I'm paying off my rental property mortgage

[dd564]

I've debated this for a long time. It's at 5% with about 28 years remaining.
I refied down a couple years ago at virtually no cost.

I could get better returns in the market, BUT this would be a guarranteed return and of course contribute more month to month cash flow.

Still have a good sized mortgage on the home place at 3.5% which I'll pay off slow as possible.

Just thought I'd share for comments.

 

[Big_Hitter]

I'm thinking about doing the same thing. Right now, everything (p/I, expenses, etc.) offsets the rent and I don't need the additional income right now so I'm a bit hesitant.


But I agree in principle, you're basically switching to a guaranteed 5% ROR when you do that transaction.

 

[jimnjana]

In a few months, I may be announcing the same thing. We finally have a solid offer on some farm property we've had for sale for on and off for the last 5 yrs. The proceeds are earmarked to payoff our Atlanta vacation rental that has a 5% loan on it.

Improving cashflow is one reason we are doing this. We also plan on selling the Atlanta rental next year and using the proceeds to paydown our primary home mortgage (at 3.25%)

We thought about putting more into the market as well, but decided this time that paying off the debt was better since we are likely selling the rental next year.

 

[dd564]

In another thread I mentioned we inherited some money and I'm getting an updated look at what I need to retire. I'm trying to keep a balance approach of real estate and investments with the real estate providing the cashflow on a monthly basis to help retire early with the other investments working for that traditional retirement bundle.

I'll still have debt from primary as a hedge against inflation, but this will lower our monthly expenses for the next 28 years which will probably feel pretty good and help us transition into financial independence when looking at monthly budgets.

 

[Big_Hitter]

I've got some property I own outright in WA I'm trying to unload, dirt can be difficult to sell.


I may sell that rental too. It would be nice to be debt free again....

 

[Meadbh]

Since the mortgage interest is tax deductible, the true cost of the mortgage after tax is less than 5%, how much less depending on the interest component and your marginal tax rate. And of course rental income is taxed anyway. Given that both residential and rental mortgage interest are tax deductible in the US, and that your rental mortgage has a higher interest rate, it makes sense to pay down the rental mortgage first.

If you pay down only part of the existing principal, the amortization will decrease, but there will be no immediate change in cash flow. You might consider doing a breakeven calculation, e.g. Paying $X now versus cash flow of $Y to be realized in Z years.

If your mortgage term has 28 years to go, and you plan to pay it off completely, presumably this is a substantial chunk of money. If you would otherwise invest this money in the markets, then it's really an investment allocation decision.

I too have rental properties. I include a real estate category when calculating my asset allocation. Right now the only mortgages I have are on two rentals. The rates are just over 4%. If I do nothing, they will be gone in 10 years. At present, the portfolio is more than paying its way. I have done breakeven calculations on down payments versus cash flow from earlier income streams, and my conclusion is that there is no significant financial benefit to aggressively paying off the principal in my case. But I am ER, so paying off the principal would involve increasing my withdrawal rate. If you are in the accumulation phase, it would be different; think of it as new investment in property.

My current plan is to keep a separate account for my property portfolio and to intermittently put accumulated surplus cash against the principal of the smaller mortgage. That will probably cut the amortization in half. Then I will have more positive cash flow to put against the principal of the remaining mortgage even more quickly. This way, I am not investing new money in the property portfolio.

 

[calmloki]

Some years back we borrowed on our F&C North & South homes. Did 5 year adjustable PenFed mortgages on them both and it was crazy - PenFed was paying a fraction more on CDs than they were charging on our loans. They dropped the CD rate, but also dropped the loan rate about a year before our first rate reset, so we refied the PenFed mortgages. Now the CDs are paying off, but I don't see paying off the mortgages. Our equity is working for us. We've lent out money on property hard money loans for 2 points up front and 12%most recently - in 4 months we make up 2 years of the home interest PenFed charges. Don't want to get greedy though - at some point in the next 4 years we may pay the homes off again - we have the embarrassment of excessive income to our needs and the tax man is happy to relieve us of more than I like to pay.

 

[ArkTinkerer]

I have several paid off properties and several that are mortgaged to the hilt. But the rates are under 4%. No way am I paying those off. I'm having a hard time not refinancing the home at this point--with such low rates and the deduction I'm sure I can make more by various investments. Just goes against everything I've ever thought of to take out a mortgage going into retirement. Maybe I need to change my viewpoint and think of rental property as a second career.

