Author Topic: Completely confused and not sure what to do  (Read 3391 times)

Foxy66

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Completely confused and not sure what to do
« on: June 28, 2016, 04:27:22 AM »
Ok, so 3 years ago, my husband suggested we purchase another house to get into the real estate market and hopefully make some money long term this way. The idea was we would buy a slightly better house than what we currently have (ours is very modest at the moment(90m2) and rent ours out. We have had offers accepted on a couple of houses, but each time I panic and freak out, and we pull out of the deal. It has been stressful, and I keep feeling I am failing, and my husband is sick of the whole thing. Meanwhile house prices are steadily increasing.

The problem is houses are very expensive here (New Zealand). We have a mortgage of 70K on a house worth 250. To get a better house, we would be looking at purchasing one for around 330, 350K (which is an average price). Our 'old' house which would be the rental would have a mortgage of 240K, and the rest on the new house, which we could pay of in 10 years.
However, by the time we pay rates, insurance, property manager, mortgage ( 5% interest only) etc, the rental house would be cash negative of around $150 a month. Let alone having any spare cash for any major issues.

Now presumably, rents will increase, capital value will increase, and 15 years down the line, we would be able to start decreasing the mortgage and eventually we would have 2 houses paid for, one producing an income, and that makes it sound attractive.

We are 37 and 42 years old, 2 kids, and I think this would be our best chance to get a large amount for retirement. But it has risks, which don't sit well with me (risking our home, tenants could be trouble, interest rates rise, and it's cash flow negative to begin with etc). I really want a different house, as we can't all fit at the dining table here, and that is very important to me. Yes, we could save more and be more frugal, but even if we did, I think it would be difficult to save as much as we could potentially make with real estate.

My husband thinks 'investing' in another house is the best way to get ahead, but I don't like the idea of owing 400K on a mortgage where the investment isn't even going to pay for itself. I can't see how any rentals pay for themselves in the current market. But if we don't buy now, things are only going to get more expensive, and then we won't have the option at all.

I guess I'm saying I see the benefits in real estate, but the risks make me uncomfortable. Plus I want a bigger house, which I know financially doesn't make sense. I feel I should at least try renting ours out if we buy another house.

Opinions?



former player

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Re: Completely confused and not sure what to do
« Reply #1 on: June 28, 2016, 06:53:32 AM »
Can you make more of your existing house?  Reconfiguring it to get a dining table that seats 2 adults and 2 children should be possible with 90 square metres.  It might mean giving up something else, such as a sofa in the sitting room or separate bedrooms for the kids, but if as you say it is very important to you it should be possible to make it happen.  You might also look at a small extension, for instance to create an eat-in kitchen - which should increase the value of the house.

As to owning two houses, it looks as though technically you would have a mortgage of $240k on the rental with no equity, and a home with equity of $180k and a mortgage of $160 or so.    Of course, most of the mortgage on the rental is just a way of disguising the cost of the house you will be living in - which is to say, your rental might look like more of a paying proposition if it only had a mortgage of the current $70k, but your living expenses in the new house would include a whopping big mortgage of $330k.

As you say, you would be taking a risk now in the hope of long-term benefit.  The risks you are taking now are being a lot poorer in terms of what you can spend, and being at risk of financial disaster if you stopped being able to service those two mortgages, through job loss, illness, disability or the death of you or your spouse.  So think very carefully about how secure your jobs are and what insurance you can take to cover other risks.

What would be your returns if you put your savings into other investments, such as index funds?  With a small mortgage, you should have enough savings out of current income to build up some sizeable investments.  You could put some of it into real estate investments, perhaps?

Even if a rental looks like a good long-term bet for you, keeping your current house as a rental might not be the best way to go - perhaps look for something cheaper with better returns as a rental.

catccc

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Re: Completely confused and not sure what to do
« Reply #2 on: June 28, 2016, 09:45:08 AM »
If the rent is not even covering the mortgage, this is not a smart move, IMO.  If you were in an area where the price to rent ratio was different, this might be a good idea, but that's not the case. 

It does not sound like you are well suited to be a landlord because of your worries over all the potential troubles.  It also sounds like your husband has not done his research on investing in real estate if the thinks that having a rental property with negative cash flow is a good idea.  He can try to bank on appreciation, but that doesn't give you anything to spend unless you sell or borrow against the place.

You should compare the assumed return of the real estate investment to the return on an investment in an index fund or something similar.  DH and I looked at a place that seemed like it would be decent as a rental property, then ran the numbers against a hypothetical investment with 7% return.  The difference was marginal, and we basically decided it was much better to sit back, do nothing, and earn 7% as opposed to have all the responsibilities and worries of being a landlord and maybe banking an extra grand a year.  Not that those were the exact numbers, but I wouldn't take a job as a property manager for $1,000 a year, and neither would DH. 

