To Refi or Not to Refi..that is the question

6 Replies

I have a mortgage I owe 280,000 on at 4.25% 30 year fixed with 27 years remaining.  

Down the line in let's say 1-3 years there's a chance I'll move and would like the option of converting this to a rental.  

I can rent for 2,100 (conservative).  Assuming costs of property management at 10%, repairs at 5% and vacancy at 8% I would have negative cash flow -250 or if I self manage -40.

I have a crazy notion to throw 42,400 (loose money lying around in savings) at the mortgage/fees and refinance to 3.75%.  This would drop the monthly payment to enough to have a positive cash flow +150 or +360 if I self mange.  

What factors need to be taken into consideration before making the decision?  

Thanks!  -Grant

@Grant Cleveland  - Welcome to BP!  

Why would you want to keep the home?  I see you are in Seattle, which is an appreciating market, so I think I know the answer.....

If I thought my house had long term appreciation gains and I was not looking to live off rental income for retirement I would refi into a lower payment so I am close to break even every month.

Brie Schmidt, Real Estate Agent in Illinois (#471.018287) and Wisconsin (#57846-90)

I usually look at my rentals in terms of annual return on cash and in this instance the return on the $42,400 you would be investing in your future rental is between ~4% (@ +150/mo) and 10% (@ +360/mo). However this does not include a discount for the fact that you will not be receiving these cash flows for at least one year. I would use the savings (perhaps augmented with a HELOC depending on how much equity you have) to investment in another property with better returns. Or use it to improve your current property to generate rental income immediately with a MIL or backyard cottage.

What needs to be taken into consideration? The opportunity cost of the $42,400 you have sitting around. You're dropping that money to generate $400 a month in additional cash... $4,800 a year... divided by your investment, that's a CoC return of 11.3%.

Question is, can you beat that?  If you got a 20% return elsewhere, you'd be better off taking that return and using it to balance the loss on the first property.

I think your bigger question is return on equity... as the previous poster said, why are you keeping it to rent it?  Sounds like a terrible return on equity from a cash flow investment point of view.  If you're holding for appreciation that obviously changes things and goes way beyond this simple analysis.

Thanks everyone for your inputs. 

The house has already appreciated at somewhere in the high 5-digits. I only put 5% down. I could amend the 42,400 to as little as zero for the cash in re-if. It's a good area, rent may eventually catch up and exceed the mortgage payment. 

I suppose I could continue to make payments and sell when I move but I like the idea of someone else moving in and finishing off the mortgage for me. Kind of like monopoly I'd have a paid off property eventually to sell off in retirement or utilize the full rent as cash flow. 

-grant 

Originally posted by @Nathan Emmert :

What needs to be taken into consideration? The opportunity cost of the $42,400 you have sitting around. You're dropping that money to generate $400 a month in additional cash... $4,800 a year... divided by your investment, that's a CoC return of 11.3%.

Question is, can you beat that?  If you got a 20% return elsewhere, you'd be better off taking that return and using it to balance the loss on the first property.

I think your bigger question is return on equity... as the previous poster said, why are you keeping it to rent it?  Sounds like a terrible return on equity from a cash flow investment point of view.  If you're holding for appreciation that obviously changes things and goes way beyond this simple analysis.

 What would you consider a good cash on cash return?  42,400 in a savings account at 0.9% earns about $381/year.  Stock market/investing can go anywhere.  A guaranteed 11.3% seems like it's not the worst way to invest it.  

@Grant Cleveland  

I look for a minimum 10% CoC return, so this hits that metric. You can generally get that with rent ready units straight off the MLS. These aren't necessarily home runs in the real estate world, but nice solid singles that with enough income to be able to continually invest principle can lead to a very nice retirement in 20 years (my target).

I "prefer" to be in the 15 - 20% range by finding more distressed homes/sellers through FSBOs, Craigslist, driving and looking for signs (for sale or for rent) and checking eviction records at the court house (online but lag a few months behind). 

These simple steps let me buy equity and get a superior CoC return. But doing this work has changed me from someone who invests in real estate... to a real estate investor!

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