How much to leverage when refinancing ?

Question

I hope I posted this to the right forum?!?! I purchased a duplex for $165k several years ago and owe 136k on it. I current collect $2050 in total rents. I cash flow around $800. The property is valued at around 300k. I’m able to pull out $225k, which in turn lowers the cash flow to roughly $250. Should I do this or leave more equity in the property? This is a first for me fully leveraging a property and lowering cash flow that much. I will be using the money for additional properties. End goal = quit the 9-5 and live on cash flow.

Any direction is greatly appreciated. Thanks in advance!!

Account Closed · Answer

Generally, when interest rates are very, very low as they are right now (I got into the game when rates were 8% and had come down from 18%) you want as much fixed rate leverage as you can tolerate IF the properties are cash flowing. Over time rates are going to go up and it will be much harder to cash flow with high interest rates. It's all in the numbers. I don't know the Buffalo market, so I am not aware of where rents are. But, if you can get a couple of hundred dollars a month positive cash flow AFTER considering principal, taxes, insurance, vacancy, repairs and Reserves then you have a pretty safe investment.Most people ignore repair costs and that is a big mistake. Some money needs to be set aside evey month to fix things.

Ryan C. · Answer

@Joshua Janus thank you!!!!

Joshua Janus · Answer

If you can find a property to allocate that 225k to (after taxes) that can produce a cash flow greater than or equal to your loss, than that would be a great move! You end up mitigating your risk a bit as you will now have more doors and be less exposed to vacancy.

If your goal is to quit your w2 or day job, this is what you need to do! Buy property with the potential for value add or rent raise then increase the performance of the property, wait for it to rise in value and pull your cash out, then repeat! Good work.

Jeffrey Albaum · Answer

Hi @Ryan C. first off - congratulations on your increased property value! From your numbers, it seems like although you'll be able to pull out 225k, you'll still need to pay off the first mortgage of 136k, leaving you with a net "take home" of 89k before transaction costs. If you can use this 89k to purchase another property that also provides cash flow then you should definitely do this!

Another interesting metric to use is the "Return on Equity" calculation. Everyone knows how to calculate your Return on Investment (total annual cash flow/total cash invested in the deal) - but when you change the denominator in that equation to be "total equity in the deal" it provides a different metric that can help you determine if you should refi or not. When your "Return on Equity" becomes low, it might be time to re deploy those funds through a refi. to increase your ROE. Hope this is helpful!

Nate Sanow · Answer

I’d keep it in my back pocket in case a good deal comes along, but I wouldn’t be in a rush. If the deal also has cash flow, then owning 2 deals with cash flow is better than one. Odds are rents go up and you can recoup cash flow.

Ian Walsh · Answer

It depends on end goals, current resources, needs etc.  I have found that low leverage tends to be the safest for most investors during a rainy day.

Ryan C. · Answer

@Tim Delaney thank you. Orchard park by the stadium. The neighborhood has been good to us with are rentals. You are absolutely right about the rents being higher. They should be 1200 a piece. Now is the hard part, raising rents that high for people that have been there for 4 plus years!! I have always raised them 4-5% yearly but as you know, this pandemic has driven rents through the roof.

Tim Delaney · Answer

@Ryan C. My first instinct is that if your double is worth $300k it is probably in North Buffalo or West Side near Elmwood Village. If that is the case your rents could probably go up and that $250 becomes $450-650 pretty quick.

Rent increases aside, as someone else pointed out with rates this historically low it is a good time to lock in as much fixed rate debt as you can. The bank may end up adjusting the amount they are willing to give you anyway once they look closer at your cash flow (if you are doing conventional loan they may also factor in your DTI and discount the rent). Use that cash you pull out to purchase another property with even better cash flow while leaving a small reserve fund for problems at either property.

How much to leverage when refinancing ?

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