Hi all,
I'm looking at doing my first refi so I'm no expert. I know to the vets this may seem like a very simple question but I'm having an inner battle trying to figure out what path to take. A property that I purchased in all cash 3 years ago has since doubled in value according to the market. Although the value of the property has risen, the rental amounts have not risen at the same rates. If I COR for %75 of the value the property will cash flow about $100.00 which leaves very little room. I could take out less than 75% of the value and still do another deal but I could take the entire 75% and do maybe two deals and still have reserves. Any advice from you BRRRR experts would be greatly appreciated. It may be something I'm clearly missing. I'd ask my mom but she'd just tell me to pay off my student loans. LOL
@Eric James
I disagree with others who advise selling without more info. Who is to say it won’t double again?
Of you’re set on a refi then cash out as much as you can while still being comfortable with the debt service.
This doesn't sound like a good rental property. Cash ow should be higher than $100/month with 75% financing. Sounds like you'd be better off to sell/1031 it and replace it with a better rental property.
@Mel Hayes, I would agree with @Eric James here. Good job on the doubling of value, but if you're wanting to leverage and utilize your equity best, then try and find something that is going to cash flow well with 75-80% debt.
This doesn't sound like a good rental property. Cash ow should be higher than $100/month with 75% financing. Sounds like you'd be better off to sell/1031 it and replace it with a better rental property.
Thank you for responding. So because the value has doubled and the rents have not kept pace it's no longer a good rental? The tenant pays every month, very little maintenance, good area, but now its not a good rental because the value has raised? I'm failing to see your POV. I could COR for 50% of value and it would cash flow very well and I'd have all my money out of the deal. If it cash flows at a COR of 50% of value does that make it a good rental? I'm not understanding how that works on a refi.
This doesn't sound like a good rental property. Cash ow should be higher than $100/month with 75% financing. Sounds like you'd be better off to sell/1031 it and replace it with a better rental property.
Thank you for responding. So because the value has doubled and the rents have not kept pace it's no longer a good rental? The tenant pays every month, very little maintenance, good area, but now its not a good rental because the value has raised? I'm failing to see your POV. I could COR for 50% of value and it would cash flow very well and I'd have all my money out of the deal. If it cash flows at a COR of 50% of value does that make it a good rental? I'm not understanding how that works on a refi.
You want to maximize your returns, whether that is return in cash or return in equity. You have a lot of equity in that property and aren't making a very good return on it. Other properties would make you more per your equity.
This doesn't sound like a good rental property. Cash ow should be higher than $100/month with 75% financing. Sounds like you'd be better off to sell/1031 it and replace it with a better rental property.
Thank you for responding. So because the value has doubled and the rents have not kept pace it's no longer a good rental? The tenant pays every month, very little maintenance, good area, but now its not a good rental because the value has raised? I'm failing to see your POV. I could COR for 50% of value and it would cash flow very well and I'd have all my money out of the deal. If it cash flows at a COR of 50% of value does that make it a good rental? I'm not understanding how that works on a refi.
You want to maximize your returns, whether that is return in cash or return in equity. You have a lot of equity in that property and aren't making a very good return on it. Other properties would make you more per your equity.
I think I'm looking at it a lot differently. If I pull out 100% of my investment + another 50% and I have zero dollars in the deal, whatever the cash flow is a maximum return. No? What am I missing?
This doesn't sound like a good rental property. Cash ow should be higher than $100/month with 75% financing. Sounds like you'd be better off to sell/1031 it and replace it with a better rental property.
Thank you for responding. So because the value has doubled and the rents have not kept pace it's no longer a good rental? The tenant pays every month, very little maintenance, good area, but now its not a good rental because the value has raised? I'm failing to see your POV. I could COR for 50% of value and it would cash flow very well and I'd have all my money out of the deal. If it cash flows at a COR of 50% of value does that make it a good rental? I'm not understanding how that works on a refi.
You want to maximize your returns, whether that is return in cash or return in equity. You have a lot of equity in that property and aren't making a very good return on it. Other properties would make you more per your equity.
I think I'm looking at it a lot differently. If I pull out 100% of my investment + another 50% and I have zero dollars in the deal, whatever the cash flow is a maximum return. No? What am I missing?
Sell it and buy two properties that each cash flow $300/month. With no additional money out of pocket.
@Mel Hayes pulling out all your cash increases your return on investment to basically infinite return if nothing is invested. From that standpoint it is hard to lose. The down side is increased risk, because you are completely leveraged and left with very little cash flow. Just have reserves available to cover vacancy or major repairs. I would have at least $6000 available in cash, beyond your normal emergency fund for your regular living expenses.
