Author Topic: 50k houses - leverage or buy outright?  (Read 3401 times)

Vilgan

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50k houses - leverage or buy outright?
« on: November 21, 2015, 08:33:35 AM »
Hi all,

I'm starting to consider real estate investments. Since the Seattle market seems like a terrible place to buy for cashflow (great for speculation), I've been looking elsewhere. One place I've looked at is my old neighborhood in a different state where houses run 40-50k and rent for 650-800. The appreciation will be equal to inflation (if that) but the demand for rentals in the area should be fairly solid.

One thing I've been debating with that though is whether to bother with leverage or just to buy the houses outright. While big lenders don't like to lend under 100k, USAA seems open to smaller mortgages.

Being fairly new to it all I could really use some help filling out the pros/cons both sides and if anyone has experience with houses in that price range I'd love to hear it.

My initial thoughts on pros/cons to buying it outright vs 5 houses w/ leverage:

Pros:
1) Might be able to get a better deal if I can offer cash
2) Fewer tenant interactions
3) Less risk(?)

Cons:
1) Less ROI (only one obvious con, but its a big one!)

Thoughts/advice/observations?

Rezdent

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Re: 50k houses - leverage or buy outright?
« Reply #1 on: November 21, 2015, 09:17:13 AM »

Opinions here seem to skew strongly to the leveraged approach, but I'm on the fence.  I think it will depend on what goals you have and your circumstances.

If you are in the accumulation phase of life, using 50K to leverage multiple properties is a great way to jumpstart accumulation.  You will be able to buy more properties for the same initial startup cost, or deploy the remaining cash to other investments.  You also assume more risk.

If you are in the preservation stage, owning free and clear can help diversify your stache with less risk.  Just be sure that the property would meet or exceed the 1% rule using the numbers as if financed.  In other words, don't use the 50k to force a rental to cash flow.

arebelspy

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Re: 50k houses - leverage or buy outright?
« Reply #2 on: November 21, 2015, 09:29:38 AM »


Opinions here seem to skew strongly to the leveraged approach, but I'm on the fence.  I think it will depend on what goals you have and your circumstances.

I don't think anyone here would blindly say use leverage, but everyone would agree with that second sentence. :)

As for the OP, I'd lean towards cash on a purchase so low, but lack of info means it's hard to determine an answer.  What will the additional costs be to close?  Rate and terms? Opportunity costs?  Current life position, goals, risk tolerance, etc.? Need lots more info.
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Rezdent

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Re: 50k houses - leverage or buy outright?
« Reply #3 on: November 21, 2015, 10:09:57 AM »


Opinions here seem to skew strongly to the leveraged approach, but I'm on the fence.  I think it will depend on what goals you have and your circumstances.

I don't think anyone here would blindly say use leverage, but everyone would agree with that second sentence. :)

Sorry I wasn't more clear with my opinion - I've seen lots of posts around here advocating the leveraged approach, and I think this is because many here are in accumulation phases.

Vilgan

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Re: 50k houses - leverage or buy outright?
« Reply #4 on: November 21, 2015, 10:50:56 AM »


Opinions here seem to skew strongly to the leveraged approach, but I'm on the fence.  I think it will depend on what goals you have and your circumstances.

I don't think anyone here would blindly say use leverage, but everyone would agree with that second sentence. :)

As for the OP, I'd lean towards cash on a purchase so low, but lack of info means it's hard to determine an answer.  What will the additional costs be to close?  Rate and terms? Opportunity costs?  Current life position, goals, risk tolerance, etc.? Need lots more info.

Those are good questions. I'm perhaps a bit too early in the process to know the answers to some of these.

Risk Tolerance: would prefer not to lose money, but not crippling if I do. Lots of human capital left.
Life position: self employed, 28% tax bracket this year, 33% tax bracket going forward for next few years while I focus on making lots of $, less after that. A side effect of this is that time is somewhat valuable. I enjoy learning/doing new things so I see it as a free time/fun thing more than competing directly with billable hours. However, it would be a bad thing if it started becoming a distraction to the point that it impacted my primary business. I plan on having a manager and trying to be a "text message a few minutes a month" landlord rather than being heavily involved if we do it remotely.
goals: short term is to learn about real estate, longer term is to be fairly solidly FI so I can do what I want without stressing about money. 2500/month would be the "I can do what I want!" point to cover expenses/mortgage on primary home.
Rate and terms: no clue. Opportunity cost would be doing this instead of dumping it into equity index funds.
« Last Edit: November 21, 2015, 10:54:52 AM by Vilgan »

arebelspy

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Re: 50k houses - leverage or buy outright?
« Reply #5 on: November 21, 2015, 11:37:53 AM »



Opinions here seem to skew strongly to the leveraged approach, but I'm on the fence.  I think it will depend on what goals you have and your circumstances.

