May convert home to rental, should I refinance first?

[FireInTheNole]

Haven’t made up my mind to sell or rent it, but I’m ready to move on to something else. I've never owned rental property, but for the moment, I not asking about the merits of doing it. I know that’s been discussed here before.

So assuming I’m going to convert it in the near future, I’m considering the merits of refinancing first. I assume refinancing now would be easier than later. Plus rates seem projected to start going up.

I’m pretty up to speed on the factors to consider in the general case, but could use some other opinions taking into account it would be a rental property before long. If I were to stay in the home there would be no real advantage to do it given current rates and my financial position.

I’ve examined the numbers and if I refinance, the only thing I’d really gain would be lowering my monthly obligation…

Current: $102K, $780/ month (pmt+interest) interest at ~$400 right now. 187 months left.

Refi: $105K, $505/month, interest starting out at ~$350. Start over at 360 months. (Refi costs rolled in)

I’ve actually been paying extra principle designed to have it paid off in 8.5 more years. This brings my monthly PI+Extra to ~1200. In either case above, it would still be $1200/mo to finish in ~8.5 years but obviously I may discontinue this strategy if it’s a rental.

Having a lower monthly obligation would seem to be an advantage. Also, I know you can’t count your whole mortgage payment as an expense, but you can expense the mortgage interest right?

The clear disadvantage is I’ve borrowed an extra ~$3K to refinance, which would hurt if I ultimately changed my mind and decided to sell it soon.

Sorry for the long-windedness, but I would appreciate any feedback from those of you who have better insight.

 

[LT4PLY]

Can you carry two mortgages? That's probably best figured out before thinking about selling Vs. renting.

As far as refinancing goes if you are already paying extra is it worth going to a 15 year?

As for selling you pay no income tax on any profit from the sale of your home if you lived in it 2 of the last 5 years. This means now you can sell it and if it is worth more you pay no income tax. If you roll it to an investment property then you will pay tax on it when you sell it assuming it is worth more than you paid.

On the other hand you can deduct a lot on investment property (If your income isn't too high anyway). When I do calculations like this I mock it up with tax forms. It's pretty easy to play around with turbo tax, put in numbers that you think would happen, then see what the outcome is.

 

[swflnole]

Being in the mortgage business I would say not to refi unless your rate really sucks, basically it would be like starting over again. A lot of your interest has already been paid and your hitting more of the principal balance.....just my 2 cents worth

 

[TallyNole93]

You may not be able to refi a rental. Daughter tried and couldn't because it is not her permanent residence.

 

[swflnole]

You may not be able to refi a rental. Daughter tried and couldn't because it is not her permanent residence.

You can refi a rental, however if the loan to values are to high (bal vs. value) you would not qualify to refi the house.

 

[helmetnuts]

If you decide to refinance see if you can qualify for an interest only product. You'll have to qualify as if it were a regular payment but the IO is the way to go. Give you great flexibility to take the money from the rental and either pay down the mortgage or invest it somewhere else. Additionally, should you be in between renters, you don't have to be overly concerned where you're getting the money to cover a full principal and interest loan.

 

[Lemon Thrower]

you are confusing two different issues.

whether you refi is an economic decision. if it makes sense to refi, do it.

the terms for non-owner occupied are not as favorable in a number of respects, so if you are going to refi, do it before you convert to rental.

 

[FireInTheNole]

Can you carry two mortgages? That's probably best figured out before thinking about selling Vs. renting.

Yes at the moment, but that's why having only a $500 vs $780 obligation seems advantageous.

As far as refinancing goes if you are already paying extra is it worth going to a 15 year?

For all intents and purposes that's what it is now. Monthly obligation would be about the same. New rate is not significantly lower.

As for selling you pay no income tax on any profit from the sale of your home if you lived in it 2 of the last 5 years. This means now you can sell it and if it is worth more you pay no income tax. If you roll it to an investment property then you will pay tax on it when you sell it assuming it is worth more than you paid.

