Should I pay off an investment property?

[JJtheNav]

Hi, I'm looking for some advice on paying off an investment property early. I know there are a lot of variables, I'll try to give you the picture: I have 3 rental houses, the one in question has a 15 year mortgage at 5.25% with about $65k left on it. I take a small loss on it every month, but it has a long term tennant and a good rental history. I have about $50k cash that I could put towards the mortgage (or invest it?). I've asked a few real estate investors the same question and they suggested that I refinance it with cash-out and go buy 3 more houses. I'm not sure that's what I want to do, because each house only makes $250 - $300 month in cash flow - but by me paying off just one I can earn close to $1000/mo!
Anyone with some advice on this one? Does it make good sense to pay it off? Should I invest the $50k elsewhere and continue to let the tennant pay off the mortgage?
Some additional info: I retire from the military in 2012, so this extra $1k + my pension would give me a little over $4k/mo. Goal: Retire ASAP!

 

[brewer12345]

You cannot completely pay off the loan with your cash on hand, anyway, so its a moot point.

 

[JJtheNav]

Ok, let me clarify - should I put my $50k towards the mortgage and pay it off before I retire from the military -or- should I invest the $50k and let the tennant continue to pay it off? (keep in mind I'm taking a small loss on it every month.)

Thanks

 

[traineeinvestor]

There are probably too many variables to give definitive advice.

If it helps, i'm intending to keep the P+I mortgages on my properties after I retire in 2014 - as the mortgages eventually get repaid, my free cash flow will get a boost giving a measure of inflation protection and a step up in disposable income. I have other income/assets which will meet my living expenses and cover some shortfalls on the property portfolio in the short term should the need arise.

If the local property market takes a hit (it has actually advanced strongly this year), I would add to the portfolio before I retire. If it remains strong, I will put my savings into other asset classes.

 

[brewer12345]

Based on this and you other posts, I would suggest you figure out the whole picture as one integrated plan, rather than look at things in isolation. Otherwise you risk the "I don't know where I am going, but I am on my way" syndrome that generally does not result in the best outcomes.

So start with a view of where you want to be at certain points in the future and work back from there to figure out how to get there. The small cashflow outlay you make every month on this particular property in isolation may seem like a big deal, but in the grand scheme of things might be where you want to be (or not). But figure out the whole plan before you part with 50k that you cannot readily get back.

 

[samclem]

Is this rental in the town where you live now, or where you want to live in the future? Why have you decided to be a landlord? IMO, being a landlord and being in the military is not a natural combination. It can work, but why enter a rough game with a disadvantage? Here's a link to a discussion we had recently with timwalsh300, another military guy with real estate interests.

IOW, before making a decision on this particular property in isolation, decide if real estate investing is what you want to be doing. Consider everything. Many people think the go-go years in RE were due to a particular set of factors that we are unlikely to see again soon in most markets. In an environment of slow property price growth, rental properties have to have solid positive cash flow in order to be a worthwhile investment. In these environments, it will be difficult to make money if the owner pays a property manager. If a person takes their money and buys a property and serves as the property manager, what they've done, essentially, is buy themselves a job. That's fine, and it works well for many.

 

[Abreutime]

I wouldn't pay off the mortgage at 5.25%. Paying off the 65K doesnt put you in any better financial position, it just makes it feel like you are in a better spot. You want to pay 65K so that you "make" an extra $1000 per month (first of all, those numbers don't seem quite right. My guess is that you earn an extra $400 or so). Well, is there any other investment you can make with that 65k to earn an average of $400 per month? That's your important question. If you're gonna keep it in cash, earning anywhere from .1% to 3%, then you can pay it off. But if you have other investment possibilities -- for example, you think you may come across a steal of a RE investment in the next year, and it would help to have a sizable amount of cash on hand -- then keep the cash.

A 5.25% investment mortgage isn't bad. I wouldn't pay off the mortgage just so you can feel like you're making more money. Because don't forget what that 65K can do for you if you keep it.

 

[HpRyder]

I'm looking for some advice on paying off an investment property early. I have 3 rental houses, the one in question has a 15 year mortgage at 5.25% with about $65k left on it.

