There are two basic types of loans you will take if you are a fix and flip investor. There are the acquisition loans, and then there are the rehab loans, which have a fund control feature incorporated.

The most basic of the loans rehab investors will use is the straight acquisition loan. These loans will typically fund anywhere between 50-70% of the acquisition cost. They do not require a fund control account, and do not fund any of the rehab work. They allow an investor to take a loan to leverage his or her money and do the rehab work using their own cash out of pocket. The upside to this is it is very hands off, there is no fund control to work with, and you can do the rehab at your own pace. The downside, however, is that you need funds for a down payment, plus funds for the rehab.

A rehab loan, on the other hand, will loan based on the after repair value, or ARV. Typcially you are looking at private money lenders going to about 60% of the ARV on a loan amount. In order to do this, they build in a builders control or fund control account. By doing this, their risk is limited. If you walk away from the project, they have a fund contol account that allows them to rehab the property without having to invest additional funds.

The upside to this type of loan is that typcially, an invsestor can work with less cash. Instead of putting 30% or more down, plus paying for the rehab work with cash out of pocket, an investor can come to the table with 20-30% of the purchase price, and get the rest of the money needed for the project financed (including an interest reserve account, take a look at this investor rehab loan program).

The downside is that you will have to work with a fund controlled account for the rehab work to be done. This means you put in requests for the disbursement of funds to do the work. Some fund controls will allow for advances so that you can start the work with no out of pocket costs. Others require you to do work, then submit invoices to be paid. Having a fund control that will work with your needs is important, be sure to ask who you will be dealing with, and what the general process is. Having an individual you can speak with and work with directly on the disbursements is a huge benefit.

Working with a builders control does not have to be difficult. In some cases, with residential rehab projects needing only light rehab, you don’t even need inspections. Pictures of the completed work can suffice, especially if you start to build a relationship with a particular rehab lender or investor.

One of the most important aspects for a rehab investor should be knowledge of the prepayment penalty involved with the rehab financing. Most rehab loans have an interest reserve of some type built in, but you need to differentiate between that interest reserve and your prepayment penalty. Let’s take a look at the various options typical of these types of loans.

Prepayment penalty – There are two basic types of prepayment penalty, a straight prepayment penalty and a guarantee of interest. A 6 month guarantee of interest is not the same as a 6 month prepayment penalty.

Typicaly prepayment penalties equal out to 80% of 6 months worth of interest. With a 6 month prepayment penalty, if you pay the loan off in month 5, you still owe the same penalty as if you paid if off month one.

Guaranteed interest, however, is different. It guarantees the investor that you will pay interest for a given period of time. Using the above mentioned example, a 6 month guarantee of interest paid off month five would cost you only one month worth of interest.

Finally, we get to the interest reserve. An interest reserve is not guaranteed interest nor is it a prepayment penalty. It is a reserve account set up to make your payments for a set amount of time. Interest reserves are great, as you can typically get them financed into the rehab loan, and if you pay the loan off before the interest reserve runs out, you get that money back (unless you have a prepayment penalty of one type or another). When combined with a builders control account, you can rest easy (and so can your investor), knowing that you should incur no out of pocket expenses for a period of time while the rehab is being done.

Most rehab investor loans for residential fix and flip transactions should have no prepayment penalty. Be sure to ask your investor how yours is structured, and remember to make sure you differentiate between a prepayment penalty and an interest reserve.

Novices, however, typically are in need of house flipping financing in the form of acquisition and rehab loans. This type of financing can be difficult to find, but it is available.

The place to look is with hard money lenders. Most banks are going to require much more cash into the deal than hard money lenders will, and banks are becoming more and more reluctant to finance these types of transactions.

Working with a hard money lender for your house flipping financing can help leverage the cash available and take advantage of the market. You can typically expect to pay anywhere from 5-10 points or more on this type of money, as well as pay between 12% and 14% in interest.

While that may sound expensive, with the proper deals it does allow you to be profitable, and is much less expensive than bringing in a partner.

Most of these programs work in a manner where the amount of house flipping financing is based on an after repair value, or ARV. It is common to be able to finance between 50-65% of the ARV. It is important that you do have cash available, as you will typically need to show a vested interest in the project.

One of the most liberal house flipping financing programs available in California allows for 100% financing of the acquisition, with the borrower bringing cash in to cover the points, fees and rehab work. Often times the investor or hard money lender will also want 3-6 months of prepaid interest.

As a ballpark number, with 20-25% of the purchase price available in cash, a borrower can obtain house flipping financing. Once the deal is structured, all funds for the rehab will be included, and if interest is prepaid, there will be a period of time where no out of pocket costs are incurred.

Putting a 6 month interest reserve into the loan allows for the time to acquire the property, rehab it and get it back on the market. If done properly, many flips can be back on the market in 45-90 days. By hitting this target, it is possible to have the property sold before the first out of pocket interest payment is due.

For more information and examples of this type of house flipping financing, take a look at this page about rehab loans.