 

[dd564]

I have several paid off properties and several that are mortgaged to the hilt. But the rates are under 4%. No way am I paying those off. I'm having a hard time not refinancing the home at this point--with such low rates and the deduction I'm sure I can make more by various investments. Just goes against everything I've ever thought of to take out a mortgage going into retirement. Maybe I need to change my viewpoint and think of rental property as a second career.

If it was under 4%, I'd probably leave it, but a 5% at this stage, it seems like it's a good return.

The tax write off is a good point however. I'm bouncing in at 28% tax rate probably and with 7% state income tax, I should maybe think this over more...

 

[Fishingmn]

All 11 of mine are free & clear. Did take out a large loan on new primary residence 3 years ago to pay for half of them ($400k @ 3% for 15).

While most real estate investors would say I should mortgage them and buy more I like having all that cash flow to depend on when we retire in 2 years. Plus with prices up so much in the last 3 years I could never find the same deals.

Current return rate is just under 10% assuming very conservative expense numbers.

 

[dd564]

All 11 of mine are free & clear. Did take out a large loan on new primary residence 3 years ago to pay for half of them ($400k @ 3% for 15).

While most real estate investors would say I should mortgage them and buy more I like having all that cash flow to depend on when we retire in 2 years. Plus with prices up so much in the last 3 years I could never find the same deals.

Current return rate is just under 10% assuming very conservative expense numbers.

Hey, I'm in the Twin Cities area as well.
I'm looking to add a property or two, but not a ton out there.

 

[Senator]

I paid off a rental mortgage last year myself. It was $188K @5.5%. About 26 years left to go. I tried to refi, but non-owner occupied properties, in an LLC, and a bit difficult. I have two fourplexes, two duplexes and my own home paid off.

I also had to put up 30% down on the others, in the depths of the housing depression. I am considering paying off another, $160K @ 5.3875, 26 years left.

Here is the analysis I did back then.

 

[WannabeRetired]

The tax write off is a good point however. I'm bouncing in at 28% tax rate probably and with 7% state income tax, I should maybe think this over more...

Don't you need to be sure to factor in your personal exemptions and your standard deductions before thinking your entire mortgage interest amount can be written off?

For example, say I had a mortgage in 2015 and paid $15,000 in interest and gave $5000 to chairty. My personal exemptions and standard deduction for being married and filling jointly would be $20,600. I still wouldn't be able to itemize on my taxes and get any tax benefit from paying the mortgage interest, right?

(Disclaimer: I haven't done my own taxes in years and years, so please tell me if I'm off my rocker.)

 

[dd564]

Don't you need to be sure to factor in your personal exemptions and your standard deductions before thinking your entire mortgage interest amount can be written off?

For example, say I had a mortgage in 2015 and paid $15,000 in interest and gave $5000 to chairty. My personal exemptions and standard deduction for being married and filling jointly would be $20,600. I still wouldn't be able to itemize on my taxes and get any tax benefit from paying the mortgage interest, right?

(Disclaimer: I haven't done my own taxes in years and years, so please tell me if I'm off my rocker.)

Just throwing out some data here (thinking out loud).

The mortgage interest on the rental can be used as a rental expense.
The rental yields about $20k revenue a year. The expenses and the depreciation and the repairs negate that $20k if I have that interest write off.
So depending on where my AGI ends up, that will affect me 25% federally and 7% on state income. (Combined that's 32%)

Scenario A
Our combined income is $140k.
If the rental breaks even on paper we're still at $140k. (Don't pay off mortgage and have $8,000 interest write off).
Then say we have 30k in other deductions, our AGI would be $110k.

Scenario B
Combined income is $140k
Rental yields an increase income of $8,000.
Other 30k of deductions. Adjusted Gross Icnome would be $118k.

Both would put me in 25% bracket federal. Plus 7% state. 32% total.

$2560 difference for having the mortgage yet of that $8,000 interest.

As the mortgage gets paid down more, these benefits get watered away of course.

 

[Senator]

So depending on where my AGI ends up, that will affect me 25% federally and 7% on state income. (Combined that's 32%)

Taxes are always better to be paid than an expense you write off. Even 32%.

 

[Lurking]

I was in a similar situation and paid off my rental condo before I paid off my current home. In my case, I'm not sure it was the right order to do things because I got to deal with AMT afterwards.

