Payoff rental mortgages?

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Stoic9
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Payoff rental mortgages?

Post by Stoic9 »

We recently received 300K cash, do we payoff the two remaining rental property mortgages?

Rental
1. SFH PITI $910 Balance 98K INT 3.75% Remaining 23 years Rents $1500 (monthly) Value 280K

2. SFH PITI $980 Balance 54K INT 6.75 Remaining 11 yrs Rents $1500 (monthly) Value 280K

* In our 25 years in Rental our longest 'unoccupied' was 41 days, always positive cash flow

Background: Age 63/60 retired 1179 days SS at 70 and 62

A. Passive Income: 30% pays expenses, 70% for travel....More income than we can spend

B. Portfolio: 1.250M don't need (will have RMD in 10yesr on half)

C. Real Estate value 1+ Million

D. debt besides above:
Personal residence

1. PITI $1637 Balance 340K INT 2.9% Remaining 29.6 years. Value 450K

2. PITI $$790 Balance 95K INT 4.5% Remaining 26 years. Value 200K
Last edited by Stoic9 on Thu Oct 22, 2020 12:42 pm, edited 1 time in total.
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gwe67
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Re: Payoff rental mortgages?

Post by gwe67 »

The monthly rental rates are way too low as compared to the values of the properties. Sell both.
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gr7070
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Re: Payoff rental mortgages?

Post by gr7070 »

I'd pay off both #2s.

After that I'd go with personal #1 and/or taxable increasing.
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Stoic9
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Re: Payoff rental mortgages?

Post by Stoic9 »

gwe67 wrote: Thu Oct 22, 2020 11:37 am The monthly rental rates are way too low as compared to the values of the properties. Sell both.
Not sure I understand your reasoning. 1st one was me 110K and second 81K. I have never put a penny of my owe money into them.
arsenalfan
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Re: Payoff rental mortgages?

Post by arsenalfan »

Assuming you don't itemize, want to keep the rentals.

I'd just snowball the loan payoffs like the prior poster recommended: both #2, then #1 rental, then #1 primary home.

And spend/give more $$$ since you seem to be in great shape.
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big bang
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Re: Payoff rental mortgages?

Post by big bang »

gr7070 wrote: Thu Oct 22, 2020 11:38 am I'd pay off both #2s.

After that I'd go with personal #1 and/or taxable increasing.
I recommend this one too.
(1) save a lot, (2) select an asset allocation containing both stock and bond asset classes, (3) buy low cost, widely diversified funds, (4) allocate funds tax-efficiently, and (5) stay the course.
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Stoic9
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Re: Payoff rental mortgages?

Post by Stoic9 »

arsenalfan wrote: Thu Oct 22, 2020 12:46 pm Assuming you don't itemize, want to keep the rentals.

I'd just snowball the loan payoffs like the prior poster recommended: both #2, then #1 rental, then #1 primary home.

And spend/give more $$$ since you seem to be in great shape.
Thanks, yes I don't itemize and plan calls for child to inherit properties.

I tried to spend more but travel is canceled and the things I want haven't been invented yet. As for giving I haven't found many worthy causes, gave some away a few months ago but they only needed a few $1000.
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gwe67
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Re: Payoff rental mortgages?

Post by gwe67 »

Stoic9 wrote: Thu Oct 22, 2020 12:40 pm
gwe67 wrote: Thu Oct 22, 2020 11:37 am The monthly rental rates are way too low as compared to the values of the properties. Sell both.
Not sure I understand your reasoning. 1st one was me 110K and second 81K. I have never put a penny of my owe money into them.
The One Percent Rule. It applies to current value, not initial purchase price. $1,500/month is not good return on $280,000.

It looks like the properties have appreciated at a much faster rate than the rents have. Maybe you were meeting the one percent rule early on, but at this point, selling both rentals and moving assets to broadly diversified low-cost index funds is the right move.
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willthrill81
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Re: Payoff rental mortgages?

Post by willthrill81 »

gwe67 wrote: Thu Oct 22, 2020 1:02 pm
Stoic9 wrote: Thu Oct 22, 2020 12:40 pm
gwe67 wrote: Thu Oct 22, 2020 11:37 am The monthly rental rates are way too low as compared to the values of the properties. Sell both.
Not sure I understand your reasoning. 1st one was me 110K and second 81K. I have never put a penny of my owe money into them.
The One Percent Rule. It applies to current value, not initial purchase price. $1,500/month is not good return on $280,000.

