Pay in Full or Just 20% Down?

21 Replies

Hi All, 

I have a lump sum of money and am not sure if it's smarter to use it all to buy one rental property out right, or if I should buy a few properties by going through a bank and just putting 20% down. 

Which approach have you guys taken and why? Do you wish you did it a different way?

Thanks!

Melissa 

My 2 cents is:  Don't use up all your cash on one property.  If you can buy a property with a 20% down payment and qualify for a loan with a good interest rate, why not?  Once the property is rented, the renter should be paying your mortgage and other expenses and hopefully paying you a little bit each month too.  

After a time, if you like being a RE investor who owns rental property, you can buy more.  If you don't like it - you may hate having to deal with tenants - you only have to unload the one and all your cash won't be tied up in that one property until you do.  

Good luck

I know how you feel Melissa and I agree with Karen. My wife and I have been renting her former home for the past 10 yrs. I hated it in the beginning even though I always had a passion for REI. But she would not let it go. Over the years we have dealt with late payments, tenants breaking leases, damage and theft but feel confident that we have refined our processes and know our market.

 We are currently looking for additional rentals and I am convinced we should do nothing but multi-family.  

The safety of buying one property with a low monthly payment is ideal for the first-time, hesitant investor (my brain tells me) but I constantly come across BP members who went big with their first deal and were successful.  I'll keep an eye on this post.  As a newbie with 10yrs experience the one piece of advise I hear on BP regularly is to just act.  

Good luck  

New(ish) myself on this site/REI but I really like the idea of the BRRR strategy, seems like there are many successful investors here that are using this to rehab and pull their money back out to really stretch their dollars into as many properties as possible but I definitely agree that all your eggs in one basket won't be the way to go and have the ability to grow your portfolio.

@Account Closed

I'll give you my advice on leverage. I used to be on the bandwagon of pay off the mortgage early (or large downpayment). But I've rethunk it!

When interest rates were 8 to 12% APR 30 yrs ago, it wasn't such a sacrifice to accelerate mortgage payoff instead of an 8 to 10% expectation elsewhere in stock market, mutual funds. It felt safe to not be in debt, even if it was a slightly conservative yield on my money (and tax effects to boot). Now, I'm trying for 10 to 20% IRR on my real estate investments. Why would I put excess share of my precious capital in a mortgage to save 4% APR, when I could buy another rental and earn way more?

There is a continuum of perspectives on this. On the conservative end, I know of a widow in Denver that put her life savings into buying a $250k duplex for cash. She's thrilled that she has no mortgage payment and the entire rent (less expenses) is her net cash flow. She has benefited in Denver appreciating nearly 10%/yr for the last 8 years or so. So, her duplex may be worth $400k now.

However, a different REI could have taken that same $250k cash, and used it to put 25% down payments on 4 such properties. In our appreciating market, this person has $250k equity in $1 million of property. (75% loans/leverage). They could gain appreciation of value to 4x $400k each....now owning $1.6 million of property. Four tenants are also paying off 4 mortgages over the next 30 years. (granted, in the early days, the monthly cash flow is way less, due to 4 mortgage payments. So, you see, this investor is growing wealth faster with the leverage.

Have you read about the BRRRR strategy, that allows you even more leverage? What if a third investor took the same $250k cash, and used it to put 25% down on 4 duplexes that needed renovations....they can be bought and renovated for $250k, but they're really worth $350k ARV. (A fix/hold strategy of trying to buy at 70% of ARV). Because they did the rehab work, and gained $100k per property in the rehab stage, they own $1 million in property (at cost) that appraises for $1.4 million (or $350k each). Then, perhaps after 6 months "seasoning", this investor refinances all 4 properties to 4 new 75% LTV mortgages and get's to have a $262k mortgage on each. It more than pays for $250k each costs....so this investor extracts his original $250k, able to "repeat" and buy four more in the next year....and could actually have $50k extra profit in his pocket. If this is repeated in year 2, 3 and 4....after 4 years, the BRRR investor could have 16 rental duplexes, control $5.6 million in real estate, and have their original $250k back in their pocket. 32 tenants are paying off the mortgages. If 10% appreciation continued....it could be $560k extra equity per year.

