To refinance a primary residence to rent with a higher rate in order cash flow in California?
The heart of this question is the tolerance with different investor strategies regarding positive cash flow vs. appreciation potential.
This scenario is probably more common in California due to the difficulty in cash flow real estate. Thanks BP in advance for your insights.
Owner of SFH in Orange county CA. is looking to purchase new primary residence in the $1.9-2-3M range and rent existing property. Funds are available for down payment on new property.
Current comparable rents for existing property are around $3-3,400/month.
Current mortgage balance is $535K giving a monthly payment incl tax/ins. of $3,644. Mortgage is at 4% APR. Current equity is 40%
Options to consider:
1. Keep mortgage as is and rent the home with a negative cash flow of aprox --$244/month not including maintenance costs. (Note the property is in excellent condition and was just completely remodeled.)
2. Pay $114k down on mortgage to equal $417k (max conforming loan balance) with money currently allocated for down payment for now home. Refinance at $4.25% (higher than original loan rate). This would yield a monthly mortgage payment with tax/ins of $2974 and subsequently a $426/month cash flow if rented in the above scenario.
Further discussion:
In option 1 the owner will pay approximately $83K over the life of the loan due to the negative cash flow. This assuming the rent stays the same for 30 years which I will obviously change. The total interest paid over the life of the 4% loan will be $372k. Total loan cost principle and int for the life of the loan is $906k.
In option 2 the owner would make approximately $153K over the life of the loan but need to pay in $114K now. The total interest paid on the higher 4.25% on the loan would be $322k. This scenario would also require the owner to wait at least 6 more months before purchasing new home to replenish the $114k for the down payment. Even though the interest rate is higher the amount paid over the life of the loan because of the lower balance is $50k less then option 1. Total loan cost principle and int for the life of the loan is $738k.
The question is that because homes appropriate better in so cal and the rents are consistent, would it be acceptable to some investors on this forum to keep the current mortgage the same with a small negative cash flow but lower interest? Or it is better to pay down loan to max conforming, delaying purchase of new home and refinancing at a higher interest rate for a small cash flow?
Bottom line is it worth spending $114k and taking a higher interest rate to avoid a small neg cash flow on a property in an area that shows high appreciation values compare to the rest of the country.
Thanks again in advance and if any other investors see another option I'm all ears.