That's another thing with the rental.  You need to factor in property management costs, even if you are going to do it yourself.  What if one day you don't want to, or can't?  Also, because even if you are doing it yourself, you are forgoing work or leisure to tend to your rental property.  When DH and I were talking about our proposed real estate investment, I factored in $600/yr for lawn maintenance.  He said, "oh, I'll just do that."  And I said, "okay, so if someone offered you $600 to take care of their lawn for the year, you'd say yes?"  Well, he wouldn't.  So you really need to factor that stuff in, even if you are doing it yourself.

Go to the real estate thread for more of this wake up call type stuff.  Because I used to look at properties and think "easy money," too.  But it's not always.

It doesn't sound like this is your best chance to get a large amount for retirement.  It's your chance to start a new, low paying career as a landlord, if that is what you want.  For your best chance at a large amount for retirement, learn to love your current home and invest anything extra you can save by not buying a rental property.

I suggest you post numbers over in the real estate area of the forum.  They will probably burst your husband's bubble.  But somebody needs to do it.

SwordGuy

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Re: Completely confused and not sure what to do
« Reply #3 on: June 28, 2016, 10:34:41 AM »
I think you are right to panic and back off.  This sounds like a terrible plan.

I suggest you and your spouse get this book and go thru it together.  It will teach you how to run the numbers to determine if it's a good rental property.

Then you'll have no reason to panic because you'll know whether to do the deal or not

https://www.amazon.com/Estate-Investor-Financial-Measures-Updated/dp/1259586189/ref=sr_1_fkmr0_1?ie=UTF8&qid=1467131559&sr=8-1-fkmr0&keywords=gallinelli+everything+you+want+to+know+about+cash+flow


ashfo

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Re: Completely confused and not sure what to do
« Reply #4 on: June 28, 2016, 12:06:23 PM »
I would run the numbers keeping 20% equity in your current home.  Right now you say it is worth $250,000 and you would have a mortgage of $240,000 on the property, which is only like putting 4% down.  Run the numbers with a mortgage of $200,000 to see if the investment would make sense, and that you would still be able to pay the mortgage on your new home because it would have a higher mortgage.  If these new numbers don't work, then it's probably best to just sell the old house and buy a better real estate investment or invest somewhere else.

Choices

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Re: Completely confused and not sure what to do
« Reply #5 on: June 28, 2016, 01:26:25 PM »
It does not sound like you are well suited to be a landlord because of your worries over all the potential troubles.  It also sounds like your husband has not done his research on investing in real estate if the thinks that having a rental property with negative cash flow is a good idea.  He can try to bank on appreciation, but that doesn't give you anything to spend unless you sell or borrow against the place.

You should compare the assumed return of the real estate investment to the return on an investment in an index fund or something similar.  DH and I looked at a place that seemed like it would be decent as a rental property, then ran the numbers against a hypothetical investment with 7% return.  The difference was marginal, and we basically decided it was much better to sit back, do nothing, and earn 7% as opposed to have all the responsibilities and worries of being a landlord and maybe banking an extra grand a year.  Not that those were the exact numbers, but I wouldn't take a job as a property manager for $1,000 a year, and neither would DH. 

That's another thing with the rental.  You need to factor in property management costs, even if you are going to do it yourself.  What if one day you don't want to, or can't?  Also, because even if you are doing it yourself, you are forgoing work or leisure to tend to your rental property.  When DH and I were talking about our proposed real estate investment, I factored in $600/yr for lawn maintenance.  He said, "oh, I'll just do that."  And I said, "okay, so if someone offered you $600 to take care of their lawn for the year, you'd say yes?"  Well, he wouldn't.  So you really need to factor that stuff in, even if you are doing it yourself.
Exactly. If you really want/need a bigger house, you can sell your current house and move up a bit. How close are your kids to moving out? If it's only a year or two, you might not need a bigger house for long and making the best of what you have could be a better option.

As for investing in real estate, you could invest in the stock market until you have enough to buy a house for cash, then use that as a rental.

Foxy66

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Re: Completely confused and not sure what to do
« Reply #6 on: June 28, 2016, 03:36:02 PM »
Thank you for you replies, they help me feel validated in my feelings.

We know people who have made money with real estate, and since we bought our house 12 years ago, we have already seen it's value double, which makes it seem like a good idea. And if we paid a rental off, then we would have the rent as an income in retirement. But in the meantime, we would be paying money just to keep it's head above water and counting on capital gain in the long run, which isn't assured.

I know strictly speaking we should stay where we are and just pay off the mortgage and invest whatever we have left, but there are many other things that annoy me about our house, and the kids are another 10 years away from moving out, and space is tight.

I've looked into extending the lounge and kitchen to make space, but building and renovations are expensive in NZ, and it would be 40-50K to get the house the way I want it, and I don't believe it would increase the value that much. I would like to buy a bigger house now, and when we retire, we could downsize then, which would hopefully free up at least some small sum of cash.

I obviously need to do some more talking with my husband, I just wanted to be sure it's not just my fears holding us back from a potential gain in assets and retirement funds.

marty998

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Re: Completely confused and not sure what to do
« Reply #7 on: June 28, 2016, 04:13:09 PM »
Am I missing something? You have a mortgage of $70k on a $250k house (House A).