Of course, admittedly, nice appreciation on the large portfolio works both ways....you could be subject to losing 10% of the larger portfolio if there was a down turn in your market or nationwide. And other BP investors would caution against having maximum leverage. Many BP investors love to have their rentals paid off early. But, the 75% leverage grows your wealth faster. The BRRRR is the fastest path to wealth.

Originally posted by @Account Closed :

Hi All, 

I have a lump sum of money and am not sure if it's smarter to use it all to buy one rental property out right, or if I should buy a few properties by going through a bank and just putting 20% down. 

Which approach have you guys taken and why? Do you wish you did it a different way?

Thanks!

Melissa 

 The question for the ages! There are pros and cons to both. It is just up to what you are looking for. If you are hoping to buy multiple, or maybe flip you may want to do only 20%. If you are buying and holding and doing no work, maybe outright. Again, though, it all depends on what your strategy is!

Good luck!

@Account Closed , you will need to flesh out your goals a bit more before a good answer can be given.  Are you looking to become a real estate mogul with dozens or hundreds of doors?  Are you just looking for some additional cashflow from a small number of rentals to supplement your income, or make this a real, scalable business?  Are you comfortable with any debt?  A lot of debt?  Is your target area prone to extreme market swings, or more stable?

Buy cash for stronger offer, do delayed financing to get your money back out. If you buy correctly you should get good amount since you can refi based on appraisal. Eventually you run out of $ or your DTI is too high and you should still have good chunk of $ or equity at the end.

@Account Closed I am 45 and just getting started so I am all for the delayed financing. Of course the numbers have to make sense. Thats the route I am taking. All the best to you.

Jorge

Originally posted by @Account Closed :

Hi All, 

I have a lump sum of money and am not sure if it's smarter to use it all to buy one rental property out right, or if I should buy a few properties by going through a bank and just putting 20% down. 

Which approach have you guys taken and why? Do you wish you did it a different way?

Thanks!

Melissa 

 Others mentioned delayed financing, that's the way to go IMO.

- Cash buyer gets her pick of the litter of homes.

- Cash buyer gets a discount on the sticker price.

And then you slap a mortgage on it a month later, to get all the leverage and other goodies that folks are talking about too. Best of both worlds.

Here is a delayed financing checklist for you. Better yet, get the delayed financing preapproved before you even close on the cash purchase, that way if something will hang it up you have advanced notice and aren't "accidentally" stuck with all your capital tied up.

If we use leverage we like to stick to the 50% rule.

Thank you all for your responses! 

Hi Melissa, 

What are your objectives and strategy? few long term rentals? BRRR ? rehabs? multi units?

Steve gave us a detailed explanation of the pros of leveraging your money in a market with a solid  appreciation every year like the triangle market. 

20% will give you control of the property and you can buy more properties, if you are ok with some debt in the long run then go for the 20% downpayment, of course you have to run the numbers to see if it's a good deal. Buying all cash will give you a deeper discount at purchase and then you can do "delayed financing" with the ARV specially if you do some repairs to the property.

You have several options at your disposal. Let me know how it goes in this market or how can I be of service to you!

Best regards:

Juan.

@Juan Moreno Thanks for responding! I'm only a few weeks in on researching this crazy idea, so I can't answer your questions just yet! I'm here to learn as much as possible though, so I'm taking in all the comments but don't plan to act until my homework has really been done. 

It really depends on your risk tolerance. I think with the current market cycle, it’s important to remember where we are. The economy is at all time highs, propped up by unsustainable money creation from the FED. Eventually it has to come to an end. That will likely have a huge impact on real estate prices. Rent will also fluctuate, but maybe less.

