To Upgrade, To Sell, To Rent, To Leverage Current Home?

[Loren Thomas]

Apologies if this is the wrong forum, seems like a general question to me?

We have a mortgage on our current house. After next summer, we are going to refinance. At that time, we will have around 100K in equity. I'd like to hear some creative thinking from seasoned investor types. Assume a less then stellar credit score, but things are back on track (Self-employment took it's toll!). 

Our house is big enough, "nice" enough, and capable of housing our family just fine. However, my daily commute to Seattle is over an hour. We care a lot about what schools our kids will go to, which means we will probably move sometime in the next 6 years. The hour plus commute to work sucks, but I've been doing it for 6 years now, what's another few years? My point is, we don't have to move immediately.

We want to get into long term real estate investing. Obviously you see where this might be going. What is a good strategy for our situation? Do we leverage up to our necks to get some money working for us? Do we downsize? Do we leverage some, but less than up to our necks?

[Garrett Poshusta]

Hi Loren I'm not a seasoned real estate investor and many veterans on BP will have great advice for how you could move forward. Nonetheless I thought I'd chime in with my own take and experiences as a first-time home buyer turned renovator turned landlord and now investor over the past 6 years. I'll say right here at the beginning that we (my wife and I) buy fixers and fix them up ourselves, while working full time, so this path is not for everyone. We have also lived in all three of our properties and moving every year or two sucks. But right now we have ~$750K in equity in 3 SFR's in Seattle since buying our first home in 2008. This is on a cash input of ~$220K and lots of sweat, a few tears, and also a little blood ;). Our net monthly cash flow on all properties at the moment is +$500 (we rent two properties out and live in one) and average ~15% return on cash on our rentals which is pretty decent in a high appreciation market like Seattle.

With that background for reference my suggestions for you will not be surprising. The two biggest factors that have lead me be able to contemplate retirement before 40 (by retirement I mean leaving the 9-5, not golfing all day in Hawaii!) are showing rental income on our tax returns and leveraging sweat equity. Having a history of rental income allows one to offset the financing payments for the calculation of DTI. But getting that first tenant is tricky if you are living in your residence, as most home owners are!. So find a way to get rental income: finish the basement or garage into a MIL or maybe even build a backyard cottage if the rental income vs. construction cost pencils out or as a method of last resort...move back in with the parents. You could also sell and move to a house that has the potential for a second unit, an unfinished basement perhaps. Youtube is fantastic resource for DIY improvements. The point is to start a snowball with rental income that 1) increases your cashflow 2) offsets your DTI so you can qualify for additional new financing and 3) increases equity you can in turn leverage. Contrast this with an improvement like a new master suite or a big home theater den. Sure these increase the value of the house but they also consume cash and there's no way they improve your cash flow, unless you charge the neighbors to watch movies on your new 70" 4K display! Creating a rental at our primary residence was the hardest step for us because we had never renovated and valued our privacy.

Once your equity is sufficient in your primary residence and your DTI is acceptable consider a HELOC that you can then use to purchase your next investment property or primary residence. Apply elbow grease. Refinance/HELOC. Wash, rinse, repeat.

As I indicated at the beginning I'm sure there are less labor intensive ways to get ahead in real estate but this get-wealthy-slow, sweat-equity path has been really low risk and reasonably lucrative. I'm happy discuss any parts in more detail. Cheers.