It looks like the properties have appreciated at a much faster rate than the rents have. Maybe you were meeting the one percent rule early on, but at this point, selling both rentals and moving assets to broadly diversified low-cost index funds is the right move.
Agreed. And the $1,500 is gross rent, not even close to the OP's returns.

Sell both properties, take advantage of the appreciation that's likely occurred, and do something more productive with that capital than leave it tied up in rentals with poor cash flow.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings
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8foot7
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Re: Payoff rental mortgages?

Post by 8foot7 »

I agree with the advice - if you can't close to double the rents on the properties, then you should capture the appreciation by selling and either find better properties or deploy capital elsewhere.
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cchrissyy
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Re: Payoff rental mortgages?

Post by cchrissyy »

gr7070 wrote: Thu Oct 22, 2020 11:38 am I'd pay off both #2s.

After that I'd go with personal #1 and/or taxable increasing.
exactly this
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N1CKV
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Re: Payoff rental mortgages?

Post by N1CKV »

You are renting out those houses way too cheap.
I agree with the others, a big increase in rent or sell and invest that money elsewhere. The only way you could seriously justify that low of a return on over a half million in assets is if you are getting personal satisfaction from subsidizing your tenants lives.
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gwe67
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Re: Payoff rental mortgages?

Post by gwe67 »

Other thoughts:

Becoming debt free should be first priority before retiring.
You should have refinanced the 6.75% loan long ago.
Does child really want to inherit houses and not cash? Only upside seems to be cost basis is reset.
Did you really buy these rentals with no money down? How??
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michaelsieg
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Re: Payoff rental mortgages?

Post by michaelsieg »

I am not sure that selling the properties is the right answer, the 1% rule is really a rule of thumb and if you are below that but still have a nice positive cash flow there is no reason to incur transaction costs, which usually the seller has to bear at the time of the property sale.
Looking at my area, the rental property math really changed significantly, mainly due to much lower mortgage interest rates, which has pushed property prices up. I now get 4% fixed offers for 30 year commercial properties, which is much lower than even a year ago. I can't find any rentals in our area that would currently satisfy the 1% rule, other regions may vary, but this rule was also made at a time, when commercial loans were significantly higher. The cashflow for some properties still seems to work though, even if it is below 1% monthly, mainly due to the lower mortgage payments.
You would also likely incur a large capital gain as you likely also deducted the depreciation of the rentals over the years, which would make your gain even larger. I would also pay off the mortgage #2 and enjoy the cash flow. Once your kids inherit the properties, the base will reset.
niceguy7376
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Re: Payoff rental mortgages?

Post by niceguy7376 »

If OP sells the properties because the rents compared to the house values is very low, wouldnt he capture the Depreciation as well and thus have a huge tax bill?

Say they sold each for net 250K after commissions. If the base value when they started renting is at 110K and 81K. Assuming they have depreciated 100k total so far

So if my math is right, it is 250+250-110-81+100 = 400K

Would it not be better to pass it to their child after death?
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alexp
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Re: Payoff rental mortgages?

Post by alexp »

$1500 (monthly) Value 280K
Gross rent per year = $18000
We can keep $5000 for property taxes/insurance/maintenance

Net rent of $13000 per year gives a return of 4.6%.
Isn't the return better than bonds with favorable tax treatment as bonus? I agree that there is maintenance headache with rentals but if OP is good with it. What am I missing?

-Alex
arsenalfan
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Re: Payoff rental mortgages?

Post by arsenalfan »

Yeah, don't sell the rentals.

LTCG and 25% depreciation recapture. For what? To trade steady diversified real estate income for riding the wave of the market, in which you already have a sizable portfolio? As you age, consider getting property management and going entirely passive/setting up systems for your children.

My parents are in the same boat. They started buying multifamilies in Newton & Cambridge MA in the 1980s for 70-100k a pop. They appraise at 700-800k unrenovated currently, and rent for about 4-5k a month. So 0.5%. But it's entirely passive thanks to a property manager, and easy since their shortest-term tenant has been in that unit for 8 years (beauty of below-market rent, I guess). This portfolio let them FIRE in the mid 1990s, before it was trendy. It also lets them spend all their RMDs on luxury - they forwent them this year, since they just didn't have any reason to take them.

