Pay Down Rentals or Pay off Home or ... ?

Question

I've got some extra cash and wondering what the community thinks I should do with it?

I have a couple of rental properties that I can put a sizable dent into. It wouldn't pay them off, but it would help with some cash flow.

Or do I pay off the mortgage on our house?

Or just keep it in savings for a rainy day?

Account Closed · Answer

Dude!  no brainer here.  Pay off your mortgage and get a HELOC man!  The peace of mind alone is worth it.  You could lose your job and work at BK and pay the taxes and utilities.  If you lose a rental to foreclosure no big deal.  If you lose your primary, that is a big deal.

Scott Trench · Answer

The "correct" answer to this question will vary from person to person. The question investors ask themselves all day long, every day of the week on this site it this:

Should I pay down my debt with accumulated cash, or redeploy that cash in alternative investments elsewhere?

This is a question every real estate investor that uses leverage will have to face down the line. While I won't be paying down my debt early, I will soon find myself confronted with the choice of either to refinance/releverage/trade up, or to continue paying down my debt.

The answer to whether you should pay off your debt or not comes down to two personal questions you have to ask yourself:

1) Can I get a better return elsewhere?

2) If I can get a better return elsewhere, do I place a higher priority on debt elimination than on maximizing my returns?

Right now, with my debt at less than 5% interest, I confidently believe that yes, I can redeploy my cash so as to produce returns far greater than 5%. I also feel incredibly uncomfortable to do the ineffecient thing with my money, in this case pay down debt, because I feel like I could be doing better. This may change with time and increasing net worth, but for now, I would feel foolish paying tens of thousands or hundreds of thousands of dollars to eliminate such affordable debt, backed by cash flowing real estate assets.

Mark S. · Answer

@Josh Lawson, You need to consider your interest rates and loan terms, coupled with your own personal psychology.  Even though someone knows what they should do mathematically, doesn't mean that decision is supported emotionally.  Example: I know making an extra mortgage payment each year is the "WRONG" decision mathematically (super low interest rate on a fixed loan and I could absolutely "do better" investing that money instead), but since it shaves 5 years off my loan, it makes me feel warm & fuzzy and the psychology component kicks in and I do it anyway.

Are you trying to grow your portfolio?  If so, maybe you use some of the funds to acquire more property.

Do you have adequate reserves for your existing properties?  If not, maybe it stays in savings.

Could you pay off your primary residence mortgage completely with your cash?  Would that make you feel better? If yes and yes, maybe you do that (if you're no longer in growth mode with your investment properties).

What I absolutely would NOT do, is paydown the investment mortgages (and not have enough to pay them off), as this will not change your immediate cash flow and now your liquidity position is significantly lower, but your risk in terms of monthly debt service on the properties stays the same.  I do NOT like that at all.

Not sure if I can mention this here or not, but Keith Weinhold of Get Rich Education has a fantastic podcast on home equity and why it's not as great as most people think.  It used to be episode 6, but he has a replay with additional commentary on episode 46 (The Money You Didn't Know You Had).  Excellent podcast.

Mona V. · Answer

I have been in the same situation, and like everyone said, decision is very personal. I ended up paying my primary house and to me that's one of the best decisions I have made. It gave me relief and clarity to think about what to do with my money next, and not to worry about mortgage.

I ended up getting a HELOC on the house later and I use that for investments as and when I need it. I would not pay my rental properties with that.

I also decided not to have debts which don't produce income, primary home is generally one of them(unless you are renting out a part of it). The amount I would pay in interest itself on the life of a loan was enough to make me decide that.

I agree, this is not the best financial approach if you just look at the numbers, I would do what make me sleep fine in the night, at the same time making me some money.  Depends on how much security you feel in your job too.

I second Mark Poulton, the peace of mind alone is worth it!

Another thing which might help decide is thinking about your final goal, is your priority having financial freedom early on or, to be very wealthy later, I don't see them as same. (But I know we all want both:))

John Thedford · Answer

The tax savings from a mortgage on your personal home are negligible unless you have a large mortgage (700K, 800K etc). The savings paying down the principal on rentals won't result in instant higher income unless you pay it off. Save the cash and buy more!  I am almost debt free with 2M in holdings but now I need cash for more rentals! So I have to look for a portfolio lender.

Thomas S. · Answer

The only real decision you have to make is based on how you value money and whether making more  money is important.

Paying down a rental mortgage does not increase cash flow if you place any value on money. You are basically spending money to buy false cash flow. Really poor business decision.

Paying down your home mortgage could be a good option again if you do not place any value on money. As stated interest rates are practically free today so paying down any mortgage as opposed to investing in more properties to make your money actually earn it's keep is the only logical option.

Do you want your money to work for you or would you rather hide it away and forget about it.

