Should I pay off mortgage faster or save for a new property?

Question

Hi All - I am hoping all the experienced and smart people here can guide me so will cut right to the chase - I have a property in New York City as my primary residence and I want to know if I should pay off the principal faster or keep the loan and save up for another property.

Here are the specifics:

- Bought the property in Sept 2015 in New York City for $750k

- Its a one bed and one bath in doorman building right in midtown Manhattan

- Put $150K down as down payment and the loan is at 3.5 % interest rate for 30 yrs

- HOA is $666.67 per month or $8,000 per year.

- Taxes are $8,800 per year or $733 per month

- If I were to rent it, I would get around $3,200 per month.

Question is again, Should I pay off the principal faster or keep the loan and save up for another property? Or do something else entirely.

Hopefully I am not missing anything but let me know if there is any additional info you need from me.

Thanks so much.

Here are the specifics:

- Bought the property in Sept 2015 in New York City for $750k

- Its a one bed and one bath in doorman building right in midtown Manhattan

- Put $150K down as down payment and the loan is at 3.5 % interest rate for 30 yrs

- HOA is $666.67 per month or $8,000 per year.

- Taxes are $8,800 per year or $733 per month

- If I were to rent it, I would get around $3,200 per month.

Question is again, Should I pay off the principal faster or keep the loan and save up for another property? Or do something else entirely.

Hopefully I am not missing anything but let me know if there is any additional info you need from me.

Thanks so much.

Joe Splitrock · Answer

@Vidit Saxena

Based on the rent value of $3200 per month, I am don't think buying this property was a good idea. You are paying $1400 a month in fixed expenses between just the HOA and taxes, so even if you pay the property off, it is costing you $1400 per month! With mortgage, this property is probably costing you over $4100 per month and you could rent it for $3200. You are losing $900 a month, so over the last three years you have lost $32,400 plus the original $150,000 that you have tied up. That is $182,400 that could have been invested. At 20% down payment you could acquire $912,000 worth of investment property! At your added savings rate of $900 additional per month plus cash flow from the investment, you could add one property per year easily.

My advice is to sell the property. Hopefully it has appreciated, so you can cover the sales expenses.

Todd Powell · Answer

@Vidit Saxena With such a low interest rate, can you find a deal that will make you more than 3.5%? if so, I would not bother paying this down, but it really depends on your market and what prices are doing. That's a killer interest rate in the market!

Matt Nusbaum · Answer

@Vidit Saxena Amazing rate! I'd ask you how risk averse of an investor are you? If you want to hit your investing goals faster I'd say pay the minimum and then save for the next property. That said, if you'd like knowing your place is 100% paid off then tackle the mortgage. Just remember equity does not put food on the table every month. Cashflow is king!

Vidit S. · Answer

Thanks @Ray Johnson and @Joe Splitrock. This is priceless advice and exactly what I was looking for. One thing is clear - I am not paying extra towards principle and will look to invest the extra towards other rentals and stocks. It is class B+ investment right in midtown so I have some thinking to do or research if I should rent it knowing its a horrible rental property but the appreciation might offset it when I sell it one day or if I should just sell it when I move out to a new residence and never convert it into a rental.

Thank you so much.

Ray Johnson · Answer

@Vidit Saxena like yourself I was able to get some great rates in 2015 3.52% and 2016 3.45%, and one of them was for new construction. I'm sure your bank is harassing you like they are with me with bi-weekly phone calls, and emails offering cash-out refi's and HELOC's to try to make money off your once in a lifetime low mortgage rate. I'll tell you what I told the last person from the bank that called me, "I have a mortgage with a 3.45% rate, I'm riding this mortgage out until it ends, I'll never get money this cheap again", the operator on the literally replied back saying "yeah, that true, you're smart, most people to go that route".

Do not pay additional principal on money this cheap, the banks have more money than you do, there's no need to help them out making more money.

