Pay extra on principal for Rental or Primary

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joerent
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Pay extra on principal for Rental or Primary

Post by joerent »

I have a rental home, currently 4 years into a 30 year at 4.75%. I owe 85k and it's valued at 180k.
I'm 3 years into a 30 on my primary residence, at 3.75%; I owe 280k.

My question is whether to make extra payments on my primary or on the slightly higher interest rental?
I've been making extra payments on my rental, however I think I should apply the extra to my primary to gain equity there.
Cigarman
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Re: Pay extra on principal for Rental or Primary

Post by Cigarman »

A couple of thoughts

1. Are you cash flow positive on the rental? If so, it would not make sense to pay it down early.

2. I'm no math wizard but the total interest you are paying annually on your personal residence has to be higher than what you are paying
on the rental. All things being equal I would pay down the personal residence first in that case, especially if rental is cash flow positive.

3. Does either loan have PMI? Getting rid of that would be a priority.
hillman
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Re: Pay extra on principal for Rental or Primary

Post by hillman »

In addition to what Cigarman said:
- What state are you living in? I ask because NC just capped mortgage interest and property tax deductions on your primary residence at $20k. If you live there, your benefit could be limited, providing greater value to pay down the personal residence faster than the rental.
- Rental mortgage interest goes on the front of the return. Paying it down slowly creates more and longer lasting benefit. Also, it reduces your AGI (assuming you do not have any loss limits on rental activity due to income level)

I would throw everything at the primary.
TRC
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Re: Pay extra on principal for Rental or Primary

Post by TRC »

Use other people's money to pay down the rental. Get your house paid off. Then decide I'd you want to pay off the rental sooner.

I'm in a similar situation and we just paid off our house last week. We have a rental with 13 years left on the note. My net worth is already heavy on real estate equity, so were not planning to pay it off sooner.
tinkerman79
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Re: Pay extra on principal for Rental or Primary

Post by tinkerman79 »

In addition to what the others have stated, a primary residence also provides asset protection in almost every state. See http://www.bogleheads.org/wiki/Asset_pr ... _residence. An investment property does not provide this protection.
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White Coat Investor
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Re: Pay extra on principal for Rental or Primary

Post by White Coat Investor »

tinkerman79 wrote:In addition to what the others have stated, a primary residence also provides asset protection in almost every state. See http://www.bogleheads.org/wiki/Asset_pr ... _residence. An investment property does not provide this protection.
While there may be some asset protection in most states, it is limited in most states. For example, it's $20K of home equity in my state. I had much more than that in it on the day I closed on it. For a Texan or Floridian though, it's a great asset protection move. Look up the laws in your own state before using that information to make a decision.
1) Invest you must 2) Time is your friend 3) Impulse is your enemy | 4) Basic arithmetic works 5) Stick to simplicity 6) Stay the course
bungalow10
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Re: Pay extra on principal for Rental or Primary

Post by bungalow10 »

I have a similiar question -

Rental mortgage - $195k remaining, 4.25% interest for 29 more years
Primary mortgage - $125k remaining, 2.75% interest for 14 more years

Which would you prepay?
An elephant for a dime is only a good deal if you need an elephant and have a dime.
an_asker
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Re: Pay extra on principal for Rental or Primary

Post by an_asker »

bungalow10 wrote:I have a similiar question -

Rental mortgage - $195k remaining, 4.25% interest for 29 more years
Primary mortgage - $125k remaining, 2.75% interest for 14 more years

Which would you prepay?
I'm in FL (please refer to EmergDoc's point above); I would prepay the primary.

I'm curious - what was the difference between the 15 and 30-year terms on the rental when you opted for the latter?
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Kosmo
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Re: Pay extra on principal for Rental or Primary

Post by Kosmo »

If the rental is cash flow positive don't prepay either one. I'm not. My situation:

Rental: $180k & 28.5 yrs remaining @ 4%
Primary: $235k & 29 yrs remaining @ 3.68%

Divert "extra" money to other savings/investing goals.
bungalow10
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Re: Pay extra on principal for Rental or Primary

Post by bungalow10 »

an_asker wrote:
bungalow10 wrote:I have a similiar question -

Rental mortgage - $195k remaining, 4.25% interest for 29 more years
Primary mortgage - $125k remaining, 2.75% interest for 14 more years

Which would you prepay?
I'm in FL (please refer to EmergDoc's point above); I would prepay the primary.