Chad Olsen · Answer

@Josh Lawson I won't repeat what many have already said here. As everyone has made many of the points I would make. The one that wasn't stated that I think could help you is the following. I don't know the amount of liquid cash you have but lets say its $100k, your rental portfolio consists of 5 SFR with a mortgage of $80k each and your primary note is for $150k. You want to find the "perfect nexus of math and peace of mind." Which doesn't exist for most people. But you want to get close.

I would recommend taking your $100k and doing one of the following two options. 1) Pay off one of the rentals completely. 2) Pay down as much of your primary note as possible. Then get a HELOC on which ever property you paid down and then pull out that $100k again and put it back in your account as liquid. Then start using your excess income to pay that back down. Now you've got $100k in the bank and $100k HELOC to use to for emergency fund, family bank, private lending, JV, etc. I would not use the HELOC for down payments on other real estate. I personally feel that that adds an element of risk to the deal that could be better dealt with by raising equity from a partner.

My personal opnion would be to use it to pay off a rental and then use the equity of the free and clear to act as your emergency fund or as your slush for future deals. At the very least you can talk to the banks and say "I have $100k in the bank to mitigate the risk of future loans" and you can say to equity partners "I have this $100k in the bank AND a $100k HELOC that I can use to ensure that this deal goes well." And raise the $100k from a partner, you've effectively tripled your money at that point and it cost you whatever the interest of the HELOC is.

Just my thoughts though. Good luck!

Michael Lee · Answer

Hello and welcome to BP!  Doing what you did and creating your peace of mind is probably worth every penny.  That would probably not have been my answer but giving you that peace of mind it gave you was probably worth it.  I tend to look at things like that monetarily and if that fit one of your goals.  You cannot tell what the future is bringing us and in these times it's very hard to say what is going to happen.  You see, I am 60 years old and I had a brain anuerism and a stroke when I was 54 years old and it was totally not seen until just before that.  I was going to a Chiropractor and he recommend I had a MRI on my head and sure enough that specialist Doctor found the brain annurism and had me scheduled for surgery on the 22nd of December that was coming up and my regular Doctor had been very impressed with my health for about 30 years.

I had that brain anuerism on 2 days before I was scheduled for surgery and it made me have a stroke.  I was lucky I was married at my wife probably saved my life because I had that happen to me at home that evening. When that happened I owned my own business and I thought I would be on my feet and working in 6 months but it has taken over 6 years and I still cannot walk.  I was lucky that my wife is a computer programmer and has been able to take some care of me and has sent our daughter to The University of Arkansas.  She is in her 3rd year now and has been doing well.  My wife's boss has been great to her and allows her to come in the office for 1/2 day and work the other 1/2 day from home so she can help me and he still pays her full time salary and she has full time benefits.  I could tell you some more about me but that can wait for another day.

Now it is time to get back to you.  There is definitely a relieving factor in getting your mortgage paid off.  If there is a REI event or club for you to go to and meet some people that have been sucessful at what you have selected.  There is no telling who you will meet and network with.  There might be a Mentor there that will help you.  Several sucessful people have said that having a Mentor around them has helped them very much.  Try not to pay any attention to those people that have not been doing what they are talking about or making a recommendation on for something they have never done.

Do not try to do everything yourself.  There are several things you might ought to do after you have selected your niche and market area to work in.  One of those things is to form some type of corporation or LLC that is a business and it will put your personal things in safety.  You might have to hire an attorney and/or a CPA (or an accountant that knows) to help you decide and to listen to what they recommend.  Another thing to consider doing is to get your financing figured out and have that lender give you a loan letter that says their average time it should take them to close a loan and the maximum amount you qualified for.  You can put a copy of that letter in with your offers and get the seller a comfort factor that you can close the deal.

Another thing you might want to do is to locate your office somewhere that is convenient for you and have minimal distractions.  You can locate that office in your living place as long as you can close it off and will not distract you too much.  Make your decisions that will increase your income production.  I have read more than once that mistakes and fear are pretty normal.  Learn from your mistake and treat any fear you might have into something positive to think about.  Track everything you do for income or expenses and review that list group together and try to make those regularly reviews and try to lower your expenses or increase income you get.

Do not cut any corners to make something look good on paper but not actually true.  Try to keep control over everything you do.  Do not assume that a person who has a title does not know more than you.  Just do what is average in that neighberhood.  At first, keep it simple and build systems that others could do for you for your company operations.  Learn how to use this site to your advantage.  Continue your education on financial understanding and your niche all of your life.  Know the difference between good debt and bad debt.  Good debt puts money in your pocket and bad debt does not.  Try to have assets that will put money in your pocket not take it out of your pocket.

Good luck to you!

Jeff Brower · Answer

If you are on fixed long term loans with low interest rates, no, I would not pay down the loans. Once you pay extra on top of the minimum payment, you are turning your capital from liquid to non-liquid. On your rental properties, a long term loan is a hedge against inflation, where your monthly payment will never go up, but the rent will. If you have a 4% interest loan, why not invest that capital somewhere else that will give you higher returns? If it makes dollars, it makes sense.

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