"Pay no income tax " is not having to pay capitol gains if profit less than $250K right? (I've lived in the house over 5 years). The point about no capitol gains exclusion for selling a rental is not something I'd thought about and the reason I posted. That's a very, very good point! I need to get smarter about "depreciation" (if that even applies here at all WRT to the house). This may ultimately sway me not to convert.

On the other hand you can deduct a lot on investment property (If your income isn't too high anyway). When I do calculations like this I mock it up with tax forms. It's pretty easy to play around with turbo tax, put in numbers that you think would happen, then see what the outcome is.

I will need to learn more about deductions. I know about some... mortgage interest, repairs, etc. but I'm sure there are many others I've never considered. Good tip re: Turbo tax.

 

[surfnole]

If you can swing the higher payment, I would keep building equity in the house. Get it paid free and clear and then it's straight income with no debt. It could be a good monthly income in retirement. You sure can't depend on stocks or bonds to give you that kind of income. Refi at 30 years and it takes forever to build equity.

One day you could move back in for two years and avoid the cap gains tax.

The market is good for sellers, so I would not rent it unless you want to rent it as a longer term investment.

 

[FireInTheNole]

You may not be able to refi a rental. Daughter tried and couldn't because it is not her permanent residence.

the terms for non-owner occupied are not as favorable in a number of respects, so if you are going to refi, do it before you convert to rental.

Yes, that is why I want to do it now while it's still my primary residence.

 

[FireInTheNole]

If you decide to refinance see if you can qualify for an interest only product.

Wasn't really aware of these. After some light reading, I can see the advantages, but I'm not sure I'm comfortable with variable rate. Plus it appears you get to a point where you must pay principal (10 years is the most I saw). Thanks, may have more questions about it.

 

[FireInTheNole]

you are confusing two different issues. whether you refi is an economic decision. if it makes sense to refi, do it.

I do tend to over-think far too often. More to the point the real question is... invest $3K to reduce monthly obligation from $780 to $506 in the context of a rental property and the flexibility that the lower obligation may give? I realize that ultimately the answer varies for each individual (though I wouldn't mind hearing what others would do). I need to make up my mind on renting vs selling. I'm just feeling my refi window is narrow, right or wrong... rates going up possibly, not yet wanting to show expenditures towards a new property, etc.

 

[FireInTheNole]

If you can swing the higher payment, I would keep building equity in the house. Get it paid free and clear and then it's straight income with no debt. It could be a good monthly income in retirement.

One day you could move back in for two years and avoid the cap gains tax.

The market is good for sellers, so I would not rent it unless you want to rent it as a longer term investment.

I would still consider upping the principal (as I'm doing now) with that goal in mind. My going in position is to consider this a long term investment. I hear you re: sellers market, but I'm just not feeling that in this particular area, hence the thought to rent it instead. I'd undoubtedly sell it if I feel like it could move quickly and still fetch a price I'm comfortable with. On the other hand, I'm am questioning if I have the stomach to rent it based on stories I've heard here and otherwise.

Nice tip about "moving back in" down the road.

 

[F4Gary]

Yes at the moment, but that's why having only a $500 vs $780 obligation seems advantageous.


For all intents and purposes that's what it is now. Monthly obligation would be about the same. New rate is not significantly lower.


"Pay no income tax " is not having to pay capitol gains if profit less than $250K right? (I've lived in the house over 5 years). The point about no capitol gains exclusion for selling a rental is not something I'd thought about and the reason I posted. That's a very, very good point! I need to get smarter about "depreciation" (if that even applies here at all WRT to the house). This may ultimately sway me not to convert.


I will need to learn more about deductions. I know about some... mortgage interest, repairs, etc. but I'm sure there are many others I've never considered. Good tip re: Turbo tax.