I just completed an analysis of my similar situation, involving paying off loans on 2 houses. I used Turbotax to estimate 2009s income, deductions & sch E numbers to see if I needed to do a quarterly payment. Then I deleted the mortgage interest of these two houses one by one to see the tax consequences for both Fed & state. In my case it would cost me about 250/mo in increased taxes. So even though my monthly cash flow increased substantially, taxes increased to an unacceptable level at current tax rates. Since I expect Fed taxes to substantially increase in the coming years and my state taxes are already increasing, this 250 would grow due to tax rate increases, as long as I rent the houses.

refinance it with cash-out and go buy 3 more houses. I'm not sure that's what I want to do,

Currently it's an historically great time to get rentals, but only if they are priced right, cash flow etc etc etc. But if you don't have the stamina to deal with rentals and absentee land lording, absolutely don't do it. Only you know if you can and want to handle it.

Anyone with some advice on this one?

I recommend you do a similar analysis to mine above. As a result, I'll keep the deduction, knowing rents will increase over time and my cash flow will increase not decrease over time.

Does it make good sense to pay it off?

A 5.25% 15 yr fixed mortgage is great investment rate in todays market. I would not lose it.

Should I invest the $50k elsewhere and continue to let the tennant pay off the mortgage?

Yes. By owning a rental you've already demonstrated you can handle substantial risk and large value fluctuations. I'm moving slowly into another hard asset class which is easier to sell: silver, gold and gold mine stocks. My view is that these will substantially appreciate soon. The 25% or so gold & silver run up, IMHO is just the start. But to each his own.

 

[calmloki]

We owe on a mortgage we took out on our home to pay off rental property. Paying 5% to PenFed with 8 years to go. We could pay it off, but plan to buy 4% 5 year PenFed CDs in January. To me, paying that 1% difference is worth it to have a guaranteed available chunk of money for the odd emergency that might come up. Think it would cost me much more than 1%/year to take out a new loan in the future.

We itemize, if we took the standard deduction it might make a difference. Thoughts from one who spent the last 25 years pushing as much as possible at rental property debt - it's a real struggle to go against that habit!

 

[tryan]

Once heard on the radio that to determine what you're "real" mortgage interest rate is you need to deduct the tax break and inflation. So if you're paying 28% federal and 5% state taxes you'ld cut the rate by 33% (28 + 5). So 6% becomes 4% ... then subract some average annual inflation rate. 3% inflation over the life of the loan would be consevative. So 4% becomes 1%.

Anybody paying 1% would keep the loan until maturity. I suspect you should do the same.

 

[samclem]

Once heard on the radio that to determine what you're "real" mortgage interest rate is you need to deduct the tax break and inflation. So if you're paying 28% federal and 5% state taxes you'ld cut the rate by 33% (28 + 5). So 6% becomes 4% ... then subract some average annual inflation rate. 3% inflation over the life of the loan would be consevative. So 4% becomes 1%.

Anybody paying 1% would keep the loan until maturity. I suspect you should do the same.

One minor adjustment for a primary residence: Be sure to use the true value of the tax deduction in your individual case (that is, the value which exceeds the value of the standard deduction). An extreme case: If a married couple filing jointly has a single itemized deduction of $11K in home mortgage interest, then the actual value of the interest deduction is zero, since they shouldn't be itemizing but instead taking the standard deduction of $11,400 (for 2009).

Too many folks get talked into a starter home based on the huge tax savings they'll get (every real estate agent has the sheet), and they only find out the truth at tax time.

 

[JOHNNIE36]

I would always look at your situation in simplier terms. You have $50 cash with which to pay down the $65k mortgage. With safe investments the best you can get right now is $4% return or $2000/yr or $167/mo. You indicated you're getting maybe $300/month or $3600/yr rental. Even if you had enough cash to pay off the mortgage, why give up the tax writeoff? In the mean time, your renter is paying off the mortgage. Keep it going. In a few years when you are sick of taking care of rentals, there will always be time to pay it off. Maybe you'll sell out entirely, do a Starker exchange and go into some other business rental like a parking garage of other commercial property adventure.

 

[JJtheNav]

Is this rental in the town where you live now, or where you want to live in the future? Why have you decided to be a landlord?

IMO, being a landlord and being in the military is not a natural combination.

The rental is a home we previously lived in, I decided to rent it for additional cash flow and to eventually pay it off for even more. I had the thought "If I can get enough of these (rentals), maybe I could RETIRE EARLY!" Little did I know it's not as easy, but I do honestly think it's possible. (Anyone heard of Lifestyles Unlimited?) Anyway, that's how I got in the "landlord" business. We now have 3 total, all within a few miles of our current residence. As for the military factor, I'm an AGR so I will not be moving any time soon (if ever). I plan to retire in 2012 and hopefully find employment in the local area (or retire, if I can figure out how!).

In these environments, it will be difficult to make money if the owner pays a property manager.

