Pay cash? Use home equity loan?

[Dave Friedman]

Hi, all. I'm brand-new to this whole thing, and am about to buy a pair of properties that will require a total of $15K work done.

Property A needs a new roof and some other work. Probably to the tune of $10K. This work is basic livability stuff, and won't enable me to increase rent.

Property B needs smaller stuff, maybe a total of $5K. That should enable me to increase the rent by about $100.

I could just pay for this stuff out of pocket. But I've already drawn on my cash reserves for the two down payments, and I'm not eager to draw them down further. And I like the idea 

So I could get a home equity loan. Pen Fed's calculator suggests I could get a $15K loan at 20 years, 5.25%, and pay it off about $100 a month. I'm not eager to go to take on new debt, either, though. And that $100? Basically wipes out the entire cash-flow improvement from Property B (see above).

So...One thing to keep in mind is that money tends to become less valuable over time. For instance, our primary-home mortgage doesn't hurt nearly as much as it did when we bought the place 12 years ago. This is due both to inflation and increased earnings. So, that $100 a month is likely to feel like a pinprick some years from now.

Still...it's 5.25%. If I pay out of reserves (and then "repay" myself, of course), the effective interest rate is a scant 1% (the interest that money would be earning in the bank).

Anyway, I'm torn and would be grateful to learn other people's thoughts.

thanks!!  -dave

[Zachary Prusoff]

Congrats on jumping in! You have what my wife and I call a Catch-42. It's like the exact opposite of a Catch-22 where instead of being damned if you do, damned if you don't you are blessed regardless of which choice you ultimately make.

What are your long-term goals?

The two best paths I see are...

1. If your goal is financial freedom as quickly as possible then pay the $100/month and use the 15k from your cash reserves as a down payment on another property.

2. If your goal is security/control and the lowest debt/income ratio possible then rehab from your reserves, especially if you say you could still make it work through vacancies/unemployment post rehab. 

The most "efficient" use of capital is based on your perspective and is either to leverage your cash as much as possible (option 1) or to spend as little on interest as possible (option 2). 

Without knowing your situation or expectations I would suggest option 1 as, I believe, there's no penalty for early repayment if you change your mind and go the cash route and having a history of a HOL/HELOC with a lender in your area might open future REI doors for you as you get the hang of this.

Or if you want to play it extra safe, you can always get into another business or just keep saving and hope you have a big enough nest egg by the time you're ready to retire :)