Inheritance will require an appraisal to document basis, and assumption of maintenance of the LLC and property management contract. I'm sure your children will thank you for setting them up - I know I am thankful to my parents for teaching me the value of RE since my teenage years!
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8foot7
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Re: Payoff rental mortgages?

Post by 8foot7 »

Regardless of whether you keep the rentals or not, you seem to carry a lot of debt, particularly if you characterize your situation as "more income than [you] can spend." The debt above 3% in particular you would do well to pay down with the excess income. (If you needed the funds every month, I'd still work to pay that 6% loan off asap, but since you have extra...)
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Re: Payoff rental mortgages?

Post by Abe »

OP. The 1% rule, or whatever it's called, says you should get at least 1% of the market value of your property per month in rent. This is 12% per year return before expenses come out. It looks like you are getting about half of that or about .50% which is only 6% per year and that's before expenses come out, so you are not getting enough rental income based on the current market value. That's why some people are advising you to sell the rentals and put the proceeds somewhere else where your expected returns would be higher. Of course you could always go up on the rent.
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Re: Payoff rental mortgages?

Post by flaccidsteele »

It doesn’t seem like a fantastic use of capital

It’s kinda meh

But if it gives you peace of mind it might be worth it

The issue is that the dead equity will continue to grow and crush the return on those mediocre rents

Slow growth is a relatively benign problem to have but can turn cancerous if below inflation for a significant period
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Re: Payoff rental mortgages?

Post by willthrill81 »

alexp wrote: Thu Oct 22, 2020 4:00 pm $1500 (monthly) Value 280K
Gross rent per year = $18000
We can keep $5000 for property taxes/insurance/maintenance

Net rent of $13000 per year gives a return of 4.6%.
Isn't the return better than bonds with favorable tax treatment as bonus? I agree that there is maintenance headache with rentals but if OP is good with it. What am I missing?

-Alex
You missed interest payments, which are about $3,700 annually on one property and $3,600 on the other.

Also, I'll bet that the expenses you named will be more than $5k. Maintenance alone could be that much for a rental.

Plus, comparing the returns on these properties to bonds is not even apples and oranges. More like apples and beach balls. Real estate is a hands-on investment with much more risk than bonds.
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LittleGreenSoldiers
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Re: Payoff rental mortgages?

Post by LittleGreenSoldiers »

I always thought the 1 percent rule was based on purchase price plus yearly expected maintenance. It used as a calculation at the time of acquisition to determine a property's CAP rate, etc.

1 percent rule is based on determining a rentals cash flow at time of purchase. If you end up owning the rental out right after 5, 10 or 20 years you basically have a paid annuity at that time. Minus taxes and maintenance of course. To me I look at the 1 percent rule when I purchase a rental property and have mortgage on it.

That said... Maybe it's time for me to liquidate some of my paid off and greatly appreciated rental investments. :-)
rich126
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Re: Payoff rental mortgages?

Post by rich126 »

Abe wrote: Thu Oct 22, 2020 5:07 pm OP. The 1% rule, or whatever it's called, says you should get at least 1% of the market value of your property per month in rent. This is 12% per year return before expenses come out. It looks like you are getting about half of that or about .50% which is only 6% per year and that's before expenses come out, so you are not getting enough rental income based on the current market value. That's why some people are advising you to sell the rentals and put the proceeds somewhere else where your expected returns would be higher. Of course you could always go up on the rent.
This rule is not remotely practical in any place I've lived. I sold a house in MD not long ago for $500K, I can guarantee you could never rent it for $5K or even $4K a month. Ditto for AZ, homes going for $600K+ can only be rented for about $3-4K tops.
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willthrill81
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Re: Payoff rental mortgages?

Post by willthrill81 »

rich126 wrote: Thu Oct 22, 2020 7:11 pm
Abe wrote: Thu Oct 22, 2020 5:07 pm OP. The 1% rule, or whatever it's called, says you should get at least 1% of the market value of your property per month in rent. This is 12% per year return before expenses come out. It looks like you are getting about half of that or about .50% which is only 6% per year and that's before expenses come out, so you are not getting enough rental income based on the current market value. That's why some people are advising you to sell the rentals and put the proceeds somewhere else where your expected returns would be higher. Of course you could always go up on the rent.
This rule is not remotely practical in any place I've lived. I sold a house in MD not long ago for $500K, I can guarantee you could never rent it for $5K or even $4K a month. Ditto for AZ, homes going for $600K+ can only be rented for about $3-4K tops.
Most homes are not suitable rentals. Also, that rule rarely works in HCOL areas.
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arsenalfan
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Re: Payoff rental mortgages?

