Author Topic: Pull equity from rental property to buy another house for owner occupy?  (Read 1419 times)

SeaWA

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I'm like to get some advice.

I own one house in Seattle (property 1), which I rent to tenants. They are great, the rental income (3,900) covers the mortgage (PITI of 3,300) and I want them to stay. I live in another house (property 2), which I do not own. I live in property 2 because I get substantially below-market rent. Property 2 is small and very poorly maintained. It was great for a long time, but now I am married and have a baby. I would like to buy a second house (property 3) and owener occupy.

I have ~$400k in equity in Property 1.
I would like to get some equity out of Property 1 to put as a down payment on Property 3.
I have ~10% down payment in cash and it would take me another 9 months to save enough to have 20% to put down.

In the last week I've called my credit union, and I've talked with two mortgage brokers. Mortgage broker 1 said that he recommended getting a equity loan on Property 1 using my bank or credit union. Mortgage broker 2 said they would look into options and get back to me. The credit union said what I want is called a "bridge loan" and they don't grant bridge loans, and they don't know anyone who does.

I know there are several experienced BRRRR people on this forum. Do you have any suggestions/recommendations for the best way to move forward?

Thank you!



Paper Chaser

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Seems like the rental (property #1) is a marginal performer to me. It's worth at least 400k based on your equity and rents for $3900 so it's not meeting the 1% rule. The more the property is worth, the further it gets from meeting the 1% rule. Best case scenario seems like it's worth 400-500k, so it's kind of close to the 1% rule, and you're banking on appreciation for most of your profit moving forward.

$3900 rent - $3300 PITI leaves 600/month for management, cap ex, vacancy, and profit which you'll probably find isn't very much.

You've probably seen great appreciation in the value of the property in recent years. Why not cash that out and just sell the marginal rental?

SeaWA

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Seems like the rental (property #1) is a marginal performer to me. It's worth at least 400k based on your equity and rents for $3900 so it's not meeting the 1% rule.

$3900 rent - $3300 PITI leaves 600/month for management, cap ex, vacancy, and profit which you'll probably find isn't very much.

You've probably seen great appreciation in the value of the property in recent years. Why not cash that out and just sell the marginal rental?

This is a good question. Your estimates are close to the mark. I bought Property#1 for $600K in 2017 with 10% down. I put in another ~$100k in repairs (60k materials estimated 40k of labor from me and my wife, unpaid). Today it is worth ~900k. So effectively that is $160k investment that is worth 400k three years later. Let's call the margin on the rent negligible, as I've made some repairs, and some upgrades. This is a 36% CAGR. Over the same period VTI has gone from $115 to $141 (though it hit a high of 171). Neglecting dividends this is a 7% CAGR (If you sold at 171 then it would be 14% CAGR). So yes, it has outperformed the market, and I have more equity in the house than I anticipated.

I'm not selling Property#1 because:
A) I need to leave my current situation (Property#2) and if I can't buy another house (Property#3) then I'll move into the one I own (Property#1).
B) This has beaten the pants off the market, and gives me tax deductions for depreciation, and the margin on the property will continue to increase as rent increase will outpace PITI increase. Additional appreciation is speculative, but in this city it is more likely than not.

I want to pull cash out of the property because I don't like having so much equity in on place, and because I will still capture 100% of appreciation if I have 1% equity or 100% equity.

For this reason I want to pull cash out and buy a new house to meet my new needs. We have a very modest lifestyle and expenses, but we do need a place to live. Seattle is a VHCOL environment, so a ~20% down payment is a lot of cash.

I will buy Property#3 to occupy until we retire, then I'll rent or sell, and move to a LCOL location.

srad

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For this reason I want to pull cash out and buy a new house to meet my new needs.

What is your current interest rate on the house?  if its over 4.5, then your answer is simple, you do a cashout refi on your current 500k(ish)  loan and take out as much money they will let you take out.  If you have a sub 4% rate, then you could look at what it would cost to pull out the equity via a HELOC or 2nd lien.  Those are more spendy which is why i prefer doing  regular cashout refi's keeping the LTV below 75%.  You get the best rates at 75% LTV and lower. 

SeaWA

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For this reason I want to pull cash out and buy a new house to meet my new needs.

What is your current interest rate on the house?  if its over 4.5, then your answer is simple, you do a cashout refi on your current 500k(ish)  loan and take out as much money they will let you take out.  If you have a sub 4% rate, then you could look at what it would cost to pull out the equity via a HELOC or 2nd lien.  Those are more spendy which is why i prefer doing  regular cashout refi's keeping the LTV below 75%.  You get the best rates at 75% LTV and lower.

