Those real estate investors looking for ways to capitalize on the US housing market in 2020 should consider a cash out refinancing of their existing rental property.
Investment Property Financing Basics
Investment property financing takes many forms and is never static. Using a bank’s money to help build your real estate portfolio can make sense in many situations. As your portfolio matures, you build up equity in three main ways. First, you are making some gains on the principal of the home by paying your mortgage month after month. Second, you are likely doing upgrades and improvements to the property over time. Third, the housing market in which your investment property is located may be adding value on its own. All of these changes to your income-generating rental property mean that your property equity is growing.
As a real estate investor, you understand that opportunities come and go. Over the past year or two, the interest rates on mortgages of all types have gone lower. If you have an existing mortgage loan on a property, you may be thinking about refinancing. The rates for cash out refinance on investment property are also lower than in the past years, so now is a great time to talk with your mortgage lender about taking advantage of low investment property mortgage rates in 2020.
What Is a Cash Out Refinance on Investment Property?
Simply stated, a cash out refinancing on investment property is what it sounds like. You refinance an existing property and you take out cash. The cash you take out is equity in the property on which you have the loan. The bank closes out your old mortgage or loan and writes a new one. In addition, the bank gives you cash back at closing.
Imagine you owned a real estate property initially valued at $500,000. You first had just $100K in equity when you purchased it with financing. If the equity has grown over time to $200,000, you can take cash out and still have the same equity in that investment property you had initially. This could be because the home’s value increased over time to $600,000. Or maybe you added equity by paying off $100,000 of the loan. Either way, you are in a situation where the option to take that equity back out is available.
Why Do a Cash Out Refinance on Your Investment Property?
There are many reasons why you may wish to refinance and take cash out. Obtaining the lower interest rate is really a good enough reason by itself. That will save you money. But is it worth it to refinance rental property? There are many benefits to a cash out refinance on investment property.
For most investors, the cash out refinance on investment property leads to more properties. Buying another investment property is a common reason to take cash out. If your business is cash-flow positive, buying a second rental property could add to the cash flow. Cash out refinance to buy investment property is a common strategy and your bank will understand your plan.
Cons of a Cash Out Refinance
There are pros and cons to any type of refinancing. As an investor, you need to ask yourself if it is worth it to refinance rental property. You need to understand the costs associated with the refinancing and the benefits. Let’s start with why not to do a cash out refinance on investment property. One reason is to keep your equity in the property you already own. The cash you take out of one property is not “free money.” As your business grows, having equity is the only way to begin to eliminate debt and the associated costs of debt.
Another thing you need to verify is that your existing loan allows you to refinance. Some loans this author has had on rental property prohibited a refinance payoff within the first two years. Your lender can help you with the details. Like any loan transaction, there are fees to pay as well. Plus your associated time spent on the project. How do you value your time? If you answer at $100 per hour, then spending 20 hours on the issue just cost you $2,000.
Pros of a Cash Out Refinance
Now let’s explore some benefits of a cash out refinance on investment property. The first, as we mentioned above, is you may benefit from a lower interest rate. A single point of interest can add up to many tens of thousands of dollars over the term of the loan. Dropping a loan rate from 5% to 4% is reason enough if the better rate is available to you.
More to the point of this story, you can acquire a new real estate rental property. If your business model is structured on using bank money to acquire property, a cash out refinance on investment property is a simple way to obtain cash for a new purchase.
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There is a third possible benefit of a cash out refinance on investment property. Imagine that you have other debt. Perhaps you have multiple loans on multiple properties. Or maybe you have a vehicle that you use for business that has a loan. Consolidating debt into a single, lower-interest loan is a simple way to boost your cash flow. Perhaps by taking out cash from one investment property with good equity, you can then pay off the loans on other properties. This is a simple strategy that many investment advisors always look for first when helping folks improve short-term cash flow.
One final fourth consideration is renovations and improvements. A cash-out refinance on investment property can be used to do a major renovation on a unit you own. It does not even have to be the same unit you are refinancing. Improvements are often needed just to maintain a property. However, sometimes they can add to living space such as in an attic or basement area. That means more rent. And also more equity.
There are many good reasons to consider a cash out refinance on investment property. Mashvisor has all of the cash flow and property search tools you will need if you opt to make the move. To get started, click here.