Post by arsenalfan »

Yup. Paula Pant is great and basically says 1% works for lcol/mcol areas. And it’s for people leveraged hard just starting out.

OP not sure it applies to you, as I’ve posted above. If stable/low maintenance/passed the Covid stress test, rentals can be pretty steady income.
kxl19
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Re: Payoff rental mortgages?

Post by kxl19 »

Is the 1% rule the best way to look at this? One of the earlier criticisms was that the 1% rule = 12% annual yield

Isn't the yield on capital used is likely higher? Since the OP used leverage with a mortgage, and presumably put 20% down in cash, and 80% was leverage.

By example: if the property was bought at 200k, $40k down payment, and current rental profit is $13k/year, that's a return of 13/40 = 32%?

Am I thinking of this the wrong way? Because if it's 32%, that's a pretty good return for a bond-like investment.

I'm in a similar situation, so I'm curious how others are thinking of it
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Re: Payoff rental mortgages?

Post by Silly Wabbit »

kxl19 wrote: Thu Oct 22, 2020 11:13 pm Is the 1% rule the best way to look at this? One of the earlier criticisms was that the 1% rule = 12% annual yield

Isn't the yield on capital used is likely higher? Since the OP used leverage with a mortgage, and presumably put 20% down in cash, and 80% was leverage.

By example: if the property was bought at 200k, $40k down payment, and current rental profit is $13k/year, that's a return of 13/40 = 32%?

Am I thinking of this the wrong way? Because if it's 32%, that's a pretty good return for a bond-like investment.

I'm in a similar situation, so I'm curious how others are thinking of it
Look at return on equity instead. Rather than selling, work through what happens following a cash out refinance where the cash out is invested somewhere else.
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Abe
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Re: Payoff rental mortgages?

Post by Abe »

rich126 wrote: Thu Oct 22, 2020 7:11 pm
Abe wrote: Thu Oct 22, 2020 5:07 pm OP. The 1% rule, or whatever it's called, says you should get at least 1% of the market value of your property per month in rent. This is 12% per year return before expenses come out. It looks like you are getting about half of that or about .50% which is only 6% per year and that's before expenses come out, so you are not getting enough rental income based on the current market value. That's why some people are advising you to sell the rentals and put the proceeds somewhere else where your expected returns would be higher. Of course you could always go up on the rent.
This rule is not remotely practical in any place I've lived. I sold a house in MD not long ago for $500K, I can guarantee you could never rent it for $5K or even $4K a month. Ditto for AZ, homes going for $600K+ can only be rented for about $3-4K tops.
There may be a message there. Is it possible that residential houses may be overvalued in the areas you mentioned?
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gr7070
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Re: Payoff rental mortgages?

Post by gr7070 »

1% is purely a (sometimes reasonable) guess.

The only thing that matters is the local market and what that commands.

It's possible that varying greatly from 1% might indicate ones rent charged is not near market rates and thus worth investigating. However, a specific, detailed look at market rates is what is needed.
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Re: Payoff rental mortgages?

Post by SwampDonkey »

LittleGreenSoldiers wrote: Thu Oct 22, 2020 6:40 pm 1 percent rule is based on determining a rentals cash flow at time of purchase. If you end up owning the rental out right after 5, 10 or 20 years you basically have a paid annuity at that time. Minus taxes and maintenance of course. To me I look at the 1 percent rule when I purchase a rental property and have mortgage on it.
100% agree with this.
I wouldn't sell. I'd pay them off and treat them as an annuity.

Re: 1% rule - I've lived in seven cities, spread across the country, in the past decade. Of those seven houses, none would have qualified for the "1% of current value" rule. I understand the idea is only a rule-of-thumb but I think it's outdated based upon interest rates and housing prices.
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willthrill81
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Re: Payoff rental mortgages?

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SwampDonkey wrote: Fri Oct 23, 2020 10:53 am
LittleGreenSoldiers wrote: Thu Oct 22, 2020 6:40 pm 1 percent rule is based on determining a rentals cash flow at time of purchase. If you end up owning the rental out right after 5, 10 or 20 years you basically have a paid annuity at that time. Minus taxes and maintenance of course. To me I look at the 1 percent rule when I purchase a rental property and have mortgage on it.
100% agree with this.
I wouldn't sell. I'd pay them off and treat them as an annuity.