Under the AMT rules, not all of the interest on my primary home was deductible, but I believe the interest on the rental condo would have been deductible.

I'm no tax expert, but just raising the idea that if you are subject to AMT some of the implications for this decision may be more complex.

Lurking

 

[dd564]

Taxes are always better to be paid than an expense you write off. Even 32%.

I know. That makes sense to.
Maybe I should pay have of what I owe on it.

Since it's a tough decision I'll do 50% of both options.

 

[dd564]

I was in a similar situation and paid off my rental condo before I paid off my current home. In my case, I'm not sure it was the right order to do things because I got to deal with AMT afterwards.

Under the AMT rules, not all of the interest on my primary home was deductible, but I believe the interest on the rental condo would have been deductible.

I'm no tax expert, but just raising the idea that if you are subject to AMT some of the implications for this decision may be more complex.

Lurking

Good point.
AGhhh..
This is getting tougher to decide.

 

[World Traveler]

Good thread. I would like to be fired in four years. I have the same quandary as the rest of you. I will not need the cash-flow for four years and wonder if I should pay one off with the cash flow. Thoughts?

 

[dd564]

Good thread. I would like to be fired in four years. I have the same quandary as the rest of you. I will not need the cash-flow for four years and wonder if I should pay one off with the cash flow. Thoughts?

What's the rate on the mortgage?
What's your income tax rate if the interest is or isn't on your tax return?

Seems like despite the interest I'll incur, My 5% rate is more like a 3.4% rate after taxes due to high state income tax and 25% fed tax.

Over 20 years, I SHOULD do better investing it elsewhere it appears.

 

[Senator]

Over 20 years, I SHOULD do better investing it elsewhere it appears.

It depends on what 20 year period you are taking about... and if you live that long. Sometimes, a bird in the hand is worth two in the bush.

A rhetorical question... If you were planing on SS at 62, rather than 70, then definitely pay it off. That shows you cannot wait one year for an 8% return. How would you wait 20 years?

 

[dd564]

It depends on what 20 year period you are taking about... and if you live that long. Sometimes, a bird in the hand is worth two in the bush.

A rhetorical question... If you were planing on SS at 62, rather than 70, then definitely pay it off. That shows you cannot wait one year for an 8% return. How would you wait 20 years?

Not sure if I follow the point.
After one year I might be better off with investing over paying it off.
We don't know, but if i assume average markets, I would be ahead with investing it in the market over the fixed return of paying it off.

I'm like 50-50 on this.
One of my thoughts was to pay about half the remaining balance and invest the other half so I'm doing half of each. But then if I include a recent property that I bought and paid cash for, I'm essentially "paying down" that amount of money already on that property vs taking out a new loan. So in effect, I'm slipping the difference.

Paying it off would help cashflow, but since I'm currently working, that isn't the primary importance. Growing overall networth would be which I have a better opportunity of doing by investing it I believe (but no one knows).

 

[Senator]

Not sure if I follow the point.

Growing overall networth would be which I have a better opportunity of doing by investing it I believe (but no one knows).

I believe that there have been 20 year periods that a 3.5% return may have been better than the market. Also, if you need the full 20 years to make the market return better, and you do not last the 20 years, the initial cash flow would have been better.

If you are taking SS at 62 because you want it right away, that is a sign you cannot wait the 20 years for the market to get a better return than a mortgage payoff. Waiting on SS is a much better bet than waiting on the market.

NW, if you cannot effectively get at it, is not too helpful in retirement income.

 

[World Traveler]

What's the rate on the mortgage?
What's your income tax rate if the interest is or isn't on your tax return?

Seems like despite the interest I'll incur, My 5% rate is more like a 3.4% rate after taxes due to high state income tax and 25% fed tax.

Over 20 years, I SHOULD do better investing it elsewhere it appears.

I have five mortgages range 117k highest to 86k lowest. 4.625 to 4.125 respectively. 28% tax bracket, no state. 28 yrs to go on mortgages.

I'm thinking don't payoff and invest until FIRE then payoff one or two to increase cash-flow when I go to a lower tax bracket.

 

[dd564]

I have five mortgages range 117k highest to 86k lowest. 4.625 to 4.125 respectively. 28% tax bracket, no state. 28 yrs to go on mortgages.

I'm thinking don't payoff and invest until FIRE then payoff one or two to increase cash-flow when I go to a lower tax bracket.

This makes sense to me.