Which Financing Terms to Accept?

[Nick M.]

Hi All,

Feedback requested.

* Situation: I am in contract to purchase an apartment building.  Purchase price $1.5M,  $400K down, for a loan of $1.1M  By making extra payments towards the principal and a large lump payment I expect to have the loan down to $400K in 5 years.  Similarly, by making extra payments I forecast being able to pay down this $400K balance in an additional 7 years.  That makes payoff in a total of 12 years.

* Financing offered:
1) 4%, 5 year fixed at 30 amortization

2) 12 years.  First 7 years fixed at 4.375%.  Second 5 years readjusted at 5 Year Treasury + 2.625%, floor rate of 4.375%

3) 10 years fixed at 4.75%

* My Goal:
First priority is get loan balance down to $400K.  If I can pay this off in another 7 years, great.  If not, no worries.  My intent is to keep the building indefinitely.

Of the 3 financing options I have, what would you recommend?

[Maura O'Connor]

Depends on which is a higher priority for you, lower interest rate, or more long-term interest rate stability, and how long you plan to hold the property.  I'd run the numbers if I were you (a great source for free online mortgage calculators is HughChou.com), and figure out how stable your rent stream is likely to be.  

Many folks think that rates are likely to go up over time, as we've been in a long period of the Fed holding interest rates pretty low.  And we are at a point in the cycle where prices seem pretty high to me.  I'd be a bit worried about having to refi in 5 years, so would probably take one of the other options.  I'm personally quite conservative, and am in the middle of a refi on an investment property; I'm going for a 20 year fixed, at 4.75%, fully amortized over 20 years, and diminishing fees for prepayment for the first five years, because I'm not planning to sell; and I'm highly confident that the rents will generously support the loan.  Most importantly, I don't want to have to cough up cash to support the loan -- I want it to be on auto-pay-for-itself.

Hope this helps you think through your options!

[Bob Okenwa]

Might not be a bad idea to get as many fixed years as possible. With the prime rate already at 4.25% and the Fed speaking of continuing to raise rates, barring another economic setback, it should continue to rise. Although the prime rate and mortgage rates are not directly correlated, the prime rate does influence mortgage rates to a degree.