I would look at this scenario this way, It looks like you will break even on your $150,000 down payment plus closing cost sometime in year 4 of living in this property based on what it would have cost you to rent in the same area. With that in mind, if you were to move out of the property after year 5 into a new primary residence, the thought is you basically pre-paid your rent for 5 years, now you have to decide if you're willing to eat the $1,000 loss every month (difference between $3,200 rent cost, and $4,200 mortgage cost) granted there is an expense recapture on the taxes and interest that can minimize the pain.

It's NYC so rents may continue to rise to reduce that monthly loss to less than $1,000 and your equity will definitely increase in NYC so you'll end up with a paper gain and a bank account loss until you sell the property one day and are able to realize the total gain, that's how this would look if you used an IRR template to include your exit strategy.

You mentioned a doorman in the building, Is this a Class A property or B+? If so, I'd keep it and slowly pay down the mortgage, Class A or B+ in NYC has way more value than the little bit of cash flow or loss you'll have on this deal. Add a few more properties to your portfolio to cover the temporary loss on this asset.

Joe Splitrock · Answer

Option 1: Why would you pay off a 3.5% loan? Best loan you will get today is 5%. You would even be better to put your cash in a dividend stock and get over 6% return.

Option 2: This property is a horrible rental investment. Let's do the math on your return. You pay $750,000 and in return you charge $3200 per month, minus $1400 expenses is $1800 per month. Over 12 months you get $21,600 worth of rents. That is an annualized return of 2.88% on your $750,000 investment. I can go to Discover Bank and get over 3% return in with their high yield CD's. Higher return, more secure and less work.

Option 3: I wouldn't pay down any principal. I would take the extra money and invest it either in rental properties or in the stock market. There is lots of options for higher return than 3.5% rate you have on your loan.

I know people like to give the advice that you are throwing money away renting, but that isn't always the case. In some markets, it costs less to rent than to buy and the extra cash can be invested. That is really our situation here. The $150,000 down payment could be put into income producing properties. So instead of paying $4200 every month, you pay $3200 and get income from rentals of over $1500. So now compare the two:

Owning:

-$4200 every month

Renting plus buying rental property:

-$3200 + $1500 = $1700 monthly expense

Extra cash every month =$2500, extra cash per year =$30,000

You can see in these examples by renting instead of buying an overpriced NY apartment, you can save an extra $30,000 per year which can be invested in more rental property.

If you are stuck on keeping the apartment, at least don't pay down the principal. That 3.5% loan is cheap money, so keep the mortgage and save for rental properties.

Vidit S. · Answer

Thanks for you response @Joe Splitrock. I am using this property as primary residence so that is the main value add for me. If I rented in New York City, I would be paying ~ 3,200 for a similar one bed and all of that would go into a black hole. Right now my payment is 4,200 for this one bed minus 1400 (taxes + HOA), 2,800 goes to principal + interest.

My goal is to move out of this place and go to a bigger place in couple years so I am thinking couple of options

Option 1 - I keep using this property as my primary residence and pay off the entire principle in next 4 or 5 years and then sell this property to finance my future primary residence.

Option 2 - I pay off the principle enough and then move out and rent this property out. I should pay have paid the principle enough that I am at least breaking even (preferrably cash flow)and the rent is covering PITI + HOA. Now return on equity on that case is not high at all but I would just bet on appreciation here.

Option 3 - I don't pay off my principal and keep making minimum payments and save for another property on the side and when I have enough for a downpayment(30% at least) on a new property, I move out of this one and keep paying the rest on this property after whatever rent has covered.

What option would you pick here if any? Or do you still suggest I sell this one and try and find another residence, which is super hard in Manhattan.

Thomas S. · Answer

As a investor do you think you can do better than a 3.5% return. If your priority is to pay off your property you are not a investor.

Also I would highly recommend you do not rent out the unit, as a rental it stinks. The rent to value is far too low. It is only a faith investment, nothing more.

Randi Plevy · Answer

You are not likely to get an interest rate that low again.  Build up your equity in the primary while you shop for a great investment.  Good luck!

Should I pay off mortgage faster or save for a new property?

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