To pay or not to pay off your primary residence

James H. · 2012-07-06T07:03:06-07:00

This discussion was cropping up in another thread about a different topic, and I wanted to hear more feedback from other members about what they prefer. As a primer, I am going quote @Rich Weese contributed as I find it was very interesting - hope you don't mind Rich. " Brian and Jon H- Here is my contrarian view to owning your OWN residence free and clear and why I don't do it. I like my contrarian view for the following reasons . I DO agree you should have A house free and clear. 1. I have at least a home free and clear. 2. I am able to obtain a better loan on OWNER OCCUPIED home. 2. I do have a sense of security with F&C home- and it doesn't have to be the residence. 3. I live in a nicer home, higher LTV, lower rate, etc and still have a F&C home if everything goes to pot. 4. If everything only goes PARTIALLY to pot, the lender probably won't want my highly leveraged home I live in. We all know people who are under water for over 3 years and lender hasn't taken the home. 5. I get interest deductions on my residence, which I wouldn't if it was F&C. 6. I still have the sense of security with other F&C home. 7. I have more $ to invest elsewhere because F&C home is not as expensive and only there for severe emergency. 8. The extra $$ to invest makes me more $$, more writeoff etc-which I wouldn't otherwise have. Just a contrarian view for BP members to digest. Rich"

Ryan M.

West, MI · Member since 2012 · 674 posts · 182 votes

14y

This is my opinion or my 0.02 cents......i'm going to say this everytime, lol. I figured this was always implied but yesterday I found out its gospel.

#5 - your getting a tax deduction on the interest.
Instead, mail me 9k/year and at tax time I will mail 1.5k back. That is what's happening.

The point of being f&c on everything is it takes the stress off. And you start to develop a lot of this thing called money. This then snowballs to where bringing a cashiers check to closing on 150k prop is possible. Sure you start paying tax on rental income because your actually making money.

4 Reply

Account Closed

Investor · Central Valley, CA · Member since 2012 · 6k+ posts · 3k+ votes

14y

Originally posted by Brian Hoyt:

5. I get interest deductions on my residence, which I wouldn't if it was F&C.

Paying interest in order to deduct it. Is this contrarian? Or just goofy? That's like encouraging manufacturers to make bigger and bulkier packaging so that we can say we are recycling more.

Leverage has power, no doubt about it. But it costs money, whether it's deductible or not. The reason to use it is not so you can deduct it, but so you can increase holdings and cash flow and profit. Tax deduction thinking is for suckers. :)

1 Reply

J ScottPro Member

Moderator

Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes

14y

Originally posted by K. Marie Poe:

Originally posted by Brian Hoyt:

5. I get interest deductions on my residence, which I wouldn't if it was F&C.

Paying interest in order to deduct it. Is this contrarian? Or just goofy? That's like encouraging manufacturers to make bigger and bulkier packaging so that we can say we are recycling more.

K Marie -

I'm not sure that's the right analogy to use (the recycling analogy).

I prefer the analogy of, "It's like buying toilet paper for $5.00 because you have a $.50 off coupon for the toilet paper."

Sure, it sounds stupid on the face of things to spend $5.00 just to save $.50 (just like a tax deduction on mortgage interest). But, when you consider that the $.50 coupon is just one small part of the value I get from spending that money -- I also get stuff I can use to wipe my butt! -- that $.50 is a great bonus... :)

It's the same thing with the mortgage interest deduction. Yes, it would be nuts to have a mortgage just for the benefit of deducting the interest, but there are other -- better -- reasons to have a mortgage. The biggest one is access to cheap capital -- if I can borrow money against my primary residence at 3.75% (and I did) and can generate 40% returns on that capital (I do), it would be a bad financial decision not to do it.

Just like coupons for toilet paper, the real value isn't in the savings -- the toilet paper has a value independent of the coupon...the savings from the coupon is just a bonus.

Like I said in the other thread, I can argue plenty of reason why owning a F&C primary residence would be good for some people, but for me personally, borrowing at sub-4% is a much better decision. And the gravy that is the interest deduction is nice as well...

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5 Reply

Brian LevredgePro Member

Investor · Chattanooga, TN · Member since 2009 · 1k+ posts · 903 votes

14y

Clearly, there is no right or wrong answer here. To lever or not really depends on the individual's appetite for risk, investment goals, and where they are in life, among other things. I personally tend to agree with Rich for the most part. You can't do very much with all that equity tied up in your primary residence until you sell. If you can get 30 year money at 3% (and change) on your primary I think it would be insane not to take advantage of it.

5 Reply

Account Closed

Homeowner · Saint George, UT · Member since 2011 · 19 posts · 25 votes

14y

It looks like Ryan M. and K. Marie Poe missed Rich's other points.