You can deduct:
Mortgage interest
Taxes
Insurance
Maint.
Travel to inspect property
Advertising
Management expenses

 

[Lemon Thrower]

I do tend to over-think far too often. More to the point the real question is... invest $3K to reduce monthly obligation from $780 to $506 in the context of a rental property and the flexibility that the lower obligation may give? I realize that ultimately the answer varies for each individual (though I wouldn't mind hearing what others would do). I need to make up my mind on renting vs selling. I'm just feeling my refi window is narrow, right or wrong... rates going up possibly, not yet wanting to show expenditures towards a new property, etc.

the monthly payment is not the only thing to look at. but since you brought it up, you are talking about 274/mo. in 11 months, you will have paid back the 3000. of course, you have to make sure you are comparing apples to apples. At 506, is your principal changed, is the maturity date longer? play around with some mortgage calculators. say for example, you owe 100K with 17 years left. plug 100K and 17 into a mortgage calculator to see what your principal and interest would be under such a loan. part of the 274 benefit is from extending the duration. once you have that number, take your closing costs - anythign out of pocket you pay (other than tax and insurance escrows, which you get back) plus anything that gets added to the balance, and divide by your hypothetical monthly savings. that gives you the payback time in months. So 3000/274 is 11 months. My guess is that your true savings is maybe 200 (just a guess based on how far interest rates fell the last few years), so your payback is 15 months. I think 24 months or less is a no brainer.

so that analysis gives you an idea if economically it makes sense. a separate question is how to structure the loan. most landlords want to leverage their property as much as possible, so they want a higher loan to value ratio, interest only if possible and if not than a 30 year rather than 15, etc. they are trying reduce the amount invested (i.e. create more leverage) and also reduce the monthly expense which gives them more flexibility when the property is vacant.

no

 

[LT4PLY]

Yes at the moment, but that's why having only a $500 vs $780 obligation seems advantageous.


For all intents and purposes that's what it is now. Monthly obligation would be about the same. New rate is not significantly lower.


"Pay no income tax " is not having to pay capitol gains if profit less than $250K right? (I've lived in the house over 5 years). The point about no capitol gains exclusion for selling a rental is not something I'd thought about and the reason I posted. That's a very, very good point! I need to get smarter about "depreciation" (if that even applies here at all WRT to the house). This may ultimately sway me not to convert.


I will need to learn more about deductions. I know about some... mortgage interest, repairs, etc. but I'm sure there are many others I've never considered. Good tip re: Turbo tax.

Yes, you pay no income tax on the gain of the sale of a home (up to 250k profit). http://www.irs.gov/taxtopics/tc701.html

What I am trying to figure out is legal is if you can roll it to investment / rental property and rent for 2-3 years then sell and don't pay. Based on what I am seeing this IS legal because you owned 2 of the last 5 years. (I have never done this before)

You can also deduct depreciation on rental properties as well as the above list. You can't deduct land. Say you bought your place for 150k. The land is worth 50k so you have 100k left. you depreciate the rest over 27.5 years which is $3636 per year. On top of that anything you do to the place you also depreciate. New landscaping? depreciate it. New roof? cabinets? toiliet? depreciate all of it. It is set up to where you can make a tidy profit in real life but on paper you are losing money and saving on taxes. Depending on your tax bracket this can REALLY help. For years my effective tax rate was 3-5 percent for my wife and I. You have to watch out for the tax break phase out though. Once you make a certain amount of money Investment property losses get phased out and you can't claim it anymore.

So on your property I'll take a guess that you can rent for around 1200 per month. That means you should net a 500 per month in profit after taxes, repairs, etc. which is 6 grand a year. But you start deducting and right off the top you are down to about a 2500 profit. You deduct miles to get to the place, any other darn thing you can think of and next thing you know your 6 grand in profit turned into a 2k "loss".

 

[stmnole83]

Haven’t made up my mind to sell or rent it, but I’m ready to move on to something else. I've never owned rental property, but for the moment, I not asking about the merits of doing it. I know that’s been discussed here before.

So assuming I’m going to convert it in the near future, I’m considering the merits of refinancing first. I assume refinancing now would be easier than later. Plus rates seem projected to start going up.