I'm curious - what was the difference between the 15 and 30-year terms on the rental when you opted for the latter?
I don't remember, but I think it was either .75 or 1%. I do wish we had chosen the 15 year, but for cash flow concerns we chose the 30-year.
An elephant for a dime is only a good deal if you need an elephant and have a dime.
KyleAAA
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Re: Pay extra on principal for Rental or Primary

Post by KyleAAA »

I would say it's better to pay down your primary residence instead of the rental for all the reasons listed above but with one additional reason: it's much cheaper to get capital out of your primary residence should you need it than your rental. You can do a cash-out refinance on your home at residential rates. Doing the same thing with your rental would be more expensive. Lots of (aggressive) investors do this to buy more rentals.
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jimb_fromATL
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Re: Pay extra on principal for Rental or Primary

Post by jimb_fromATL »

I vote with others who say to pay off the primary residence... for the same reasons stated; better tax break on the rental, better protection from lawsuits on your primary home.

However, this is assuming you're already maxing your tax-advantaged retirement investments such as 401(k), 403(b), TSP, IRAs, etc, which are even better bets, and have a few other ducks in a row. Incidentally, 401(k)s and similar plans typically are also protected from seizure in lawsuits, etc.

After maxing the retirement accounts and building a big emergency fund and eliminating any other consumer debts, and once your own residence mortgage is paid off, then you can't really go wrong by paying down the rental mortgage faster.

On a rental, you alway get to subtract all the mortgage interest from the rental income ... along with all other expenses including taxes, insurance, maintenance and repairs, management fees if any, and the depreciation allowance ... before you pay any income tax on the remainder. It's reported on schedule E, not an itemized deduction that could depend on your AGI. Tax Topic. But only about one out of every three or four taxpayers actually exceeds the standard deduction and gets any tax savings for their own home mortgage interest.

Do be aware that if you do pay off the rental faster, you'll reduce your expenses on it and thus increase the amount that is taxable as income every year. It will also effectively reduce the leverage rate of return a bit because you have more of your own money tied up in the rental property.

jimb
bungalow10
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Re: Pay extra on principal for Rental or Primary

Post by bungalow10 »


On a rental, you alway get to subtract all the mortgage interest from the rental income ... along with all other expenses including taxes, insurance, maintenance and repairs, management fees if any, and the depreciation allowance ... before you pay any income tax on the remainder. It's reported on schedule E, not an itemized deduction that could depend on your AGI. Tax Topic. But only about one out of every three or four taxpayers actually exceeds the standard deduction and gets any tax savings for their own home mortgage interest.

Even cash-flow positive properties often show a tax loss because of depreciation deductions - however, those deductions against ordinary income get phased out once you hit a certain income level.

Our property ends up with about $2000/year in carryover deductions. It would be advantageous for us to reduce our interest expense by $2k.
An elephant for a dime is only a good deal if you need an elephant and have a dime.
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jimb_fromATL
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Re: Pay extra on principal for Rental or Primary

Post by jimb_fromATL »

bungalow10 wrote: Even cash-flow positive properties often show a tax loss because of depreciation deductions - however, those deductions against ordinary income get phased out once you hit a certain income level.

Our property ends up with about $2000/year in carryover deductions. It would be advantageous for us to reduce our interest expense by $2k.
Would it really be an advantage? The depreciation allowance is not really an out-of-pocket expense, so with the phantom negative number you don't pay any income tax on the rental income even though you're improving your net worth in the form of reduced debt on the mortgage, paid for with OPM.

But if you pay down the mortgage enough to have a positive cash flow, you'll be paying income tax on that extra cash flow.

If you pay extra on your own residence mortgage, you're still improving your net worth, but you're not paying any tax on it.

jimb
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hand
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Re: Pay extra on principal for Rental or Primary

Post by hand »

bungalow10 wrote:

On a rental, you alway get to subtract all the mortgage interest from the rental income ... along with all other expenses including taxes, insurance, maintenance and repairs, management fees if any, and the depreciation allowance ... before you pay any income tax on the remainder. It's reported on schedule E, not an itemized deduction that could depend on your AGI. Tax Topic. But only about one out of every three or four taxpayers actually exceeds the standard deduction and gets any tax savings for their own home mortgage interest.

