BiggerPockets

Lately I've been contemplating a cash out refi on my primary residence (because of the 5% rates); I was reading some old forum posts on refinancing and thought about this:

Why would someone cash out refinance in order to purchase a rental property?

It seems like the increase in PI payments and cost to refi would eliminate any potential cash flow on the rental! - Brandon

I am in the middle of a refi atm, will reduce my interest rate 1.5%.

Will get some cash back too, seems like a good deal my payments won't go up hugely even with the cash out because of the lower rate.

What will I do with the money..got a car loan at 4% I could pay off, a few other small bills.

Seems to me if I could buy a rental at todays prices it would cashflow nicely..plus someone else will basically be paying part of my mortgage.

Plus, is it not possible prices will go up a good bit over the next few years..would hate to pass up a cashflowing property today that may not cashflow if purchased a few years from now.

What are some of the negatives of doing this?

To me if refinancing makes sense then do it, if buying a rental makes sense, great...but the two are not really directly related.

Cash out refi's on rentals are tougher these days than they used to be. I'd count on a year's seasoning, and an LTV under 70%, unless you've found a lender that specifically says they can do better. I certainly would not recommend using that cash on living expenses or toys (e.g., cars).

P.s.-
Jon, the thought of a "new toy" had crossed my mind.... the auto industry needs us, haha =)

True Jon..no cars for me..maybe a couple new guns instead!

Seriously tho as a relative newbie I feel like this is the time to act..there are alot of great deals out there and I don't want to miss out completely.

Am I off base in thinking once things start to turn around prices will go up, and banks will start holding onto reo's for higher prices?

I am even considering using some nice bt offers for rentals..not the 12 month ones but I have a few really nice life of the balance offers.

I know..thats even worse than using refi money but if it doesn't trash my fico its hard to beat a 3% or 4% loan.

The main question for me is what lenghts does the current market justify going to? I have looked at 100+ houses over the last few years and these prices have really got me excited!

Similiar question.. have a sfh (used to be my primary residence) that has a neg cash flow of about 100-200/month.. Have a Good Faith estimate from Citibank and will reduce my payments by 300 month but extend 7 years back to 30year. Cost about 6000. I can't sell at this point as I have a 2nd that has 7 years left making me underwater. here are some numbers current monthly - 1265 plus 400 tax and insurance plus 260 on second. new would reduce 1265 to 960. My rents are at 2000/month there are two separate apts here each $1000. What do you think???

Jon,
Thanks for your response.. Citi is 1st and chase will have to agree to remain Subordinate. Ihave been told it is usually not an issue because increasing my cash flow will only help their position. The reason I didn't get rid of it up untill now is that we took the loss and it kind of worked out after taxes.. Now we make too much w2 income and can't take any loss. I would lose about 60k if I sold I was trying to hold on for a few years untill the market came back.. My husband is a former general contractor and can build or replace anything including electric or plumbing so costs for repairs are kept reasonable and the vacancy for the past 5 years has been less than 2 months. So it eeks by. Thanks

Ah, so you currently have a Citi first and a Chase second, and Chase is willing to refi the first. They would then have both notes.

You might try asking for a modification of the second, too. As it stands, that second is worth much less than its face value (the amount you owe.)

Keep in mind the passive losses you can't take do accrue and can be taken when you sell. That may not apply if you bought at the height of the bubble. But if you bought before the bubble and did that second during the bubble, you can still end up with a gain on the sale, even though you actually have to accept a short sale or make up a shortage. So, do keep track of your carry forward passive losses.

I think we're a lot longer than a "few years until the market comes back". The bubble was an abnormal event. I think it will be many years, if not decades, before prices return to the peak of the bubble.

Sounds like refinancing may make sense, despite moving out your payoff date. It would help with cash flow, and that's really your problem right now.

You would then use that 80k to buy a rental and your cash flow should be about $800-900 a month (before paying your $350 a month payment).

So your net cash flow would be $450 to $550 a month (800-900 minus the 350).

Neither of those numbers is "cash flow". Cash flow is what's left from the rent after ALL expense and debt service are covered. If rents are $800-900 and your debt service is $350, a better estimate of "true cash flow" is $50-100. Now, if you have no cash into a deal, and you have tenants are paying it down, that may be a perfectly acceptable deal. But if you think you can spend that $450-550 a month of "phoney cash flow", you better have cash on hand to deal with the inevitable problems that will crop up. Not to mention just paying the annual taxes and insurance payments, since those aren't included in the payment you're making on you primary.

And, if you're going to take cash out of your primary to buy rentals (or anything else) you need to be very, very sure you can cover the new higher payment even if your investments turn into complete losses. Buying a single SFR cash is unlikely to turn into a completely loss (though not impossible, if, for example you choose to self-insure and have a fire), but if you take that cash and leverage it into a larger property, a total loss becomes much more possible. You don't want you investments to end up putting you out on the street if you lose your residence.

Property management? Perhaps you're earning that your self, but you are earning that, the property is not producing it. That may be do-able for a handful of properties, but it will become a full time job when you get to 50-100 properties. Around here, $1400 a month with one vacancy a year would cost you about $3000 a year, or about $250 a month on average.

Vacancy? None? Every?

Capital? Eventually every house needs a new roof, new water heater, new furnace, etc.

Legal fees? Hopefully small, but potentially large. Again, a few properties for a few years isn't the same a large portfolio for a several decades. With a large portfolio (which I don't have) evictions become just another routine expense.

CPA fees? Mine charges about $600 a year, though only a portion of that can be attributed to real estate.

Lengthy, messy evictions. Hopefully rare, but again, one of those things that will happen "over the long term".

Tenant damage. I've had a couple of incidents of fairly minor damage that still ended up being more than the security deposit. I've sent bills. Never seen a payment.

A few properties for a few years is like playing ten hands of blackjack and winning seven. That certainly happens. But losing seven out of ten is actually more likely. That's equivalent to having a few properties and having something horrible happen (like the poster who bought the duplex, discovered a drug dealer lived above her, ended up living in her car because she was so afraid to go in, and spent thousands of dollars getting rid of the guy). Hopefully nothing horrible happens. But some of those things I like WILL happen to you over the years. As long as you realistically estimate your true cash flow, build up some cash reserves, and mentally prepare that one of these bad situations is just part of the business, you'll do OK. If you only address the obvious, ongoing expenses and spend what's left (not saying you're doing that) you can end up in a bind.