I don't think anyone here would blindly say use leverage, but everyone would agree with that second sentence. :)

As for the OP, I'd lean towards cash on a purchase so low, but lack of info means it's hard to determine an answer.  What will the additional costs be to close?  Rate and terms? Opportunity costs?  Current life position, goals, risk tolerance, etc.? Need lots more info.

Those are good questions. I'm perhaps a bit too early in the process to know the answers to some of these.

Then you're much too early in the process to decide on leverage or cash. :)

Learn about RE. Start looking for what might be deals. You can decide how much leverage to use when the time is right.
We are two former teachers who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and are now settled with two kids.
If you want to know more about us, or how we did that, or see lots of pictures, this Business Insider profile tells our story pretty well.
We (rarely) blog at AdventuringAlong.com. Check out our Now page to see what we're up to currently.

mr_orange

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Re: 50k houses - leverage or buy outright?
« Reply #6 on: November 21, 2015, 11:51:17 AM »
Transaction costs on purchases this small are likely to be very large.  Have you investigated using a line of credit and paying it off gradually as a hybrid approach?

Bearded Man

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Re: 50k houses - leverage or buy outright?
« Reply #7 on: November 22, 2015, 09:45:55 AM »
I'm curious, aren't investments in such low priced houses throwing good money after bad? The cost to remodel the house will not likely increase it's value, when you need renovations, at least not significantly. Or do you just consider that the cost of doing a cash flow only business? It's certainly tempting to buy houses for 50K that rent for $800 a month, but when you need to remodel, aren't you paying a ton of money to do so, and not gaining appreciation as a result? Or do you just factor that into your expenses from rent?

mr_orange

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Re: 50k houses - leverage or buy outright?
« Reply #8 on: November 22, 2015, 10:03:47 AM »
In general low-cost houses in poor areas of town will produce nice cash flows on paper.  In the real world the expenses really exceed the "50% rule" (of thumb) figures because economic vacancy is generally modeled as low by newbs.  The business model for purchasing these is different than purchasing higher-end rentals.  There are probably over 1000 threads on this on Biggerpockets.  I'd suggest anyone interested in studying it to look at those threads. 

clarkfan1979

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Re: 50k houses - leverage or buy outright?
« Reply #9 on: December 03, 2015, 03:28:09 PM »
Buy the 50K house that needs work in the 100K house neighborhood. Some houses in bad shape will not qualify for a loan so you will have less competition if offering cash.

zephyr911

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Re: 50k houses - leverage or buy outright?
« Reply #10 on: December 04, 2015, 07:45:21 AM »
Rate and terms: no clue. Opportunity cost would be doing this instead of dumping it into equity index funds.
Since you say you want to learn, here's a good exercise: go talk to some local lenders and ask them about their options in your price range. Most likely, you will find that available financing for properties valued at $50K or less is limited, and rates and terms are not as attractive. For various reasons, many lenders have a minimum loan amount of $50-60K for mortgages, which generally means a $62,500 or $75,000 purchase price at the de facto maximum of 80% loan-to-value (LTV). Lower amounts often force you to use other types of loans, like unsecured personal loans or business property loans, where rates can exceed 10% and payback periods may be shorter.

For this reason, once the value of a property falls below that general threshold, price becomes highly negotiable and cash buyers willing to rehab distressed properties can find great deals... but unless you grew up doing construction and can handle a large project on your own, or have a partner with those skills who will cut you a deal on costs, that's a challenging first buy for a new landlord, with high risk involved.

But like I said, contact your local institutions and see what that picture is like, because these things do vary with location. Understanding how banks evaluate credit risk on investment property loans is a real step toward understanding how investment property works, and knowing your options (in detail) is key to making good decisions. Take your time and learn as much as you can before making a commitment like this.

CashFlowDiaries

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Re: 50k houses - leverage or buy outright?
« Reply #11 on: December 04, 2015, 10:21:44 AM »
My lender has no minimum loan limit, i have all my properties leveraged and 3 of them are right at the 50k purchase range.  I would continue doing this all day long as long as im getting the returns I want even with closing costs and other expenses added in.   Rezdent hit it right on the head, if you are in growth mode it is a much easier way to grow assets by using leverage.

That is exactly what i am doing and exactly what i will continue doing.  Once I am happy with the amount properties or passive income I am receiving, then i will start paying off mortgages.  But for now, leverage and grow.  With the rates being so low anyways, its a shame to not take advantage.    All my 7 mortgages are in the 4% range which I love!!