Property with 1.3 million in equity. What to do with it?

Question

I recently inherited a triplex that is completely paid off. I renovated each unit and now I am looking to leverage equity to buy another income property. Any advice on what kind of properties I should be focusing on? How do I get the most out of an equity loan? Is it possible with little or no cash?

Scott Trench · Answer

I'm going to be a devil's advocate and bring up the possibility of selling the property.

This is $1.4M in straight equity you can pull out - and, (talk to your accountant), you may have inherited it with a stepped up cost basis.

I'm not a bull on the LA property market right now, so why keep it? You can likely sell the entire property, tax-free.

So, to answer the question of what to do, I'd do this:

Take out a piece of paper and envision the lifestyle you want to live. Estimate how much money you need, what assets you need to be invested in, and what kinds of returns you need from that portfolio to passively maintain that lifestyle.

Then, assuming you have your current net worth, plus $1.3M (property value less costs to sell). How would you invest in order to achieve that goal?

Design the portfolio. Maybe it looks something like this:

- $500K in equity in ~$2M in cash flowing real estate in carefully selected "hybrid markets" that offer great cash flow.

- $500K in loans/bonds - generating 6-10% interest ($30-$50K per year) in simple interest

- $300K in stocks and bonds.

If you have other assets, mentally convert them into cash and add them to the pile to get your dream portfolio.

This exercise will help you get a great framework for how to invest.

If I was starting with a blank sheet of paper and $1.3M (after closing costs) in after-tax cash, I would likely not turn around and invest it in a single LA Triplex, personally. But, if after taking out your blank sheet of paper, you conclude that you would in fact, put the money to work in this way, it will be very freeing.

This exercise may take you a few months. No harm in sitting on the property while you make your decision! There's no rush, only good options here, thanks to your Grandmother who clearly thought well ahead.

Eliott Elias · Answer

You want to leverage as much as possible, first make sure the property still cash flows after to pull the cash out. Second use the cash to close on as many properties as possible.

Stephanie P. · Answer

Actually, something the others didn't touch on is location.  If you inherited the property and it's 1.3M in DC or Maryland or California or New York, then it may be smart to sell it and deploy the proceeds in a more landlord friendly state.  The point is, make the most of this life changing windfall.

Alex Larcheveque · Answer

Repeat the process. Cash out refinance, and invest in more properties that cash flow :)With that liquidity, you can look into commercial if you want more passive investments.

Leo R. · Answer

@Garrett Ayers another consideration is: how easy is this property to manage, what's the property's current cashflow, and how does that cashflow align with your lifestyle and your goals?

For instance, if I had an A grade property that was super easy to manage, and its cashflow was enough to cover all my living expenses and provide me with a comfortable lifestyle, and my main goal was to have a ton of free time and not have to work very much, I might consider just keeping the property and not do anything that would screw up its cashflow (obviously, a cashout or HELOC debt will reduce your cashflow).

On the other hand, if my goal was to work really hard to build up a larger portfolio of additional properties, and/or if this property's cashflow wasn't nearly enough to cover my living expenses, and/or if the property was a hassle to manage, then I might consider one of the options others have mentioned (e.g.; cash-out, sell, etc.).

You said you inherited this property, which makes me assume that you've never managed a rental property before? (If that's true, then I'd suggest managing this property for 6-12 months to see how you like it before putting in all the effort to acquire more properties--there's nothing worse than buying a portfolio of properties only to discover that you hate owning and managing properties (or hate managing the PMs who are managing the properties)   :)

If you do already have PM experience, and if your goal is to work hard to acquire more properties, then you might consider whether house hacking this triplex would improve your DTI and/or your cashflow, and enable you to qualify for better financing that you could then use to acquire more properties (I don't have enough info about your circumstances to know whether this would work for you, but it's worth considering).

Based on your question, it sounds like you're not yet sure of which leverage options fit you best (this depends on your current financial circumstances and your goals--which, of course, we don't know).  So, I suggest talking with some experienced lending pros who can review your financial circumstances and your goals, and help you understand which options are available to you.

As for what types of properties to focus on, that all depends on your circumstances and your goals; different REI strategies all have their own pros and cons, so if you're not sure which strategy fits you best, I suggest studying up (e.g.; listen to podcasts, read books, review the forums, watch YouTube videos, talk to REI pros, etc., etc.).

Good luck out there!

Jonathan Taylor · Answer

@Garrett Ayers congrats, you inherited a gold mine. You can do a cash out refinance and use the rents you receive to qualify for the loan. Cash out proceeds will cover the loan costs, now you have cash to buy the next property, qualifying the same way (with the rents on the new property divided by the new debts) called DSCR loans.

You're in a great position. Well done.

Jason Wray · Answer

Garrett,

Your in the best position to be in with having a ton of equity and being able to use it to help take out some cash to buy more investment properties.  You can do a couple of things you can take out a line of credit or take out some cash through a refinance.  You also can do both so that you have access to liquid reserves sine cash is king and also have a line of credit as a back up for renovations or repairs.

When you buy multiple rental properties you mut have PITI reserves and that mustt be in liquid reserves like cash in an account or savings.  A HELOC or line of credit cannot act as a reserve or an asset for PITI reserve requirements.  Once you buy more properties you can always refinance them down the road and pay off the HELOC or replace the cash taken out of the Tri-plex.

Values are starting to drop a little in certain areas so now might be a great time to start.

John McKee · Answer

First thing to do is to calculate your return on you equity.   If your return on your equity is significant you might just want to keep that puppy or cash out refi to expand.  If the equity is underperforming say like 2% then you might consider trading it into a property via a 1031 that has a higher return on equity.

Jen Day · Answer

Hi Garrett,

Condolences on your grandmother passing, but that's great she left you with an amazing asset.  Since you are currently house hacking the property and want to continue, your idea to leverage the equity there is very smart. I would definitely heed the warning of others to be careful not to pull every cent out of it just yet, you want to make sure that the new loan you take on (with these current interest rates) is manageable and your property cashflows enough to satisfy your property & life expenses. My thought would be to pull out enough cash to put a down payment on another multifamily (keep in mind that as an investment property & not your primary residence, and a multi rather than a SFR, the lender may require 25-30% down and a certain amount of reserves). It is possible that these interest rates will continue to rise, and may take several years to go back down. You can refinance again once the rates are where you want them, and use that money for your next property. If you are planning to buy out of state, you will likely be able to buy more properties, but if you buy in LA you want to be strategic about how you allocate the funds so that you can create long term wealth for yourself and your family.

I'm an Agent & Investor in LA. I own small multifamily rental property in LA. My first property started as a 4plex house hack and turned into a rental. I definitely learned some tricks of the trade along the way, and I'm happy to share my ups and downs. I specialize in small multifamily properties on the westside cities of Los Angeles (Santa Monica to Culver City), and prices are becoming more affordable in certain areas. I'm curious to hear about your criteria and plans for your next property. Get in touch if you'd like to continue the conversation. I always make myself available for fellow BP investors!

Property with 1.3 million in equity. What to do with it?

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