAHB reported that residential construction material costs were up 19% year over year at that time. The cost increases encompassed a variety of building inputs, except for lumber, which had experienced declines due to a slowdown in building permits.

Residential housing starts are suffering as a result, dropping to the lowest levels in more than a year, and builder confidence reached a low point for this year in June. Meanwhile, any buyer fortunate enough to have a new build in progress can expect a wait time of eight months or longer before moving in — that is, if they don’t cancel the project mid-process due to mortgage rates not being locked.

Old is new again

Amid this perfect storm, a solution continues to sit relatively dormant in neighborhoods across the country: distressed housing. According to a 2021 White House fact sheet, approximately 40% of U.S. housing stock is at least 50 years old, and a more recent report from LendingTree found that roughly 16 million homes are sitting vacant.

Repurposing existing homes is the best answer to the nation’s inventory crisis. Existing homes can generally be acquired, renovated and sold in less time than it takes to build a new home. To help spur this process, President Joe Biden announced a proposal last year for a new tax policy called the Neighborhood Homes Tax Credit (NHTC), which is aimed at further incentivizing the redevelopment of distressed communities.

The proposal is part of the Build Back Better Act, which has passed the House of Representatives but is meeting resistance in the Senate. If approved, NHTC would finance the gap between the construction and/or rehabilitation costs of homes in distressed communities and the sales price of these owner-occupied homes.

Investors who acquire and renovate older homes could claim the credit on their federal tax returns, in essence making the reportable income nontaxable. The home has to be located in a community that meets certain criteria, the homebuyer has to fit the income profile of the neighborhood, and the sales price cannot exceed four times the area’s median family income.

Wise investors are capitalizing on the opportunity to invest in these communities and create a pipeline of affordable housing. Local investors are in a better position to refurbish distressed properties compared to owner occupants. They not only bring the necessary financial resources but also offer expertise and capabilities beyond those of even the most determined do-it-yourselfer.

Investors can assess a property’s structural features and potential damage, from foundation to roof, and determine the best plan to add value. They often bring strong resources and relationships to the project — from contractors to materials — along with negotiated discounts. Investors also are used to unexpected and unfortunate circumstances in a home flip, such as building code nuances and stolen copper. All around, investors deliver a more efficient rehab project.

Different loan types

The process of funding a real estate investment through a residential transition loan (RTL) — which often falls into the hard money category — has not historically been an easy one. Investors have had to search for lenders and devote considerable time to comparing options, finding a quality partner and getting approved.

Today, however, the steps are quite similar to that of other commercial mortgages. The industry has grown, standardized and even institutionalized many processes over the past few years, including rated securitizations for single-family rental (SFR) loans.

The process for obtaining an SFR loan, however, can be fairly unique depending on the property, the borrower and the business strategy. Add in the current financial climate, interest rate increases and the general uncertainty facing many lenders in the marketplace, and the process can take a few unexpected twists and turns.

A new model

As everyone knows, timing is everything in today’s market and deals don’t wait. As a result, a new model has been created to accelerate and expand credit access. Tech-enabled solutions put more power into the hands of mortgage brokers and borrowers, allowing them to access a marketplace that brings lending options together in one convenient and intuitive platform. This offers the most reliable, flexible and accommodating debt options within a local market.

Options include national, regional and local institutional providers of RTLs and landlord loans, the latter of which are commonly known as debt-service-coverage ratio (DSCR) loans. The underwriting criteria on a DSCR loan relies on rental payments and other income generated by a property that cover the required debt service on the loan, including principal, interest, taxes, insurance and other costs.

With these new marketplace platforms, each transaction is managed by a central point of contact through an interface that seamlessly connects borrowers, brokers, lenders and other key stakeholders. Using a more efficient approach enables more transparency, more access and better value for real estate investors big or small. Everyone wins when debt for these transactions can be arranged and funded more conveniently and cost-effectively.

Additionally, many lenders now offer mortgage products based on hybrid and/or web-based valuation methods. These leverage large amounts of data and analytics, including automated valuation models, to accelerate the underwriting process. This technique has significantly increased the speed to market while reducing the total time to originate and close a loan.

Opportunity awaits

The challenges for lenders in 2022 are not insignificant. As the Federal Reserve raises short-term rates, uncertainty remains about the general appetite for risk, the locations where lenders are willing to do business and loan amounts. Lenders seem to be holding fast and continuing to fund deals, albeit with adjusted pricing, leverage levels, investor experience or required asset reserves.

Now is not the time for borrowers or brokers to push the envelope on higher loan leverage, more aggressive pricing or unusual exceptions. Simplicity, clarity and experience will carry the day. Loans that are perceived to be “down the middle of the fairway” and within predefined parameters of a lender’s credit box will encounter the least friction and have the greatest chance of funding as expected — and on time.

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Real estate continues to emerge as a hedge against inflation. The opportunity to fix and flip, or fix and hold, are viable investor strategies for the foreseeable future. According to a recent Attom Data Solutions report, flipping activity rose in 95% of local markets from fourth-quarter 2021 to first-quarter 2022 — representing nearly one in 10 homes sold.

Providing investors with a more user-friendly and convenient way to access the widest variety of credible and flexible funding options will further fuel the market. Ultimately, this will deliver opportunity for everyone — including more options for brokers and investors, a fresh start for sellers and affordable housing for buyers. ●

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