Good Things Come To Those That Buy Real Estate and Wait!

One of our single-family houses was refinanced this week.Since we generally borrow money from small community banks with twenty-year amortizations and five-year fixed rate loans, we must be ready to refinance a batch of houses every five years.I realize a lot of people are not comfortable borrowing under this scenario because they have been conditioned to only want to do thirty-year fixed rate loans backed by Fannie and Freddie (aka – the U.S. Government) for rental property purchases.

However, using that type of financing will ultimately limit the number of properties one person can do (either based on a fixed number of properties or hitting the maximum debt-to-income ratio the mortgage company will allow) so whenever your personal limit is maxed out, the dilemma is to either stop buying more properties or find another type of loan that does not have these same limitations on how many loans one person/entity can borrow.

Five years ago, we closed a loan after renovating this house and the bank we used at the time offered us a 5.25% fixed rate for five years on a twenty-year amortization and they based the loan amount on 80% of the new appraised value of the house which gave us a loan amount of $81,600 based on the $102,000 appraised value.

Fortunately, this loan amount was 100% of the cost of the house plus renovations so after we closed on the loan, the bank had a first mortgage on the property at 80% of the appraised value and we had a 20% equity position in the house with zero dollars of our own money tied up in this property.That is called a successful transaction in my book!

Fast forward five years later and it is now time to refinance this maturing five-year loan.Of course, the first thing we did was call the bank that had the loan on the property and asked them for their current rates and loan costs for a fifteen-year amortization (since we paid the loan down for five years and wanted to keep it on the same payoff schedule) and they were more than happy to keep this loan since we paid them like clockwork.

Unfortunately, the bank came back with a non-competitive rate which caused us to look elsewhere.We had been paying 5.25% and they quoted us 5.75% for the next five years with “minimal closing costs and no new appraisal.”I thought we could do better.

Part of my job for our team is to find the best deals for financing so I called a buddy at another bank and he quoted me 4.25% fixed for five years which was a huge difference percentage-wise.He also felt he could do the loan with a valuation, not a full-blown appraisal due to the appreciation that had occurred over the past five years in this area.

The loan was approved and the valuation was done and, sure enough, the house had gone up in value like magic.Remember when the current bank had it appraised for $102,000 five years ago?The tax card value of the property was now $160,400 and the bank valuation, based on recent comparable sales, put the value at $187,000!The original loan had an outstanding balance of just under $69,000 so that made the new Loan-To-Value 37% for the new bank.Pretty safe loan for them, don’t you think?

During this same time period, the rents also increased from $850 per month to $1,350 per month.In a strong rental market with high occupancy and rising home prices, there are opportunities to experience double digit increases in the value of the property as well as higher cash flow generated from rising rents.

Owning real estate is different than owning stocks where the price of a stock can and will change by the minute.Real property is a lot more difficult to purchase and sell so people generally hold onto properties for years (if not decades).Since rents generally move up in increments over time, the year-to-year increases are barely perceptible.Property value appreciation is something to revisit about every five years when you are in the market to check out the current interest rates available on maturing loans.

By patiently waiting and letting the market do most of the work, you can own an asset that grows in value and cash flow over time.When the loans are finally paid off and you look back over the previous twenty years, the full impact of the action taken twenty years ago can make you look like a genius.

Personally, I am not one to count my chickens before they hatch so I prefer to talk about events that have just happened and are verifiable vs. projecting what something MIGHT do over the next five to fifteen years.Those predictions are usually way off the mark and are a waste of time and energy.

However, it is a good practice to stop every five years and look back to see how far you have come in a relatively short period of time.In this instance, the property increased in value by $85,000 and the annual income went up by $6,000.To put this into perspective, each month the property increased in value (on average) by $1,433 which is crazy to think about something growing at that pace, isn’t it?

You cannot “plan” for something like this to happen.Sure, you can try to find something undervalued in a market with future growth potential and add value by providing upgrades the market will pay for.However, the market primarily dictates the growth rate of appreciation and cash flow so enjoy the ride when it is flowing in that direction.

Ultimately, the goal of owning cash flow generating rental properties is to have the house paid off and as little maintenance issues as possible so that someone is willing to send you approximately one-third of their paycheck to live in your rental house for many years. When you look back five years later, there sure is a lot to be thankful for when the investment continues to pay you back with cash flow and appreciation for as long as you hold on to the property.