He wants to leverage money against his property to free up cash, which he will use for other investments (point #8). He has two choices: leverage again his primary residence or leverage against one of his rental properties.

If he leverages against his primary residence, he gets a lower interest rate, plus he gets the interest deduction. As Ryan M. said, this is the situation where you "mail me 9k/year and at tax time I will mail 1.5k back."

If he leverages against one of his rental properties, he pays a higher interest rate, plus he doesn't get the interest deduction. In this case it would be "mail me 10k/year and at tax time I will mail you $0 back."

So, do you want $1.5k back or $0 back at tax time?

Normally I agree with ignoring the interest deduction since it is spending a dollar to save a quarter. But, in the example from Rich Weese, I certainly understand why he chose to leverage his primary residence instead of a rental property. Cheaper money to leverage, resulting in higher returns on his other investments. That doesn't sound "goofy" to me.

5 Reply

Rich Weese

Real Estate Investor · the villages, FL · Member since 2008 · 5k+ posts · 3k+ votes

14y

K Marie- I'm happy to be a sucker then! You're only taking a look at the one item #5. That is like a snapshot as compared to a video of the same scene. I can prove almost every time that taking the deduction AND using the extra cash to invest in other things will make me more in the long run. Sorry, I've been doing this for 40 years and it works just fine. Your argument about recycling was silly, imo. The manufacturer doesn't make EXTRA money by doing what you suggested. I do. I have secondary money maker, which I wouldn't have if all the equity was plowed into your residence. Peace of mind-maybe, but like COLLEGE, not necessarily the best investment strategy any more.

Ryan- most of my stuff is F&C so I have no stress. I also have tons of writeoff which makes tax season less of a dtriment. This program seems to work extremely well, so I don't think I'll change.
There are now 3 other posts while I was writing my reply. I stand by mine, but I also understand there are differing steps to get to this point and having a F&C home is nice(doesn't HAVE to be where you live!)but not a great investment for many.

Just Rich.

4 Reply

Ryan M.

West, MI · Member since 2012 · 674 posts · 182 votes

14y

100% of shorts and foreclosures have 1 thing in common....

You can call these properties yours and even put your name on them but whoever holds the note owns it and you better believe they will come get it.

The good word says the borrower is slave to the lender and I take that serious.

Crap....I forgot to include my disclaimer at the beginning, lol

0 Reply

J ScottPro Member

Moderator

Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes

14y

Originally posted by Ryan M.:

#5 - your getting a tax deduction on the interest.
Instead, mail me 9k/year and at tax time I will mail 1.5k back. That is what's happening.

Ryan -

That's actually NOT what's happening...

I will gladly mail you $9K/year in return for you mailing me back $1.5K/year. But, to make this a realistic comparison, you'll also have to hand me about $150K at the beginning of the agreement (and I'll let you secure a house or two that I own outright). That's what's really happening...

Are you willing to do that? If not, clearly my side of deal has more merit than you want to admit... ;-)

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2 Reply

Rich Weese

Real Estate Investor · the villages, FL · Member since 2008 · 5k+ posts · 3k+ votes

14y

Brian- I forgot to mention-you're ok reproducing anything I write. I stand by it, so feel free to share. This has the possibility of being a fun thread if it doesn't turn ugly. Speaking of ugly-today isn't. In Yellowstone waiting for kids and grand kids to arrive for reunion.This is TRULY what passive income is all about! REALLY Rich-(because of 6 kids and soon to be 12 grand kids!)

6 Reply

Account Closed

Houston, TX · Member since 2011 · 37 posts · 10 votes

14y

JScott and Rich said it best. We are building a new house and I was about to pay cash for half and finance the rest. When I started working on the deals I had on the table and thinking about how I could use that money to finance those deals to fetch returns in excess of 35%-40%, it was a no-brainer to just finance as much as possible. Why would I park all my money on my primary residence and then borrow money at 12% (instead of 3.75%) from a private lender to finance my projects? Of course, it would make sense if a person is not an active RE investor i.e. they do not have other deals they are looking into or just have so much money that he/she does not know what to do with it.

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James H.

OP

Investor · Fort Worth, TX · Member since 2011 · 1k+ posts · 450 votes

14y

Originally posted by Ryan M.:

The good word says the borrower is slave to the lender and I take that serious.

I think this is true in regards to borrowing in such a way that you are truly dependent upon borrowing money.

I also kind of work under the assumption that to control much real estate, I will have to take out debt to do it. I believe this is true for pretty much any investor unless they inherit money, assets or property - at least unitl they are in the last stretch of their investment career.