Current interest rate is 4.25%

I've now talked with both of my credit unions in Washington. One says that they don't offer cash-out refi on investment properties. The second could do it, but the terms were egregious. (7.25% rate, max LTV of 75%, so they could only offer 165K. But closing costs would be $23K (because of buying points) and would come out of the loan, so $165k - $23 = $142K. So I'd pay 23K to borrow 142K at 4.25%).

Is there some better option that I'm missing?




Jon Bon

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You are most likely losing money on property 1 every single month.

It sounds like rent does not even cover expenses, and you have $400,000 into the house? You could lend money to the federal government and get a better return than that.

How in the world is that a good investment? Property 1 is a terrible rental property. It is however a fantastic speculative property.

You need to sell it, not want you want to hear, but you have way too much money locked up in it and the rents are frankly terrible for what it is valued at. Full disclosure I don't understand the Seattle market at all and the stories I hear coming out of there are often crazy.  Borrowing another 300k against it might give you more cash in the short term but the returns still are terrible.

You have done well in appreciation, but you have no realized any of these gains that you posted about up thread. My advice would be to cash your chips in, you already won.

Papa bear

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I couldnít come up with the energy to reply last night on this.  Itís the same situation ad nauseum for any landlords in PNW.  Everyone who bought a place was born on third base and thought they hit a triple. 

That house is a Terrible rental right now!  It was a fantastic speculative play on your money, but now itís terribly inefficient. 

The PNW is fantastic if youíre a renter. Landlords are subsidizing you! 

In your shoes, you have a TON of awesome equity built up.  But you would pay through the nose if you sold for cash.  Maybe consider moving back into this house for 2 years, then selling it for that awesome tax free capital gains.  OR if you really want to be a landlord, sell that place and 1031 it into solid rental properties. And then go buy a primary residence to live in.

Because right now, you arenít making any money on that place.


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srad

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(7.25% rate, max LTV of 75%, so they could only offer 165K. But closing costs would be $23K (because of buying points) and would come out of the loan, so $165k - $23 = $142K. So I'd pay 23K to borrow 142K at 4.25%).

Is there some better option that I'm missing?

7.25%? That is crazy.  Call Security National, I've used them several times for loans on my rentals, they should be in the 4's for an investment property.  Unless the market is really out of wack due to the Corona.




SeaWA

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You are most likely losing money on property 1 every single month.

It sounds like rent does not even cover expenses, and you have $400,000 into the house? You could lend money to the federal government and get a better return than that.

How in the world is that a good investment? Property 1 is a terrible rental property. It is however a fantastic speculative property.

You need to sell it, not want you want to hear, but you have way too much money locked up in it and the rents are frankly terrible for what it is valued at. Full disclosure I don't understand the Seattle market at all and the stories I hear coming out of there are often crazy.  Borrowing another 300k against it might give you more cash in the short term but the returns still are terrible.

You have done well in appreciation, but you have no realized any of these gains that you posted about up thread. My advice would be to cash your chips in, you already won.

Thanks Jon Bon.

Yes, it has been a successful speculative property. I appreciate your advice recommending selling to realize gains-- if my goal were to realize the gains. However, that's not what I'm trying to do.

I need a new place to live. I can either a) save for another 9-12 months to get a full 20% down payment and buy another house, b) pull money out of this rental to expedite the 20% down, or c) move in to the rental.

Really, it seems like the best option is to move in, then to use my excess cash to buy a better rental. I don't know that 1% rule rentals are available around here, but I'll look.

SeaWA

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That house is a Terrible rental right now!  It was a fantastic speculative play on your money, but now itís terribly inefficient. 

In your shoes, you have a TON of awesome equity built up.  But you would pay through the nose if you sold for cash.  Maybe consider moving back into this house for 2 years, then selling it for that awesome tax free capital gains.  OR if you really want to be a landlord, sell that place and 1031 it into solid rental properties. And then go buy a primary residence to live in.

Because right now, you arenít making any money on that place.

Thanks for the feedback, Papa bear.

I think the bolded text is probably the best option.


SeaWA

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(7.25% rate, max LTV of 75%, so they could only offer 165K. But closing costs would be $23K (because of buying points) and would come out of the loan, so $165k - $23 = $142K. So I'd pay 23K to borrow 142K at 4.25%).

Is there some better option that I'm missing?

7.25%? That is crazy.  Call Security National, I've used them several times for loans on my rentals, they should be in the 4's for an investment property.  Unless the market is really out of wack due to the Corona.

I should have been more clear. The rate was 7.5%. The super high closing costs were to buy points to bring it down to 4.5%. There is no way I'm interested that type of deal.

I'm going to keep calling around, but the more I look at it, the more it seems I should wait until I can ask the tenants to leave, and live there.

Given the current lock-down, it will probably be a while before I can ask the tenant to leave.

Jon Bon

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Have you live in the property at all the past 5 years?If your not familiar with the 2/5 rule be sure to look that up.