Also be aware that deductibility of interest follows use. If you take out cash beyond the purchase value, the interest from that portion of the money cannot be claimed as an expense against the property. You can't claim that interest deduction until you put it into another property. Then you claim that portion of the interest against the new property. If any money is used for personal use like buying a car or paying down student debt, the interest is not deductible. Hold the funds in a dedicated account and track it very carefully. You don't want to run afoul of IRS tracing rules.
@Mel Hayes pulling out all your cash increases your return on investment to basically infinite return if nothing is invested. From that standpoint it is hard to lose. The down side is increased risk, because you are completely leveraged and left with very little cash flow. Just have reserves available to cover vacancy or major repairs. I would have at least $6000 available in cash, beyond your normal emergency fund for your regular living expenses.
Also be aware that deductibility of interest follows use. If you take out cash beyond the purchase value, the interest from that portion of the money cannot be claimed as an expense against the property. You can't claim that interest deduction until you put it into another property. Then you claim that portion of the interest against the new property. If any money is used for personal use like buying a car or paying down student debt, the interest is not deductible. Hold the funds in a dedicated account and track it very carefully. You don't want to run afoul of IRS tracing rules.
Thank you Joe. This makes a lot of sense. Thanks for sharing your expertise. I think you have made things very clear for me.
My tax-biased opinion would say to COR to whatever % leaves you with a monthly cash flow high enough to cover your reserve requirements (vacancy, repairs, etc. as mentioned before). If 50% gets your equity back out and opens up another deal, a COR with a low interest rate could put you in a better spot than a 1031, which can be tough to pull off.
Congrats on doubling your equity. Something many people don't consider when doing the BRRRR strategy is that taking out all the money you have in the deal can lead to very little cash flow. In an upmarket like the one we have, it sounds like a no-brainer. But if the market were to correct itself then that $100 per month and dealing with tenant repairs etc will start to feel like a money pit. Those are the landlords I see walking away from their properties.
One toilet leak can cost you $150 from a plumber. That wipes out 1.5 months of cash flow.
You have to decide what you want. Don't concentrate on the number of doors you can buy. Look at how much they are paying you and if that amount is worth it.
I have been investing for a while so if I were to take 15 of my low leveraged properties and compare them to someone who has 30 doors but overpaid for them, highly leveraged then I will make more than them. I'm conservative on my long-term holds.
The market is red hot. Being over-leveraged will have its own consequences in a downturn. Best to have equity and cash flow.
Best of luck
I had a question about the deductibility of interest you mentioned. If you refi a rental and do cashout refi I cant see why IRS wouldn't allow deducting the interest from the cashflow of that property given the loan is tied to that property. In Multi-Family, we do that all the time. Forcing the appreciation and cashout refi to pull our money out. I wonder if any accountants on here can give their input on this.
I am not saying you are wrong. I am just curious as I think many people doing cashout refi on rentals arent aware if this is the case.
Best
@Luciano A.
Wow!!! Such great points. The $100.00 is after I take out money for repairs but I totally get your point. Its a give and take to tapping into the equity for maximum amount. Your reply was very helpful.
@Eric James
I disagree with others who advise selling without more info. Who is to say it won’t double again?
Of you’re set on a refi then cash out as much as you can while still being comfortable with the debt service.
My tax-biased opinion would say to COR to whatever % leaves you with a monthly cash flow high enough to cover your reserve requirements (vacancy, repairs, etc. as mentioned before). If 50% gets your equity back out and opens up another deal, a COR with a low interest rate could put you in a better spot than a 1031, which can be tough to pull off.
Thank you Mark. I think every situation is a little different and you don't have to take ALL your money every time.
@Eric James
I disagree with others who advise selling without more info. Who is to say it won’t double again?
Of you’re set on a refi then cash out as much as you can while still being comfortable with the debt service.
Short of saying selling is a bad idea, its definitely not the route I'm taking. The rental amounts will raise over time and that low Cash flow will increase. I don't believe in selling good properties in good areas. Just not my philosophy. There are lots of investors out there and we all have different ideas on how to invest.
I believe that understanding how leverage impacts your end goals is important. If you leverage up, are you prepared to have the resources to carry the mortgage and not able to liquidate when the market softens? How does that fit what you are trying to do 10 years from now?
@Mel Hayes
First off, you won. Don’t get distracted from that by a conversation on the next generation of returns.
You now have a B+\ A asset that is a great, secure repository of money and that can cash flow well for you. They are very tough to find.
Think of the cash flow on it as interest earned in a savings account.