You are going to add $170k mortgage to House A, use that to buy House B worth ~$340k and presumably also have a mortgage of $170k on House B which would be paid off in 10 years.

You are then saying House A is cash flow negative because of the increase in debt?

My feeling is that you should assess the rental on a stand alone basis... You are not servicing a debt of $240k on the potential rental property. You are servicing a debt of $70k (and you should keep investment loans segregated from personal PPOR loans).

Your new House should be assessed as having $340k debt, not just $170k.

The situation is still unlikely... because you'll be hard pressed to have a bank lend you $240k secured against a property worth $250k without cross collateralising the debt against both properties, which is undesirable for both tax and structure purposes.

Foxy66

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Re: Completely confused and not sure what to do
« Reply #8 on: June 29, 2016, 03:11:53 AM »
We've spoken to mortgage broker, lawyer and accountant regarding this issue.

So, yes we put the maximum amount of mortgage we can on house A and that would be interest only. $240 k
The rest (160K) is on house B making our personal mortgage lower, P &I.
So total worth of the houses would 590K with a mortgage of 410, which meets the banks requirements. There would be two seperate mortgages, but with the same bank, and we would form a company.

Depending on how much maintenance and vacancy we have House A could cost us an extra 30-40 a week, which we would pay for out of our personal spending. You can look at that as 'investing' long term, as the house will presumably rise in value.

We are essentially using the equity we have now to purchase the other house, which is what makes me nervous as in worst case scenario we could lose both, or be able to sell one, but be worse off.

We can insure for death and we have a lump sum we would get if one of use were diagnosed with cancer or other major illness.

We could buy a cheaper place for us, and have 2 houses with a smaller total mortgage, which is slightly less risk, but House A never quite pays for itself at 240k, it would have to be around 200K. But either way, we still have to pay for the extra, if we put it on our personal mortgage and pay it there, or pay it for the 'rental'.


ahoy

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Re: Completely confused and not sure what to do
« Reply #9 on: June 29, 2016, 04:15:20 AM »
I guess you're not in Auckland - otherwise you'd be looking at closer to a million for average price.   sorry, useless post of mine.

Foxy66

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Re: Completely confused and not sure what to do
« Reply #10 on: June 29, 2016, 03:45:28 PM »
Nope, we're in Dunedin. I feel we SHOULD do this plan, I think it COULD pay off, and logically I don't think all the disasters I imagine will happen. But I was brought up debt adverse, and it makes me uneasy. 350k is a lot of money, even if people are getting used to mortgages that big now days.

Foxy66

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Re: Completely confused and not sure what to do
« Reply #11 on: June 29, 2016, 04:03:34 PM »
I think we have 3 options

A- Stay where we are, pay off the mortgage ( with a revolving credit mortgage we could do it in 3 years if we focus on it), then invest/save whatever money we left over. I don't knew much about shares, but I guess that would be a good place to start. Safest route, but might not actually make that much

b - upgrade to a bigger home, pay that off ( 10-14 years?) then save the mortgage payments. Could down size closer to retirement to free up cash. Happier with a nicer house, probably not the best financial decision.

c - buy a rental ( either staying where we are or buying a bigger house). Would have 2 assets in 20-25 years, maybe a little cash saved up. More stress for me, but bigger pay off


catccc

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Re: Completely confused and not sure what to do
« Reply #12 on: June 30, 2016, 07:49:17 AM »
I still don't see how option 3 is necessarily a better pay off than option 1 or 2- you need to run numbers, it may or may not be.

ysette9

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Re: Completely confused and not sure what to do
« Reply #13 on: June 30, 2016, 11:03:18 AM »
I suspect you are stressed and not sure what to do because 1) you aren't sufficiently educated about your investment options and real estate in particular, and 2) this just is not a good idea overall. Don't do anything, especially something of this magnitude (!) until you both have a thorough understanding of what you are doing and why. You may benefit a lot from posting a case study as it would be an exercise in assessing your entire financial situation.

Your goal is to build your assets to support financial independence/retirement. Real estate is not the only way to do it, and it certainly is not necessarily the easiest or the best. Think of that option only in the context of it being one of many places you could put your extra cash. I have no idea what the real estate market is like in your area so look for calculators or other help online specific to your region. Calculate what an expected (realistic) return would be taking into consideration money lost in mortgage interest, time when the house is not rented, anticipated maintenance and repairs, management costs, etc. This article is focused on the US market, but much of what is written should hold true for you also: http://jlcollinsnh.com/2013/05/29/why-your-house-is-a-terrible-investment/.

On the other hand, you could take your extra savings each month and plunk it into an investment account with your favorite low-cost index funds. That is a proven method for building wealth so long as you understand what you are investing in and appropriately assess your risk tolerance so you don't panic and pull out when the market drops. Or, you could start a small business or do many other things. The point is, do your homework and don't make a move until you are comfortable. These forums are an excellent source of info so take advantage.