Paying Down Mortgage
I am a new property owner with a duplex with a 7.5% interest rate that brings in about 200 dollars extra a month ( will be 130 more when I get rid of the PMI). Does it makes sense that once I build up my reserves for maintenance and those months between tenents to use the extra cash flow to pay down the mortage? Or save it up for the next down payment for another property?
Wondering, how will your mortgage company let you remove the PMI? Is it only by reducing the principle balance or can you get the property reappraised after some period of time?
Brenda
The mortgage broker said after 2 year just pay for an appraisal to show that you now have 20% equity and by law they must remove it. But my experaince with my main house I had to refinance to get rid of the PMI.
Thanks for the info, but I think 12.5% is way above the historical average for real estate. I believe the historical average for real estate is more closer to 4 -6 percent average return. If you assume the historical average then it seems to make sense to pay it down.
You have to decide whether you want more cash flow, or do you want more income producing property.
Monkfish noted that if you pay down your mortgage, your mortgage interest deduction gets smaller with the result that a higher net rental income is taxable ordinary income (not capital gains).
Paying down your mortgage increases your equity faster, but does not change your monthly mortgage payment if you have a fixed rate loan. The 7.5% interest rate is still charged on your outstanding loan balance each month, so paying extra principal now does not give you an immediate return of 7.5%. Instead your return is deferred to the end of the loan term and realized as interest you did not have to pay.
You are correct that the historic national average appreciation for real estate is around 5%, but this is an historical average that averages short term spikes in property values with market corrections. Booming markets in one area of the country are averaged against declining markets in another area of the country. Over time, the national average appreciation rate tends to hover around 5%.
If you have an adjustable rate loan, then making extra principle payments to hedge against an upward interest rate adjustment makes sense. For most of my adjustable rate mortgages, I do apply a little extra to the principal payment each month. At the end of the year, my extra principal is equal to two monthly mortgage payments.
If you are nearing retirement, and will need the cash flow to meet your living expenses, then pay down the mortgage(s). Get your income producing property free and clear as soon as you can. This also assume that you will stop investing, and just live on the cash flow. However, if retirement is on a distant time horizon, I suggest you bank the extra money to give you more flexibility in negotiating your next rental property acquisition.
What you decide to do is a personal choice based upon your investment plan, your cash flow needs, and your current and future financial posture. There are valid arguments for choosing either course of action.
Oftentimes advice is stated scientifically on this subject. As you will notice with NewKids post, the art of investing is as relevent as the science.
I do both, as well, since I am building retirement + estate.
* I add to my heloc principles first as they
1. adjust
2. are reusable funds
3. affect my fico % scores more
* Next, I look at my overall picture based on holding or selling potentials. If a property is a potential for selling/1031 and/or has a high appreciation rate, why add trickles of dollars and reduce the tax deductions?
* I look at fixed rates/adjustables to decide where to place funds next. Keeping in mind my goals/strategies for either selling and when, or keeping and rental market potentials vs.appreciation potentials.
----- IF you plan to purchase more properties, keep your money out of the property and build up your downpayments/reserves that the brokers want to see for good qualifying. They rarely look at your equity; they do want downpayments and reserves. Do that first IF you will be a repeat customer.
Yes, even if you reinvest the total proceeds, it is still taxable because it is not trade or business property.
Thank you for both of your quick replies. I guess it will not be worth it to pay 15% fed capital gains on the profit, since I was depending on using that to bring down my expenses on the new house. That does not include the 2.5% Maine charges non-residents when they sell property, plus any NYS or Maine capital gain or income tax added on that. I probably will just improve on what I have.
Thanks again.
Gary
LI,NY