If you were to take on leverage, your main risk is vacancy increases and/or rent decreases. Depending on the deal you get and the financing terms, a decrease of rent and or vacancy increase could take a property from positive cash flow to negative cash flow in a hurry. The nice thing about owning outright is that you don’t have to worry about those swings as much. You will cover expenses and will be able to ride out the storm. If it’s leveraged, you may have to sell at a bad time or be foreclosed on.

Depending on your risk tolerance, it may be wise to put half into a property you own outright and half into a leveraged property.

Originally posted by @Jorge Ruiz :

@Ian Walsh  

Please explain...

All the best...

Jorge

By saying "If we use leverage we like to stick to the 50% rule", I take it that Ian wants his cash to go twice the distance of, for example, using all of it to buy one property, by instead, buying two equivalent properties, with 50% borrowing against each. (Whereas a "75% leverage" approach would be: four equivalent properties bought, with the same cash).

[Not to be confused with the other "50% Rule" regarding expenses as a %/m of rent return].

Originally posted by @Steve K. :

@Account Closed

I'll give you my advice on leverage. I used to be on the bandwagon of pay off the mortgage early (or large downpayment). But I've rethunk it!

When interest rates were 8 to 12% APR 30 yrs ago, it wasn't such a sacrifice to accelerate mortgage payoff instead of an 8 to 10% expectation elsewhere in stock market, mutual funds. It felt safe to not be in debt, even if it was a slightly conservative yield on my money (and tax effects to boot). Now, I'm trying for 10 to 20% IRR on my real estate investments. Why would I put excess share of my precious capital in a mortgage to save 4% APR, when I could buy another rental and earn way more?

There is a continuum of perspectives on this. On the conservative end, I know of a widow in Denver that put her life savings into buying a $250k duplex for cash. She's thrilled that she has no mortgage payment and the entire rent (less expenses) is her net cash flow. She has benefited in Denver appreciating nearly 10%/yr for the last 8 years or so. So, her duplex may be worth $400k now.

However, a different REI could have taken that same $250k cash, and used it to put 25% down payments on 4 such properties. In our appreciating market, this person has $250k equity in $1 million of property. (75% loans/leverage). They could gain appreciation of value to 4x $400k each....now owning $1.6 million of property. Four tenants are also paying off 4 mortgages over the next 30 years. (granted, in the early days, the monthly cash flow is way less, due to 4 mortgage payments. So, you see, this investor is growing wealth faster with the leverage.

Have you read about the BRRRR strategy, that allows you even more leverage? What if a third investor took the same $250k cash, and used it to put 25% down on 4 duplexes that needed renovations....they can be bought and renovated for $250k, but they're really worth $350k ARV. (A fix/hold strategy of trying to buy at 70% of ARV). Because they did the rehab work, and gained $100k per property in the rehab stage, they own $1 million in property (at cost) that appraises for $1.4 million (or $350k each). Then, perhaps after 6 months "seasoning", this investor refinances all 4 properties to 4 new 75% LTV mortgages and get's to have a $262k mortgage on each. It more than pays for $250k each costs....so this investor extracts his original $250k, able to "repeat" and buy four more in the next year....and could actually have $50k extra profit in his pocket. If this is repeated in year 2, 3 and 4....after 4 years, the BRRR investor could have 16 rental duplexes, control $5.6 million in real estate, and have their original $250k back in their pocket. 32 tenants are paying off the mortgages. If 10% appreciation continued....it could be $560k extra equity per year.

Of course, admittedly, nice appreciation on the large portfolio works both ways....you could be subject to losing 10% of the larger portfolio if there was a down turn in your market or nationwide. And other BP investors would caution against having maximum leverage. Many BP investors love to have their rentals paid off early. But, the 75% leverage grows your wealth faster. The BRRRR is the fastest path to wealth.

 Great post!  Thank you for this.  It helped me confirm my decision.

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