Leverage to the point where it’s both profitable and still an asset, not a potential liability. You can cash flow a bunch (750$/mo) can weather an interest rate rise and problem with tenant? and still get out a chunk of money to use? Do that.
Keep your DCR very attractive to banks, maybe 1.75? And that ratio can offset another investment that might be a low cash flow to start.
Pigs get fat, hogs get slaughtered.
@Jonathan R McLaughlin
Thank you Jonathan. Great information and advice. I love that you gave an educated answer that provided multiple outlooks. My fear is becoming underwater in debt and I've never been in a rush to scale quickly, probably why I'm not rich or broke, but I think this is a good time to take advantage of the equity and add another cash flowing asset.
@Mel Hayes Just my two cents I think everyone's looking at only one part of the equation here and using short term thinking. Yeah your left with a property that cash flows next to nothing and with capex etc will probobly net cash flow BUT THEN you get two more additional properties that cash flow at xxx per month. As long as the money invested makes sense then your increasing your net cash flow. Rents inevitably will go up and that 100 today will turn into 100 + y five years down the road. Plus that 100 dollar cash flow property is starting the equity snowball to do another cash out or 1031 down the line. The key here though for it to make sense is the two rental properties must make more than the current property does.
Decide what your goals are. At this stage in the game I think your looking for growth. If I were in your shoes and I had two properties that I know would make more than the one is currently cash flowing at then I would COR in a heartbeat and put that money to work long term.
@Eric James
I disagree with others who advise selling without more info. Who is to say it won’t double again?
Of you’re set on a refi then cash out as much as you can while still being comfortable with the debt service.
Short of saying selling is a bad idea, its definitely not the route I'm taking. The rental amounts will raise over time and that low Cash flow will increase. I don't believe in selling good properties in good areas. Just not my philosophy. There are lots of investors out there and we all have different ideas on how to invest.
Equity /appreciation markets are a different animal than traditional cf markets so I'm glad you realize this, Mel.
If I'm going to COR, I'll get as much as I can. Tue costs and hassles are too great not to maximize the opportunity.
A good property in a good area in an appreciation market is definitely worth keeping. I have several that are under-leveraged and am free. Finding places to redeploy equity cash-outs and the cash-outs themselves sound like a bunch of work.
@Joe Splitrock hey Joe! I saw your reply on an earlier thread and I liked what you said. I see that you invest in SD? I've thought about moving into that market. Any words of advice about investing in that area?
Sometimes leaving the capital in the property and letting it do its thing is the best course. I know I know you are letting equity sit in the property and not maximizing the returns. There is risk in taking out loans and sometimes having the security and peace of mind is worth leaving the equity in. You can operate and function more freely and make more money in other ventures with a clear mind. We have to protect our mental capital.
Other factors play into the cash out. What will you buy next? Your current age? (20-45 can take bigger risk, 46-65 less risk) Your goal? How much time you have to commit? How much risk you want to take on? Whats your earning power? All these questions you can answer for yourself and help you with your decision.
I think the key is finding out what factors are most important to you.... security, growth, stability, flexibility, etc.
If you have a valuable asset with no debt, you are secure, stable and have flexibility to use that, BUT your eggs are in one basket.
If you cash out that asset, you aren't as secure or stable, but can grow and can be flexible in a sense you can deploy your capital, but once you do that, you lose your flexibility.
I think you can look at it this way-- you have the ability to play with "house money" both literally and figuratively. You can cash out your entire original investment and basically collect cash flow- and in the worst of worse cases, you are back where you started with X dollars and no property.
Most people just look at the math and the numbers, but then can't sleep at night because of the risk. Other people can't sleep at night because they can't convince themselves to take a risk. Find out what things are most important to you and use those to lead your decision making. Good luck
Plus-- you have a very good "problem" compared to many folks in REI.
It really depends at what rate you can redeploy your capital and how much capital you need.
Naturally, you do not want to overleverage. Do a few sensitivity calculations and make sure your income can support your debt service should things take a bit of a turn. But by the same token, don't be afraid to borrow more at low rates and redeploy at high rates!
Maximize cashout but keep enough cash reserve, how much cash reserve to keep depends on your comfort level. Having enough cash on hand so you can deal with any unexpected events, also you can act quickly if there's opportunity.
Never never sell a California property, unless Prop 13 is revoked.
Be patient, rent will catch up with price increase. I once bought a rental property in Cental Valley of California for about $100k at the bottom of the financial crisis, at that time rent about $1000/per month. When the price was tripled the rent was still $1300/per month, I lost my patience and sold it. Just after I sold it, the rent suddenly leaped to $1800/month, and right now price is about $400k. I do not regret the $100k price increase but I do regret the $1800/month rent. So be patient.