I’m pretty up to speed on the factors to consider in the general case, but could use some other opinions taking into account it would be a rental property before long. If I were to stay in the home there would be no real advantage to do it given current rates and my financial position.

I’ve examined the numbers and if I refinance, the only thing I’d really gain would be lowering my monthly obligation…

Current: $102K, $780/ month (pmt+interest) interest at ~$400 right now. 187 months left.

Refi: $105K, $505/month, interest starting out at ~$350. Start over at 360 months. (Refi costs rolled in)

I’ve actually been paying extra principle designed to have it paid off in 8.5 more years. This brings my monthly PI+Extra to ~1200. In either case above, it would still be $1200/mo to finish in ~8.5 years but obviously I may discontinue this strategy if it’s a rental.

Having a lower monthly obligation would seem to be an advantage. Also, I know you can’t count your whole mortgage payment as an expense, but you can expense the mortgage interest right?

The clear disadvantage is I’ve borrowed an extra ~$3K to refinance, which would hurt if I ultimately changed my mind and decided to sell it soon.

Sorry for the long-windedness, but I would appreciate any feedback from those of you who have better insight.

 

[surfnole]

You can depreciate the house, but the depreciation is recaptured when you sell it. If he fully depreciates a 150K house over 27.5 years, and he sells at year 28, he will owe tax on 150K.

Leverage is something that some landords love using, and it will increase your returns but with greater risk. It depends on your comfort level. Full leverage in 2008 bankrupted a lot of people.

 

[stmnole83]

Fire, looking at this from a bank's point of view, when you did your mortgage you told the bank that your home would be your primary residence. Banks see that as a lower risk and can sell your loan to Fannie so you generally get a lower interest rate than with a rental property. You may need to check your note to make sure there isn't language in there that says if your home is not your primary residence, then the bank can call your loan. Also, if you move out, will you buy another home to live in? Will you qualify for a new loan because now you'll have 2 loans. You will need to make sure you have sufficient income for both loans plus 20% down on your new house. You won't have enough history of rental payments to be used as income for your new loan. You have lots of things to consider here so make sure you think this through.

 

[LT4PLY]

You can depreciate the house, but the depreciation is recaptured when you sell it. If he fully depreciates a 150K house over 27.5 years, and he sells at year 28, he will owe tax on 150K.

Leverage is something that some landords love using, and it will increase your returns but with greater risk. It depends on your comfort level. Full leverage in 2008 bankrupted a lot of people.

Regardless if you actually take depreciation the IRS is going to charge it when you sell it so you should take it and get the benefit now. You only owe taxes on the delta of the book value Vs. actual sale price. So if the book value of the house goes to zero and a sale is made the cost basis of the house alone would be zero and if he only sold for 100k then you get taxed on 100k. Furthermore if you roll that forward it gets more complicated but you can insulate yourself from much of the burden. Also, since it is only on the home and not land it is generally beneficial. In many cases the land goes up in value more than the building that is sitting on it.

In a very standard scenario if you are sitting at a tax rate of 25 percent consistently then you take the benefit today and you can invest the money. later you sell and if you end up paying all of it you should still be ahead of the game because you were able to have the money to use to invest

 

[Lemon Thrower]

Fire, looking at this from a bank's point of view, when you did your mortgage you told the bank that your home would be your primary residence. Banks see that as a lower risk and can sell your loan to Fannie so you generally get a lower interest rate than with a rental property. You may need to check your note to make sure there isn't language in there that says if your home is not your primary residence, then the bank can call your loan. Also, if you move out, will you buy another home to live in? Will you qualify for a new loan because now you'll have 2 loans. You will need to make sure you have sufficient income for both loans plus 20% down on your new house. You won't have enough history of rental payments to be used as income for your new loan. You have lots of things to consider here so make sure you think this through.

its fraudulent and possibly illegal to lie about this.

that said, you can refi your primary residence now, and then down the road acquire a new primary residence.

ability to qualify for the 2nd loan is a key issue.