If you need a place to live, sure move in to your house. That is however a ton of money to have in a house. If you live there for 2 years you have the option of selling it and getting the tax gains mostly/completely tax free. This buys you some time and gives you options.

Is million dollar house common for your area? Are you comfortable with that kind of % of NW being buried in your house? If so, your plan to move in is fine. If you need the cash or cant afford a ~5,000 house payment maybe consider selling.

FWIW I am refinancing my investment property for 3.5% and pulling out ~50k. Small potatoes compared to you PNW folks but just a data point for you.
FMV $315,000
Gross Rents $2,500



 




rothwem

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FWIW I am refinancing my investment property for 3.5% and pulling out ~50k. Small potatoes compared to you PNW folks but just a data point for you.
FMV $315,000
Gross Rents $2,500

If you donít mind sharing, who are you refinancing with?  Iíve got a bunch of equity in my rental property that Iíd like to get out also, all of the quotes Iíve gotten for rates are in the 5-6% range though.

SeaWA

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Have you live in the property at all the past 5 years?If your not familiar with the 2/5 rule be sure to look that up.

If you need a place to live, sure move in to your house. That is however a ton of money to have in a house. If you live there for 2 years you have the option of selling it and getting the tax gains mostly/completely tax free. This buys you some time and gives you options.

Is million dollar house common for your area? Are you comfortable with that kind of % of NW being buried in your house? If so, your plan to move in is fine. If you need the cash or cant afford a ~5,000 house payment maybe consider selling.

FWIW I am refinancing my investment property for 3.5% and pulling out ~50k. Small potatoes compared to you PNW folks but just a data point for you.
FMV $315,000
Gross Rents $2,500

Thanks Jon Bon. I'm familiar with the 2/5 rule. One scenario I modeled was owning 3 houses, and rotating living between them every 2 years, and selling all and claiming a 2/5 for all three. That seems like the best hack for that rule. My wife and son are game, if it means we retire earlier.

Unfortunately, million dollar houses are the norm for much of Seattle. I bike to work for health/stress/love of the bike, so I need to be within biking range. That means around 7 figures for a house. If I move in, then my mortgage is 3300, not 5,000, so I can continue to save more for better rentals and/or additional investment. I'm already maxing tax advantaged accounts available to my family (401k x 2, Backdoor Roth x 2, Mega backdoor Roth, and putting solid 529 cash away) and paying 3,300 mortgage won't impact that.

How are you getting 3.5% rate on an investment property? That is light years away from what I've been quoted.



Jon Bon

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Yeah Im not gonna knock you for the living where you dont have to drive places. I have heard Seattle is getting pretty stupid with the traffic these days. I am the same albeit at a lower COL.

Sounds like you are not afraid to house hack? I'd probably still be doing that if the wife and kids will let me. It's a hell of a way to make money "flipping" houses every 2 years and paying zero dollars in tax.

As for the loan, it is union savings bank. I 'lost' my prior banker and honestly it feels a bit too good to be true.

My experience in the past has been +1/2 a percent was the delta between going rates on primary residence and investment properties. Granted this is on a property that I am backing the loan, not an LLC.




kenmoremmm

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the 2/5 rule of old no longer works that way. i forget when, but it changed to be prorated. if you lived there for 4 years, and have owned it for 8 (4 years of renting), then you can reduce the tax hit by 4/8 = 50%.

kenmoremmm

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also, i echo the other comments here about selling it.

i had a property in seattle that i bought for $373k in 2006 with a friend. eventually, we all moved out and went separate ways and the property became a rental. the final rent in 2018 was $2300/mo. PITI with a bad interest rate (4.75) was something like $2200, IIRC. property was new in 2006, so very little capex costs. but still, no where near a 1% rule. we sold for $790k in a 9-person bidding war. was a great decision. capital appreciation won't last forever. boeing is going to go on life support soon. the city will soon see a wave of foreclosures (true across the country). post-covid will be an interesting period as we all adjust.

SeaWA

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Yeah Im not gonna knock you for the living where you dont have to drive places. I have heard Seattle is getting pretty stupid with the traffic these days. I am the same albeit at a lower COL.

There are many days where the bike ride kept me sane. My best commute ever was just over 9 miles one way, and all on car-free trails in Seattle. It kept me fit and happy when I was in grad school. My current commute (when not in a pandemic) is about half, and all on streets. It is not as nice, but at least I don't drive!

SeaWA

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the 2/5 rule of old no longer works that way. i forget when, but it changed to be prorated. if you lived there for 4 years, and have owned it for 8 (4 years of renting), then you can reduce the tax hit by 4/8 = 50%.

Oh wow. Thanks for mentioning that. I was working on old information. Looks like I have some homework!