Re: 1% rule - I've lived in seven cities, spread across the country, in the past decade. Of those seven houses, none would have qualified for the "1% of current value" rule. I understand the idea is only a rule-of-thumb but I think it's outdated based upon interest rates and housing prices.
I admit that 1% is probably a bit high in some markets, but it's not far too high. The OP's .5% is way too low.

Not long ago, a poster here was considering turning a home near Seattle into a rental. His rent would have been about .5% of market value. By the time that all expenses and one month per year of vacancy were taken into account, he would only have made about a 2% return, which he quickly recognized as a pittance for the time and risk involved.

The reality of the situation is that not every home is a good prospective rental, and some cities have virtually no good prospective rentals. There are people who literally do nothing but search out rental properties for investors, a job called bird dogging.
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Stoic9
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Re: Payoff rental mortgages?

Post by Stoic9 »

Well this has gone all over the map. Thanks some good ideas. A few things

1. $1500 is top rent for this area and I have always been in positive cash flow on my properties. Wasn't aware of the 1% rule 25 years ago when I started, I was taught to seek positive cash flow or offset on personal income taxes. Spouse managed these most the time as I was away, she 'knew' our tenants and hated to raise rents but kept positive cash flow. Yes charity as most never left. Since retiring I've worked to raise them up to market, lost a couple of tenants but had a line waiting.

2. My other properties are all paid off over the years by tenants, only two left with a mortgage still. If I pay these off my 'income' will breach another tax bracket but I support paying taxes.

3. Currently 300K is in a high yield (bankrates words not mine) savings account at less than 1%.

4. I could throw it in my taxable index fund and make 10X the savings account easily. Spouse thinks we have two much already in equities.

5. Debt...sure I have some but its all good debt... Like I told my spouse when she wanted to buy a new house a few months ago, when you buy a house you aren't spending money.

6. I firmly believe in entropy but I have been able in minimize it through carefully reading the data so again thanks for all this input. The more the better.
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Re: Payoff rental mortgages?

Post by flaccidsteele »

Stoic9 wrote: Fri Oct 23, 2020 11:21 am Wasn't aware of the 1% rule 25 years ago when I started, I was taught to seek positive cash flow or offset on personal income taxes. Spouse managed these most the time as I was away, she 'knew' our tenants and hated to raise rents but kept positive cash flow. Yes charity as most never left. Since retiring I've worked to raise them up to market, lost a couple of tenants but had a line waiting.
This is why

1) successful real estate investors don’t manage their own properties

2) the yields on these rentals are really bad
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Watty
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Re: Payoff rental mortgages?

Post by Watty »

duplicate
Last edited by Watty on Fri Oct 23, 2020 11:54 am, edited 1 time in total.
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Watty
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Re: Payoff rental mortgages?

Post by Watty »

One thing that has not been mentioned is that you can likely do a 1031 real estate exchange to sell the houses and buy some other investment property with better numbers. That would avoid paying the capital gains taxes.
Stoic9 wrote: Thu Oct 22, 2020 11:32 am Background: Age 63/60 retired...
One thing to figure out when you have rental property is how that will work when you are older. One of the reasons I do not own any rental property is that I do not want to try to deal with it when I am in my 80s and in assisted living. Your spouse may also need to manage it one day if something happens to you so you need to consider how that will work too. Even if you have a property management company you still need to monitor them and occasionally find a new one.

I would also be cautious about planning to keep them so that your estate can inherit them at a stepped up capital gains cost basis. That could be 30 years from now and the tax laws may have changed by then and they may not get that. Eliminating the stepped up cost basis has been proposed before.

Most housing markets are really strong right now if not outright hot so you may be able to easily sell the properties when the leases end. One risk is if you keep the properties is that you may want to sell them later on and you could be trying to sell them in a bad real estate market.
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gwe67
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Re: Payoff rental mortgages?

Post by gwe67 »

SwampDonkey wrote: Fri Oct 23, 2020 10:53 am
LittleGreenSoldiers wrote: Thu Oct 22, 2020 6:40 pm 1 percent rule is based on determining a rentals cash flow at time of purchase. If you end up owning the rental out right after 5, 10 or 20 years you basically have a paid annuity at that time. Minus taxes and maintenance of course. To me I look at the 1 percent rule when I purchase a rental property and have mortgage on it.
100% agree with this.
I wouldn't sell. I'd pay them off and treat them as an annuity.