I agree, which is why I have NOT hired a property manager. My properties are all fairly new and easily mantained, plus I screen my tennants carefully which has paid off! (knock-on-wood)

 

[JJtheNav]

You want to pay 65K so that you "make" an extra $1000 per month (first of all, those numbers don't seem quite right. My guess is that you earn an extra $400 or so).

The way I came up with the $1k is this: the rent is $1,275 so once the P&I is paid off that just leaves taxes, insurance, HOA, and maintenance. Doing the math, I come up with approx $400/mo. (incl. $50 maint.) So, maybe my cash flow would be closer to $875. If I'm missing something, let me know. (Oh, the tax advantage! Yes, that needs to be figured as well...)

Well, is there any other investment you can make with that 65k to earn an average of $400 per month? That's your important question.

That is the important question, can anyone help me answer it? Where can I invest $50k today? (Which if you read my intro is how I found this site, I googled "where to invest today"...)

 

[JJtheNav]

Sorry for all the back-to-back posts, but I had so many great replies that I wanted to respond to everyone. Thank you everyone for your feedback! As a brand new member here, I'm overwhelmed (in a good way). Thank you.

HpRyder, great reply! Thank you for the feedback, let me try to clarify and respond to some of your points.

... if you don't have the stamina to deal with rentals and absentee land lording, absolutely don't do it. Only you know if you can and want to handle it..

I think I can handle it, but then again I've been lucky with great tennants (and good properties). I listen to a real estate investor radio show and I've attended a meeting for Lifestyled Unlimited which is a mentoring program. If anyone has any experience with them I'd like to hear about it.

... I recommend you do a similar analysis to mine above. As a result, I'll keep the deduction, knowing rents will increase over time and my cash flow will increase not decrease over time.

I plan to do a similar analysis when I do my taxes this year, although I think from hearing your results that mine will be similar. It sounds like investing my money elsewhere is the best bet.

I'm moving slowly into another hard asset class which is easier to sell: silver, gold and gold mine stocks. My view is that these will substantially appreciate soon. The 25% or so gold & silver run up, IMHO is just the start. But to each his own.

If I may ask, are you buying the actual metals (silver & gold), ETF's, or what? (I bet there's a discussion on this already... I'll do some research)

Thanks again for help!

 

[jimnjana]

Ok, let me clarify - should I put my $50k towards the mortgage and pay it off before I retire from the military -or- should I invest the $50k and let the tennant continue to pay it off? (keep in mind I'm taking a small loss on it every month.)

Thanks

If I were you, I would keep the cash, and not invest until AFTER you get out of the Military. Then after you either have a job or decide you are gonna retire, decide how to invest/use the money.

Good luck

Jim

 

[JJtheNav]

It's hard to sit on $50k when the market is up 60%... I think I will invest it instead of putting it towards the mortgage on the rental house. Thank you everyone for your great advice!

 

[samclem]

As for the military factor, I'm an AGR so I will not be moving any time soon (if ever). I plan to retire in 2012 and hopefully find employment in the local area (or retire, if I can figure out how!).

Thanks for the additional info, that puts a different light on things.

 

[HpRyder]

I think I can handle it, but then again I've been lucky with great tennants (and good properties).

If you keep at it, somewhere along the line you'll run into a bad situation, either by being conned, your own miss judgment or an undetected changed renter situation (undetected until it impacts you). Until then keep up the good work and "enjoy" the situation.

If I may ask, are you buying the actual metals (silver & gold), ETF's, or what? (I bet there's a discussion on this already... I'll do some research)

Mostly stocks and ETFs but also metals (watch out for the long term capital gains tax as a collectable/commodity of 28% not 15%, but whose sale is often not reported, putting you in the position of declaring it or not). Some seem to appreciate faster than others now, but will catch up later.

 

[jimnjana]

It's hard to sit on $50k when the market is up 60%... I think I will invest it instead of putting it towards the mortgage on the rental house. Thank you everyone for your great advice!

alot of people were thinking the same way right before the market crashed...I for one wish I would have kept more in cash than in investments leading up to retirement.

Jim

 

[JJtheNav]

I spoke to an investment advisor not long ago and he said "you have to stay invested no matter what"... Of course there are variables such as age, income, etc. but I think he's right - sitting on my cash won't make it grow. Sometimes we just have to take the risk I guess. I'll be sure to keep an emergency fund, but I think I need to get back in the game. I pulled out of my mutual funds at the wrong time and now I've missed the recovery because I've been too conservative. Sure the market "might" go back down, but then again it "might not". Too bad we don't have a crystal ball!

Thank you for the advice on the subject.