Even cash-flow positive properties often show a tax loss because of depreciation deductions - however, those deductions against ordinary income get phased out once you hit a certain income level.

Our property ends up with about $2000/year in carryover deductions. It would be advantageous for us to reduce our interest expense by $2k.

I don't believe deductions for rental losses are truly phased out due to income level, rather they are deferred until such time as you have an offsetting gain or when you sell the property assuming you have a gain.
Twins Fan
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Re: Pay extra on principal for Rental or Primary

Post by Twins Fan »

I also vote pay extra on the primary residence.

I'm also in a similar situation...
Rental - $185k balance at 3.75% with 29 years remaining.
Primary - $124k balance at 3.875% with 28 years remaining.

If I have some extra cash here and there, I throw it at the primary. Yes, the interest rate is slightly higher in my stiuation if one looks at that, but I don't even factor that into it. I don't prepay the rental for many of the reasons already listed.... someone else is paying the P&I + taxes and insurance on that one for me, the tax benefits for me, and I don't see any need to tie up money in the equity on that one.

The reason I have a rental is, like many others, I couldn't sell it being underwater when I moved out of state. The situation has improved quite a bit with that one in the few years I've had it as a rental, and I will probably keep it now because of that. But, I DID NOT like being underwater on that mortgage, don't want that again, and that makes me much more comfortable paying down the primary residence. Even though, yes, that's tying up cash in my home... but, if one has been underwater on a mortgage they probably get where I'm coming from there. Being debt averse like I am and underwater on a mortgage,... UGH made my skin crawl! :D
FoolStreet
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Re: Pay extra on principal for Rental or Primary

Post by FoolStreet »

Twins Fan wrote:I also vote pay extra on the primary residence.

I'm also in a similar situation...
Rental - $185k balance at 3.75% with 29 years remaining.
Primary - $124k balance at 3.875% with 28 years remaining.

If I have some extra cash here and there, I throw it at the primary. Yes, the interest rate is slightly higher in my stiuation if one looks at that, but I don't even factor that into it. I don't prepay the rental for many of the reasons already listed.... someone else is paying the P&I + taxes and insurance on that one for me, the tax benefits for me, and I don't see any need to tie up money in the equity on that one.

The reason I have a rental is, like many others, I couldn't sell it being underwater when I moved out of state. The situation has improved quite a bit with that one in the few years I've had it as a rental, and I will probably keep it now because of that. But, I DID NOT like being underwater on that mortgage, don't want that again, and that makes me much more comfortable paying down the primary residence. Even though, yes, that's tying up cash in my home... but, if one has been underwater on a mortgage they probably get where I'm coming from there. Being debt averse like I am and underwater on a mortgage,... UGH made my skin crawl! :D

Amen. Been there, done that. And I know the skin crawling feeling. I could not sell, then when I finally am able, it flow enough to keep.

I like to say that now I'm letting gravity do all the work.

My situation is:

Primary. 4.25 - 1.275M 28 left
Rental. 4.75 - 685k 28 left

I can only claim 1.1, so I'm in a hurry to pay off the primary. Well, first, I max out tax advantaged space. And actually now I'm trying to build up an efund as much as I can first.
waswas39
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Re: Pay extra on principal for Rental or Primary

Post by waswas39 »

If the rental is cash flow positive don't prepay either one... Divert "extra" money to other savings/investing goals.

^^ This.

However if you are dead set on paying one off... If faced with investing in a risk free asset that returned 3.75% or 4.75%, which would you choose?

Tax implications are secondary to the amount of interest paid in each choice. Your benefit per dollar of interest saved will be one dollar minus your marginal tax rate. Your tax benefit on rental vs primary should be the same unless you take the standard deduction, both rental and primary mortgage interest should be deducted from your income unless you do not itemize or have some other unusual circumstance. Regardless, you will come out far better just by maximizing the total interest you save instead of focusing on which is more tax efficient.
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