Cash-Out Refinance of Commercial Building

[blueberrydude]

Hi mustachians!  I have a bit of a tangled scenario that I'm trying to navigate.  The details are as follows:

I've been helping my step-mother with her finances since my dad passed away 2.5 years ago.  We've been able to budget, eliminate her credit card debt, and she even sold and downsized her house.  I'm super proud of the progress she's made, but there's one more pretty big hurdle:  She owned a rental house that sold a couple of years ago and owes capital gains tax on it this year to the tune of about $115,000.  She does not have the cash to pay this off, directly.  She does own a commercial building, free and clear.  She wants to do a cash-out refinance on the building and use that money to pay off the IRS.  Basically, she'd rather deal with a bank loan than the government.  She's tried applying with two banks, but both have been unsuccessful (First Bank and Wells Fargo). 

A friend of a friend just sent her over a proposal for a 20-year amortization loan for $93K with a 5-year balloon payment.  The rate would be 4.75% and her monthly payment would be $625.  Everything I've ever seen about loans with balloon payments have been negative so I advised her to hold off before agreeing to that.  She was interested in the loan because it would "handle" the current situation and then she could "figure it out" when the balloon payment became due in 5 years. 

This "kick the can down the road" sort of thinking drives me crazy and I'm hoping someone here can point us in a better direction. 

Any advise or resources would be greatly appreciated!

[MustacheAndaHalf]

There's something hidden in that loan - she's not paying 4.75%.  For example, convert 4.75% to daily compounding:
(1 + (.0475/365)) ^ 365 = 1.0486
So even compounded daily, I get a 4.87% interest rate.

115,000 x .0487 = $5600 / year = $467 / month
But her payments would be +33% higher, at $625/month.  Sounds more like a 6.5% loan, after fees are included.
Sounds like the "friend of a friend" is profiting and hiding the real interest rate, which is a bad start.

Your step-mother might be better off with an IRS payment plan that costs 5% in penalty interest:
https://www.irs.gov/newsroom/interest-rates-remain-the-same-for-the-second-quarter-of-2020
"February 28, 2020 WASHINGTON – The Internal Revenue Service today announced that interest rates will remain the same ... five (5) percent for underpayments; ..."

[Papa bear]

There's something hidden in that loan - she's not paying 4.75%.  For example, convert 4.75% to daily compounding:
(1 + (.0475/365)) ^ 365 = 1.0486
So even compounded daily, I get a 4.87% interest rate.

115,000 x .0487 = $5600 / year = $467 / month
But her payments would be +33% higher, at $625/month.  Sounds more like a 6.5% loan, after fees are included.
Sounds like the "friend of a friend" is profiting and hiding the real interest rate, which is a bad start.

Your step-mother might be better off with an IRS payment plan that costs 5% in penalty interest:
https://www.irs.gov/newsroom/interest-rates-remain-the-same-for-the-second-quarter-of-2020
"February 28, 2020 WASHINGTON – The Internal Revenue Service today announced that interest rates will remain the same ... five (5) percent for underpayments; ..."

I don’t think OP said this was interest only.  There would be principal payments with that 625, based on the 20 year amortization schedule of the loan. With the balloon payment, you would then owe the principal amount of the loan (less than the original loan amount) as one payment, or refinance into a new loan with new terms. 

I’m not going to draw up a table, but that’s probably where most of that difference is. 


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[MustacheAndaHalf]

Papa bear - That makes sense, I did assume all balloon loans are interest only.

For a $93,000 loan amortized over 20 years but due in 5 years, at 4.5% interest:
https://www.mortgagecalculator.org/calcs/balloon.php
That website shows $77k due after 5 years, paying $588.36/month.  My guess is the $2,200 extra paid over the loan ($36.64/mo for 5 years) covers the loan fees.

If I instead plug 5.22% in with the same term and amortization, I get $625.12/month.  So effectively paying 5.22% for 5 years, with fees included.

That makes the IRS penalty interest of 5% look even better.

[Papa bear]

Commercial property is a business.  The interest and other fees associated with the loan would be expensed.  The net rate would be less due to the tax savings. 

Whether or not it makes sense is still up to the individual financial circumstances of the OP. 


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