So, if I own a rental and a primary, my choice of what to owe money on would be the personal residence. This is pretty much based on the fact that dollar for dollar I will spend less having lower interest rates on the OO property than the NOO.

Does that make me any more of a slave than if I swapped the debt obligation on the two properties? I'm not challenging you, just waniting more feedbback.

0 Reply

Ryan M.

West, MI · Member since 2012 · 674 posts · 182 votes

14y

I'm just happy we have a forum to argue in good nature on different ways to do things. If I had a 9 to 5 I wouldn't be able to. I enjoy hearing how other people do it. Its all good.

0 Reply

Account Closed

Houston, TX · Member since 2011 · 37 posts · 10 votes

14y

Also, this topic has two perspectives when it comes to the response: one is based purely on math/economics and the other is psychological. Of course, leveraging your primary residence is the better option purely from a financial standpoint. Psychologically though, owning it F&C might be worth much more for some - so I don't think we will ever have general consensus on this topic.

1 Reply

Rich Weese

Real Estate Investor · the villages, FL · Member since 2008 · 5k+ posts · 3k+ votes

14y

Brian- sounds like you've come over to the DARK side on this. Welcome aboard. I used to present charts in seminars showing the difference in F&C residence or investing in other property. It was no contest. Remember, I'm a very proud Mormon and our religion PREACHES having your home F&C. Needless to say, I'm the dark side on this one- but I'm ok. The church gets LOTS of tithing from me, since I make more this way, tic. Rich

0 Reply

Daniel Fisher

Real Estate investor · Atglen, PA · Member since 2011 · 90 posts · 21 votes

14y

[/b]Originally posted by Travis Haigler[b]
If he leverages against his primary residence, he gets a lower interest rate, plus he gets the interest deduction.
If I use equity in an investment property (cash out), isn't the interest expense a cost of doing business, therefore deductible as such?

1 Reply

Daniel Fisher

Real Estate investor · Atglen, PA · Member since 2011 · 90 posts · 21 votes

14y

Hmmm? That doesn't look right. Gotta learn the posting ropes!

0 Reply

Ryan M.

West, MI · Member since 2012 · 674 posts · 182 votes

14y

I'm negotiations on a 104 unit currently, certainly I will have to do some internal financing to make this work. If I was mortgaged to the hilt this wouldn't be a option as I hate partnerships.

To each there own but financing everything is a deck of cards some get lucky but if nobody saw what did/is happening, some don't.

0 Reply

Rich Weese

Real Estate Investor · the villages, FL · Member since 2008 · 5k+ posts · 3k+ votes

14y

Ryan- not sure what you were trying to say in your last post. These replies were NEVER saying have everything mortgaged to the hilt. It was a simple question between living in a nice home F&C or mortgaged and using the extra funds to invest somewhere else, in my case. I assure you that I, for one) am not mortgaged to the hilt and have adaquate F&C properties, so I sleep well at night.

Brian- when I first got started in RE, my wise broker said my goal should be to get 1 million dollars in debt. His reasoning was that if I could find some sucker (K Maries'description of me) to loan me a million and IF I could afford to make the payments on the properties and IF I could make 5% on my money, I'd make 50K a year (which was more than the average priced home at the time). With higher inflation, I was making 10% or more on many millions. Worked out well, I guess...
Rich

0 Reply

Ryan M.

West, MI · Member since 2012 · 674 posts · 182 votes

14y

Just a generalizations no implications,

Its friday and its 102 here, we don't need anymore heat.

0 Reply

Will BarnardPro Member

Moderator

Developer · Santa Clarita, CA · Member since 2008 · 15k+ posts · 10k+ votes

14y

#5 - your getting a tax deduction on the interest.

Instead, mail me 9k/year and at tax time I will mail 1.5k back. That is what's happening.

As others stated, this is NOT the full story. It is not about the tax deduction alone, that is a side benefit to the ability to raise capital from the walls of your home (which, when it sits there, earns you a 0% return!) and invest it in an asset that produces returns above the cost of the loan (this is called arbitrage).

Like Jason stated, if I mail you $9k per year and you return $1.5K back to me, you also have to realize that you sent me $100k+ that I used to buy a note that gave me $15k a year in income, I used that $15k to pay you your $9k, kept the arbitrage of $6k, and got a bonus at the end of the year of the $1.5k you sent back to me. I will take that side over yours all day long and twice on Sunday!!!!

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5 Reply

Kyle J.

Rental Property Investor · Northern, CA · Member since 2012 · 5k+ posts · 5k+ votes

14y

Originally posted by Travis Haigler:

It looks like Ryan M. and K. Marie Poe missed Rich's other points.