Re: 1% rule - I've lived in seven cities, spread across the country, in the past decade. Of those seven houses, none would have qualified for the "1% of current value" rule. I understand the idea is only a rule-of-thumb but I think it's outdated based upon interest rates and housing prices.
Cost at time of purchase only matters at time of purchase. You continually need to re-evaluate the numbers.

Say you buy a property for $100,000 and start renting it at $1,000/month. This is good.
Say it appreciates to $1,000,000 but rent stagnates and is only $2,000/month. Now you are getting 2.4% return before any costs are deducted. Not good. You could sell and put that million dollars to work elsewhere and do better. If you think you are meeting the "two percent rule" by dividing current rent by initial purchase price, you are kidding yourself.

The bet you are making is that rent will keep up with appreciation. If not, you lose ground.

Yes, these are unrealistic made-up numbers but just for illustration.

And agree with Watty that stepped up cost basis is a tax break for wealthy families and there's no guarantee it will be around forever.
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Re: Payoff rental mortgages?

Post by willthrill81 »

Stoic9 wrote: Fri Oct 23, 2020 11:21 am1. $1500 is top rent for this area and I have always been in positive cash flow on my properties. Wasn't aware of the 1% rule 25 years ago when I started, I was taught to seek positive cash flow or offset on personal income taxes. Spouse managed these most the time as I was away, she 'knew' our tenants and hated to raise rents but kept positive cash flow. Yes charity as most never left. Since retiring I've worked to raise them up to market, lost a couple of tenants but had a line waiting.
Positive cash flow is a necessary but insufficient criterion for a property being a good rental. You want the cash flow to be sufficient to justify the risk and time involved as well as at least comparable to alternative investment opportunities.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings
finite_difference
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Re: Payoff rental mortgages?

Post by finite_difference »

So two properties with $408k equity. They generate $36k/yr in rent. After taxes and maintenance, let’s say half that, $18k/yr?

If you liquidated and bought stocks, after paying fees and taxes you’d have maybe $330k? Which would have a total return of 6% nominal, or $20k, without doing anything? Assuming zero in capital gains.

Very rough/ballpark numbers but to me it seems like stocks would win out here.
The most precious gift we can offer anyone is our attention. - Thich Nhat Hanh
finite_difference
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Re: Payoff rental mortgages?

Post by finite_difference »

willthrill81 wrote: Fri Oct 23, 2020 1:58 pm
Stoic9 wrote: Fri Oct 23, 2020 11:21 am1. $1500 is top rent for this area and I have always been in positive cash flow on my properties. Wasn't aware of the 1% rule 25 years ago when I started, I was taught to seek positive cash flow or offset on personal income taxes. Spouse managed these most the time as I was away, she 'knew' our tenants and hated to raise rents but kept positive cash flow. Yes charity as most never left. Since retiring I've worked to raise them up to market, lost a couple of tenants but had a line waiting.
Positive cash flow is a necessary but insufficient criterion for a property being a good rental. You want the cash flow to be sufficient to justify the risk and time involved as well as at least comparable to alternative investment opportunities.
+1.
The most precious gift we can offer anyone is our attention. - Thich Nhat Hanh
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Re: Payoff rental mortgages?

Post by batpot »

gr7070 wrote: Fri Oct 23, 2020 9:50 am 1% is purely a (sometimes reasonable) guess.

The only thing that matters is the local market and what that commands.

It's possible that varying greatly from 1% might indicate ones rent charged is not near market rates and thus worth investigating. However, a specific, detailed look at market rates is what is needed.
Incorrect.
The 1% rule applies only to real estate as an investment.
Indeed many HCOL areas cannot achieve this, and the rule tells you: don't purchase investment properties for rent in those areas.
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Re: Payoff rental mortgages?

Post by gr7070 »

batpot wrote: Fri Oct 23, 2020 2:35 pm
gr7070 wrote: Fri Oct 23, 2020 9:50 am 1% is purely a (sometimes reasonable) guess.

The only thing that matters is the local market and what that commands.

It's possible that varying greatly from 1% might indicate ones rent charged is not near market rates and thus worth investigating. However, a specific, detailed look at market rates is what is needed.
Incorrect.
The 1% rule applies only to real estate as an investment.
Indeed many HCOL areas cannot achieve this, and the rule tells you: don't purchase investment properties for rent in those areas.
Your disagreeing that the only thing that matters (to determine rent) is the local (rent) market?

