What Numbers Do You Look at Before Refinancing?

Question

When evaluating a potential refinance, what numbers make it onto your checklist?

For example:

• Current property value
• Current loan balance
• New interest rate
• New monthly payment
• Closing costs
• Cash-out amount
• Rental income
• Debt service
• Future investment opportunity

I'm curious whether investors have a standard calculation they run or whether it depends entirely on the property.

What's the one number you refuse to overlook before refinancing?

Aaron Zimmerman · Answer

Cash out amount and cash flow. You need to make sure the property still cash flows after all expenses.

Michael Eskenasy · Answer

The number I refuse to overlook is what the refinance does to the return on my equity after accounting for the new debt.

A refinance can feel attractive because somebody says, “You can pull $120,000 out tax-free.”

That tells me almost nothing.

I want to know what I am giving up to get the $120,000.

If I have a $300,000 loan at 3.5% and replace it with a $420,000 loan at 7%, I didn’t simply borrow another $120,000. I repriced the original $300,000 too.

That can be an extremely expensive way to access capital.

So I usually think of a refinance as two transactions happening simultaneously:

I am retiring one piece of debt.

Then I am buying a new piece of debt.

The new loan has to justify replacing the old one.

That means I want to see the current principal balance, remaining term, interest rate, amortization, prepayment cost if any, new loan amount, new rate, points, lender fees, third-party closing costs and the change in annual debt service.

Then I ask what the cash-out is actually going to do.

If I extract $100,000 and increase annual debt service by $9,000, that capital needs to earn considerably more than $9,000 a year before I get excited, because I also took on additional leverage and probably reduced the property's margin for error.

If the $100,000 is going into another deal that reliably produces $18,000 or $20,000 annually, maybe that is a very good trade.

If it is going to sit in checking while I “look for opportunities,” I may have just paid a substantial amount of money to move equity from one pocket to another.

I also look at the property after the refinance as though I were buying it again today.

What does the new DSCR look like?

What happens with a vacancy?

What happens if insurance jumps?

How much monthly cash flow remains after realistic repairs and CapEx?

Would I willingly buy this property at today's value using the new financing structure?

That question catches a lot.

You can take a fantastic rental with inexpensive legacy debt, refinance it because the property appreciated, and accidentally turn it into a highly leveraged mediocre rental.

The property didn't get worse.

The capital structure did.

For a rate-and-term refinance, I care a lot about the break-even period.

If the refinance costs $8,000 and saves $250/month, I need roughly 32 months just to recover the transaction cost.

If I expect to sell in two years, I don't care how attractive the new rate looks. I probably shouldn't do it.

For cash-out, I care less about a simple closing-cost break-even and more about the spread between the cost of the new capital and the return I can reasonably earn with it.

And I would include opportunity risk in that calculation.

A projected 15% return on the next investment is not the same as a guaranteed 15% return.

Meanwhile, the higher payment on the refinanced property is very real.

That asymmetry deserves respect.

I also don't let appreciation do too much psychological work.

If a property went from $300,000 to $500,000, that increase in equity is wonderful.

But equity sitting in a building is not automatically inefficient.

Sometimes keeping a low-leverage asset with cheap fixed debt and strong free cash flow is exactly what the portfolio needs.

Not every dollar of equity has to be constantly “working” through additional leverage.

So if I had to reduce the refinance decision to one question, mine would be:

What return am I buying with the additional debt, and what does that return have to be before weakening this property's balance sheet is worth it?

Once I answer that, the cash-out amount itself becomes almost secondary.

The goal isn't to extract the most equity.

It's to make sure every new dollar of debt has a better job waiting for it than the one it already had.

Dominic Mazzarella · Answer

For me, the number I would not overlook is the new cash flow after the refi, using real expenses and reserves, not optimistic ones. Cash-out sounds good until the new payment makes the property fragile.

I’d also want to know exactly where the cash is going. If it’s being redeployed into a better opportunity, the refi may make sense. If it’s just sitting in an account while the property now has tighter DSCR, higher debt service, closing costs, and a prepay penalty, I’d be pretty cautious.

Jason Wray · Answer

Choose your program based off of personal requiremets and terms of the loan.  There is a big difference between a DSCR, Fannie Mae, Freddie Mac, Bank Statement, or Portfolio programs.  Non/QM like DSCR have max cash out in most cases at 75% LTV above 75% DSCR rates are higher and typically carry a 3 Year prepayment penalty to get the lowest rate.

Run the numbers on each option like 30 Year Fixed, Versus a 5/1 Hybrid ARM, even a 40 year or I/O interest only to maximize the intial cash flow and reduce debt service.  Prepare the cash out so it does not sit in checking or savings another words have a property or two ready for the use of the cash out if for down payment.

What Numbers Do You Look at Before Refinancing?

When evaluating a potential refinance, what numbers make it onto your checklist?

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