He wants to leverage money against his property to free up cash, which he will use for other investments (point #8). He has two choices: leverage again his primary residence or leverage against one of his rental properties.

If he leverages against his primary residence, he gets a lower interest rate, plus he gets the interest deduction. As Ryan M. said, this is the situation where you "mail me 9k/year and at tax time I will mail 1.5k back."

If he leverages against one of his rental properties, he pays a higher interest rate, plus he doesn't get the interest deduction. In this case it would be "mail me 10k/year and at tax time I will mail you $0 back."

So, do you want $1.5k back or $0 back at tax time?

Your point about not being able to deduct the interest on a rental property is not correct. That IS deductible. I believe this is also what Daniel Fisher was questioning you on in his post.

1 Reply

Ryan M.

West, MI · Member since 2012 · 674 posts · 182 votes

14y

Ok:

We target 15% on rentals so I would be lend at that rate. Wait this will have fewer complications so I could reduce it to 13%, but crap if you go under I have to come after the money so I need a premium, 17%.

I forgot my disclaimer again at the beginning.

All typos compliments of android

0 Reply

J ScottPro Member

Moderator

Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes

14y

Originally posted by Ryan M.:

To each there own but financing everything is a deck of cards some get lucky but if nobody saw what did/is happening, some don't.

Ryan -

It appears to me that you have a very narrow view of the financial situations of investors. You seem to think that they either: 1. Don't have any money and have to finance everything; or 2. Have lots of cash and don't finance anything.

There are a lot of investors (especially the good ones), who don't fit into either of the above categories. They finance everything (or lots of stuff) and *also* have lots of cash (or other secure, liquid investments) to mitigate a good bit of downside. I'm guessing that several of the investors on this thread are in this situation, as am I.

I keep a mortgage on my primary residence (and on some of my investment properties as well), but if push came to shove, I have the cash (and other liquid investments) and could pay off every debt and never have to be concerned with foreclosure or having to do short sales.

Of course, if the world came crashing down, and all of my diversified investments went down the tubes all at the same time, I may not be able to pay all my debts...but that's within my personal risk threshold -- I'm willing to accept the risk that I lose everything if the whole world comes crashing down.

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3 Reply

James H.

OP

Investor · Fort Worth, TX · Member since 2011 · 1k+ posts · 450 votes

14y

J Scott and Rich Weese, I pulled this conversation over here to get some feedback from you guys:

Originally posted by J Scott:

Originally posted by Rich Weese:

JScott- what about my thoughts on 100% above?

I completely agree with you that from a financial perspective, that is often the correct thing to do (and since I like to look at things in black and white, I'm not afraid to admit that you're right and I'm wrong!)...I gave a vote on your post the minute I read it!

That said, as someone mentioned in the other thread, there is also a psychological component, and it's sometimes correct to go with the suboptimal financial solution in order to appease the psyche...

In other words, you're absolutely correct that 100% leveraged is financially better than 70%, though I sleep better knowing I have over $100K equity in my primary residence, and that I'm unlikely to ever be underwater on it... :)

I'm glad you and Rich discussed the 100% vs 70%. The reason is because I will be able to use a VA loan to buy my next house. The advantage being no DP and no PMI (expect for a point or two up fron - but not ongoing). Meaing 100% leveraged at good terms.

Since DTI will constrain me for a few years after this purchase (whether I purcahse at 100 or 70 percent LTV), my plan is to by the most house I can afford (responsiblly of course). If I wait to get "the big one" for myself, I think in 4 or 5 years, I'll end up with the same house only at a higher purchase price and higher interest rates (higher payments). If I do it now, and can manage to keep it paid for 5 years, I'll be in a better position from both an equity stand point and a financing terms standpoint - living in an equivelant house.

I'm saving up a bunch of cash as if I was going to put a big DP, but rather than putting a DP down that may save me $75/month on my mortgage, I am going to use some of that money as reserves to support the conversion of my current house to a rental and the remaining as a sort of slush fund to build on for future investment opportunities, possibly sooner than I'd be able to had I went with 70 percent LTV.

So in my case, I think 100% financing, a second rental and cash reserves is better, and even more pyschologically comforting that 70% leverage.

Thoughts?

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J ScottPro Member

Moderator

Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes

14y

Originally posted by Ryan M.:

We target 15% on rentals so I would be lend at that rate. Wait this will have fewer complications so I could reduce it to 13%, but crap if you go under I have to come after the money so I need a premium, 17%.

Assuming no points on the loan, I'll borrow everything you have at 17%. My email is in my sig...looking forward to working with you!

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To pay or not to pay off your primary residence

To pay or not to pay off your primary residence

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