Please tell me you missed the implied context.
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Re: Payoff rental mortgages?

Post by DH0 »

The 1% rule is so ridiculous...I'm really surprised people continue to bring it up. Determining what an 'acceptable yield' is for real estate requires taking into account the cost of capital and the yield of alternative investments. 1% made sense in the 70s and 80s when mortgage rates were 6—12%. In 2020 when 30 year mortgages are < 3% and long term treasuries are < 2% the arithmetic has changed.
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willthrill81
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Re: Payoff rental mortgages?

Post by willthrill81 »

DH0 wrote: Fri Oct 23, 2020 3:48 pm The 1% rule is so ridiculous...I'm really surprised people continue to bring it up. Determining what an 'acceptable yield' is for real estate requires taking into account the cost of capital and the yield of alternative investments. 1% made sense in the 70s and 80s when mortgage rates were 6—12%. In 2020 when 30 year mortgages are < 3% and long term treasuries are < 2% the arithmetic has changed.
Again, 1% is probably too high for many markets, but it's not that far off. The OP's .5% is far too low.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings
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Re: Payoff rental mortgages?

Post by rich126 »

Abe wrote: Fri Oct 23, 2020 9:43 am
rich126 wrote: Thu Oct 22, 2020 7:11 pm
Abe wrote: Thu Oct 22, 2020 5:07 pm OP. The 1% rule, or whatever it's called, says you should get at least 1% of the market value of your property per month in rent. This is 12% per year return before expenses come out. It looks like you are getting about half of that or about .50% which is only 6% per year and that's before expenses come out, so you are not getting enough rental income based on the current market value. That's why some people are advising you to sell the rentals and put the proceeds somewhere else where your expected returns would be higher. Of course you could always go up on the rent.
This rule is not remotely practical in any place I've lived. I sold a house in MD not long ago for $500K, I can guarantee you could never rent it for $5K or even $4K a month. Ditto for AZ, homes going for $600K+ can only be rented for about $3-4K tops.
There may be a message there. Is it possible that residential houses may be overvalued in the areas you mentioned?
I think the housing market is substantially overvalued right now IMO but even near the bottom in 2011, the $300K sfh in Scottsdale would rent for under $3,000.
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Re: Payoff rental mortgages?

Post by grabiner »

Paying off the 6.75% mortgage is a risk-free 6.75% return, and even though that is a taxable return (interest is deductible), that is a great return. This is independent of how good an investment the real estate itself is.

Likewise, paying off the 4.5% residential mortgage is a good deal, unless you can refinance it cheaply to a much lower rate. You pay enough mortgage interest that you might itemize deductions, but 4.5%, even if taxable, is still a good risk-free return.

Even 3.75% is probably worth paying off. You don't have liquidity issues, so it makes more sense to pay off a 3.75% mortgage than to invest in bonds yielding much less than that.

Keeping the 2.9% 29-year personal mortgage is reasonable as long as you contribute enough to charity that the mortgage interest is mostly deductible.
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exigent
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Re: Payoff rental mortgages?

Post by exigent »

grabiner wrote: Sat Oct 24, 2020 8:51 am Likewise, paying off the 4.5% residential mortgage is a good deal, unless you can refinance it cheaply to a much lower rate. You pay enough mortgage interest that you might itemize deductions, but 4.5%, even if taxable, is still a good risk-free return.
Shouldn’t be hard to do a no-cost refi to drop from 4.5% to 3% or less on a personal property in the current rate environment. I’d seriously consider doing that if I was OP. Totally agree on killing off that higher rate rental mortgage (if keeping the property). Or refi it. Not sure what no/low-cost rates would be achievable on a rental, but surely you could do far better than 6.75% right now.
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Re: Payoff rental mortgages?

Post by exigent »

Stoic9 wrote: Fri Oct 23, 2020 11:21 am 1. $1500 is top rent for this area and I have always been in positive cash flow on my properties. Wasn't aware of the 1% rule 25 years ago when I started, I was taught to seek positive cash flow or offset on personal income taxes. Spouse managed these most the time as I was away, she 'knew' our tenants and hated to raise rents but kept positive cash flow. Yes charity as most never left. Since retiring I've worked to raise them up to market, lost a couple of tenants but had a line waiting.
This explains the excellent occupancy record. It’s not nearly as hard to keep tenants when you allow rent to fall below market rates.
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