SeaWA

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also, i echo the other comments here about selling it.

i had a property in seattle that i bought for $373k in 2006 with a friend. eventually, we all moved out and went separate ways and the property became a rental. the final rent in 2018 was $2300/mo. PITI with a bad interest rate (4.75) was something like $2200, IIRC. property was new in 2006, so very little capex costs. but still, no where near a 1% rule. we sold for $790k in a 9-person bidding war. was a great decision. capital appreciation won't last forever. boeing is going to go on life support soon. the city will soon see a wave of foreclosures (true across the country). post-covid will be an interesting period as we all adjust.

Thanks Kenmoremmm.  Yeah, buying in 2006 worked out well for many!

I'm in a different situation. I'm looking for somewhere to live. I was hoping to be able to get two houses, but instead I'll move into the current rental property.

I don't know what will happen in the Seattle real estate market. I hope that people don't lose their houses. It does not feel like a great time to buy. From what I've seen, there is almost no price discount from 4 months ago, but the risk that house prices will decrease is dramatically higher. I don't understand how it can stay that way.

Normal economic environment, and high prices = normal (Seattle)
Normal economic environment, and low prices = buy!
Bad economic environment, and high prices = Don't buy
Bad economic environment, and low prices = normal

I'm not an expert, but I feel like waiting to see how the next couple of months shake out before buying more real estate.





leland

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A month on from this wondering where you stand. I'm in Seattle as well debating to buy or rent a SFH. Apartment living in pandemic/WFH highly overrated; just need more space for sanity. Either one is a significant monthly cost increase from undermarket apartment rent in a great location, but feels like a necessary life expense when traveling to escape the apartment not a valid lifestyle option. Fortunately I've got the cash handy -- just frozen on where to put it between its 1% MM return, down payment or roulette wheel back into the market.

FINate

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Yes, @SeaWA, how did things work out?

Moving into the rental seems like a reasonable option as long as you like the house and location. Once owner occupied you should be able to cash-out refi, yes?

SeaWA

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A month on from this wondering where you stand. I'm in Seattle as well debating to buy or rent a SFH

I had a call with the tenants yesterday (and notified them in writing) that we will re-occupy the SFH in the next 90 days.

Financially it was a very easy decision. Once we owner occupy I will refinance to a lower interest rate this will lower my PITI by ~10%.  I will also establish a large HELOC, which will be my new emergency fund. This will allow me to put my current emergency fund/cash holdings for a down payment into the market.

We were hoping to be able to buy a second home in Seattle, but I realize that I'd be speculating on continued appreciation. I have high uncertainty about housing prices in Seattle given the work-from-home nature of tech work (the dominant employer in Seattle, meaning people can now live elsewhere and still "work" in downtown Seattle), the crashing national economy (forecast 20% contraction), and high unemployment (~15%).

Emotionally, it was difficult to ask the tenants to move. They have been great, and we've treated one another in a very personal and honest way-- even though I stick exactly to the law and use a lease contract from my local Rental Housing Association which is strongly in my favor. I have told them that we would be flexible about the amount of notice they need to give, and am happy to end the lease in the middle of a month. It won't be a problem for me to move on short notice. They are disappointed, but understanding.

I believe I've made the best choice, but I'll always welcome thoughtful feedback.

SeaWA

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Yes, @SeaWA, how did things work out?

Moving into the rental seems like a reasonable option as long as you like the house and location. Once owner occupied you should be able to cash-out refi, yes?

Told the tenants that we're moving in, and they will have to move. They are disappointed, but understanding.

Thanks for asking. I love the house and location. I'm looking forward to living there. I'm planning to re-finance to a lower rate, and get a home equity line of credit. I am not planning to get a cash-out refi. I think the HELOC gives me the flexibility I need, and will have near-zero closing costs.

The current mortgage is at 4.25% so I expect to get it down to low 3%.



FINate

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Yes, @SeaWA, how did things work out?

Moving into the rental seems like a reasonable option as long as you like the house and location. Once owner occupied you should be able to cash-out refi, yes?

Told the tenants that we're moving in, and they will have to move. They are disappointed, but understanding.

Thanks for asking. I love the house and location. I'm looking forward to living there. I'm planning to re-finance to a lower rate, and get a home equity line of credit. I am not planning to get a cash-out refi. I think the HELOC gives me the flexibility I need, and will have near-zero closing costs.

The current mortgage is at 4.25% so I expect to get it down to low 3%.

Nice! Thanks for the update.

lhamo

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I think it is wise to wait and see what the market does before sinking more money into Seattle real estate.  Late last summer through early this year things slowed down A LOT, but there were fewer listings + increased demand due to the Covid shutdown this spring so lots of places have been getting multiple bids with rapid escalation over asking price again.  I keep a pretty close eye on the NE Seattle/close-in suburb market and have been seeing a lot of places going quickly for 20-50k or more over asking -- something that just wasn't happening this time last year.