Better to get home equity loan on existing rental for a new rental or apply for a new mortgage?

Question

Hello all, I was just looking for some opinions on the best strategy to proceed.  We have one rental property worth about 150k that we own outright and we were thinking of getting a home equity loan on to buy an additional rental property.  Is this the best strategy or would it be better to just apply for a new mortgage to buy the new property with?  What kind of loan usually has the best terms?  I would think a regular mortgage would over a home equity loan it just seems kind of inefficient to have so much money tied up in the property that we own outright.  Thanks for any ideas.

Jimmy Hong · Answer

I don't agree with Mitchell in selling the house, unless its over valued and can move it at high price.  What's the point of selling the house if you are going to get another rental?

Cam Smith · Answer

Hi Marco, Andrew, Mitchell and Lynn.  Thank you for your answers.

Lynn McGeein · Answer

We looked into getting cash back out of the rental we own outright versus new mortgage on investment property, and we found LTV ratios much lower than expected (like 60-75%, none said 80%), higher fees, higher rates, etc.  We just went with new investment property loans for the new ones instead.   Talking to a few lenders, finding out what they will actually do and how much it will cost will help give you a better idea.  Also, be careful on cost estimates from lenders on investment property.  Recently closed on a refi and the closing company actually said, several times when I complained that they changed numbers on me the day before closing, that they don't have to disclose APR, costs don't have to be within any range quoted, etc., for investment property or second homes.  Due to NC law, had to have an attorney write up title letter, and title company charged us over double what was quoted, said even if we didn't close (upset about high fee), we'd be responsible for that attorney's fees as it was third party so we could close out of state in VA.  Had they disclosed that beforehand, I would have simply driven down to NC to close.   I've closed several investment loans in the last 3 years, 2 from out of state, and never ran into that issue, but will be much more careful in the future.

Mitchell M. · Answer

Actually it would make the most sense to sell the house,, freeing up 150k with no loan attached, and you can then have enough cash to buy multiple houses. You are slowing your progression as an investor to have equity that is just sitting around doing nothing for you.

Andrew Vogt · Answer

I'm no pro, but I would think that would depend on the interest rates you will receive.  My theory has always been let other people's money work for me.  I personally would pull out some of the equity for the down payment and still get a mortgage on the property to be purchased.  That way you don't tie up all your equity into the purchase of one property.

But that's how I see things, and I'm not a pro.  I'd be interested to see what is suggested from those that know more...

Cam Smith · Answer

Hi Marco, thanks for your reply.  So you're saying apply for a mortgage for the new property then get a heloc on the 150k property we have now to get money for the down payment?  That sounds good.  My first thought was to try to get a home equity loan by pulling out 80% of the 150k which would be around 120k and then buying another rental home outright with this money.  Any thoughts on which would be the most effective strategy?

Thank you

Marco Santarelli · Answer

Hi Cam Smith,

Welcome to BiggerPockets!

You've answered your own question.

What you have is what I call "dormant equity".  The best way to use that equity is to tap into it using a HELOC when the right investment opportunity comes along.  You do not want to draw from it as the primary source of financing.

In other words, purchase your next investment property and get new purchase money mortgage for it (at historically low rates), and if needed, use some of the equity as part of your down payment.  (Side note: some lenders may have an issue with this strategy as they see your purchase as being 100% financed.  Talk to a good mortgage broker about your options.)

I've seen this done many times over the years.  It's a good strategy when the numbers line up and make sense.  You want to make sure you have a good net return on your investment.

Feel free to post any other questions you have.  There is lot of talent in these forums, and we're happy to help out.

Continued success!