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-Bought our first home in the heart of the pandemic (April 2022) for $310,000
-Based on comps from my neighborhood (and advice from a realtor friend), I'm thinking my house is worth around $550,000
-That puts me at $240,000 in equity
-Mortgage payment is $1,600 at 3%
-Based on rental rate comps in my area, I can rent my house for $3,000 a month
We are already outgrowing our house and our long-term plan has always been to turn this into a rental. We have updated it like crazy and have put blood, sweat, and tears into this thing. I want this to be a rental and maybe eventually sell it to one of my kids someday.
So my question is this, does it make sense to pull out money now from my home? Use the money as a down payment on our new home and turn this into a rental? If it's a rental I will continue to have positive cash flow for the foreseeable future. My fear is that if I don't pull the cash now, my equity will continue to drop as the market dips. And I also think that now is a decent time to pull the trigger on a new home as a lot have been sitting on the market for a longer period of time.
I don't want to do a cash out refinance, because that would make my great rate go up. So I was thinking about a home equity loan for the down payment on my new house? I'm not great with this kind of stuff, so if this is stupid, please just tell me. I'm just trying to put myself in the best financial position, while also being able to purchase a home that better suits our needs.
Thanks in advance!
The first step is to talk with a lender to see if you will need to rent out your home BEFORE you can close on the loan for your new home. This will come down to your debt-to-income ratio. If there's a way to buy your next home without the need to pull money from your current home, this is what I would do. Speaking from experience, this is what I did multiple times to keep our previous homes as rentals.
Also, what are your other payments on the home, e.g. insurance, taxes, HOA, etc. It's important to build an accurate picture of what the cash flow will be.
I have also had many friends who owned a home and then were transferred to some other duty station and decided to turn their home into a rental. In every case they lost their shirts.
A single-Family-Residence turned into a rental usually loses money.
A Multi-Family-Residence [like a Tri-plex, Four-plex, five-plex, ten-plex or what I have today a Fourteen unit rental property] has completely different math.
Mortgage is $1,600 and rental rate could get $3,000. I know it's not as good as a multi-family, but I feel like this is a good starting point. I'd eventually like to purchase a MF, but I need to start somewhere.
Mortgage is $1,600 and rental rate could get $3,000. I know it's not as good as a multi-family, but I feel like this is a good starting point. I'd eventually like to purchase a MF, but I need to start somewhere.
During my hopping around between duty stations, it was our observation, that given structures of the same square-foot footprint side-by-side in the same neighborhoods, Multi-Family-Residences tend to market for 75% to 80% of the cost of a Single-Family-Residence. Rentals are cheaper to buy.
We saw this over and over, regardless of what city or even what nation we were stationed in.
In the city where you have located your Single-Family-Residence with a mortgage of $1,600, you will likely find a few five-plexs that would have a mortgage of $1,200. You dont need $3,000 from each tenant. In a city where homes want $1,600 a month you could list apartments for $1,000 a month and get plenty of applicants. $1,000 a month X 4 [allowing one un-rented unit for you to live in] and do you see where the math is going?
Because it is Rental Real Estate you are required to keep track of the 'Cost-Basis' each year for mandatory depreciation [a major write-off].
We got into the habit of making monthly Principal-only payments to buy down the mortgage a bit faster. Some online experts will tell you that Principal-only payments are not allowed. But in reality the various accountants we used were all in favor of the practice. We were audited by the IRS three times, and in those audits the IRS never blinked their eyes at us using Principal-only payments as a write-off. It built our equity a lot faster.
During my hopping around between duty stations, it was our observation, that given structures of the same square-foot footprint side-by-side in the same neighborhoods, Multi-Family-Residences tend to market for 75% to 80% of the cost of a Single-Family-Residence. Rentals are cheaper to buy.
We saw this over and over, regardless of what city or even what nation we were stationed in.
In the city where you have located your Single-Family-Residence with a mortgage of $1,600, you will likely find a few five-plexs that would have a mortgage of $1,200. You dont need $3,000 from each tenant. In a city where homes want $1,600 a month you could list apartments for $1,000 a month and get plenty of applicants. $1,000 a month X 4 [allowing one un-rented unit for you to live in] and do you see where the math is going?
Because it is Rental Real Estate you are required to keep track of the 'Cost-Basis' each year for mandatory depreciation [a major write-off].
We got into the habit of making monthly Principal-only payments to buy down the mortgage a bit faster. Some online experts will tell you that Principal-only payments are not allowed. But in reality the various accountants we used were all in favor of the practice. We were audited by the IRS three times, and in those audits the IRS never blinked their eyes at us using Principal-only payments as a write-off. It built our equity a lot faster.
The problem is, where I live their just aren't a lot of MFPs available. I live in Gilbert, AZ, which is a "newer" city. It's either SFHs or huge apartment complexes. I'll keep my eye out though, because the math totally makes sense.
We have a similar situation to the OP. Bought pre-pandemic and house price has doubled very quickly. We could sell for a great price. However there is nowhere to go. A new bigger house will likely cost 3X what we paid for our current home, plus mortgage rates have doubled. The actual cost of such a mortgage on the larger home would be 2-3X higher, and would require a much larger cash down payment. So we are basically stuck.
Might want to exchange the bolded for "incredibly fortunate."
You're in an enviable position. Enjoy it, while you can.
I think you need to have an in depth conversation with your loan office about what the best way to accomplish your goals are.
Personally, i think leveraging equity that you are already thinking is going to disappear puts you in a less flexible financial position. What if you have trouble filling the house with a tenant and you need to sell or rental rates fall to a point where you're losing money by renting it? Plus, the rate on a HELOC typically floats which is going to make your payments change regularly and with everything pointing to interest rates going significantly higher in the near future you should keep in mind that your loan payment on a HELOC would likely greatly increase going forward.
Personally, I think you're better served (from a financial perspective) by selling the house and realizing your profit. Then you just roll it over into your new home. Sure your mortgage rate will be higher than it is now but if that equity disappears at some point you'll find yourself in a lot stronger position. You seem to think prices are going to drop in your area in the near future. So wait until that happens and then buy another rental property. You can always refinance both houses in the future if rates drop.
I took a look at Gilbert, AZ on realtor. NOT PRETTY! I've never seen so many houses being dumped into the market at once. In my town we're getting a couple new listings a week and I thought that was bad (for a sellers market).
Mortgage is $1,600 and rental rate could get $3,000. I know it's not as good as a multi-family, but I feel like this is a good starting point. I'd eventually like to purchase a MF, but I need to start somewhere.
Why don't you want to sell it and wait for the market to go down? Parts of Arizona had rapid increases that will be decreasing.
Personally, I'd sell and repurchase something when the market is better. Even my area of NJ doubled during COVID. Gloucester county, NJ. Articles have been written about how it doubled, will decline. I'm glad we sold for more than what we paid in 2007. Almost $100k more. Not bad on a 14 year old house.
And thanks everyone. I agree, the market is weird right now. I think I might just sit tight on this for a while and see what happens.
What would be the benefit of waiting? The way I see it, waiting will lead to one of three outcomes:
1) Prices will go up and the house you want will be more expensive
2) Prices will go down and you have less equity to pull from your current home
3) Prices will stay about the same and you’re delaying a more comfortable living arrangement for your growing family.
Take out that home equity loan and rent your current home.
Edit: I suppose you could take out that home equity loan out now and wait to see what prices do after you have the cash in hand, but if you have a need for a new home now I wouldn’t try to time things. Very difficult to do.
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