Anything I can do with my existing appreciated property?

Question

Hi Everyone!Nearly 3 years ago I finished reading nearly every article and blog posts here before finally feeling confident enough to buy my first income property.About a year later I finally purchased my first income property in British Columbia, Canada. It's a house with a unit upstairs and a unit downstairs that I rent out on a buy and hold strategy, as cashflow here isn't anything like it is in the US, and appreciation seems to be the main method of real estate investment here.Note that all prices below are in Canadian (CAD).I got a bit lucky in that the market here exploded and I did really well with my investment. In my city, appreciation over 1 year ago on average was a staggering 19%! I purchased my income property almost exactly 2 years ago for $274,000. My realtor believes that I could now sell it for $360,000.I put $140,000 down, which leaves me with a 61% ROI, and I currently owe about $128,000 on the mortgage. Rents each month are $1,900 with almost no vacancy (HUGE rental demand here), and basically breaks even on net cash flow after taxes and all expenses.For a living I am self-employed but haven't been making any money for a couple of years, and am just barely making enough to stay afloat with my living costs, with no extra money saved up for more real estate investment, and no such investment money to be seen anywhere in the near future either.So my question to you is, do I have any options with what I have to do any more kind of investing, such as maybe somehow refinancing and taking equity out of my income property? Taking equity out of my personal home is out of the question. How would that work, anyway? And what kind of numbers would we be talking about here?I know I could ask a mortgage broker about this, but I want to hear from you expert investors on if I have any options here.Thanks!

Thomas S. · Answer

Appreciation will get you no where if you can not tap into it. Without positive cash flow on a income property you are not in a position to free up equity. To do so will require you to pay out of pocket to carry the property. High equity + no positive cash flow = poor investment.

To understand investing 101 you must understand the value of cash. You are presently placing zero value on your cash. As investors we expect to invest our cash with a minimum 10% return, this is referred to as the opportunity value of cash. You must also understand that income properties have two sources generating income...the property and the equity. This is were your confusion over equity arises regarding generating cash flow. Equity must be paid first and takes that return off the top of th property income, before expenses and debt repayment. Equity kills cash flow it does not create it.

Using your numbers

Rent    $1900

Equity   360K value - 128K debt = equity 232K (opportunity value @10% = $1933/month)

Expenses 50%

Debt repayment  ?

Income - (50% expenses + $1933 opportunity value + ? debt repayment) = cash flow

$1900 - ($950 + $1933 + ?) = Major negative cash flow from the property itself. You are literally losing out on thousands of dollars of income annually by gambling on appreciation. This is pure speculation on the whim of the market.

Your investment property is a major liability waiting to take you down.

Thomas S. · Answer

If you do not have any positive cash flow you do not have a option to pull out equity.

Ideally you would sell now and reinvest the cash in better investment income properties that would produce positive cash flow. There is no way you can maintained or grow without positive cash flow. One major repair will tip the scale.

Additionally your excessive amount of equity is farther reducing your true cash flow. With a opportunity value of 10% you are losing out on an additional $1000+/month income.

I would concentrate less on appreciation and more on cash flow. You need to look farther afield.

Tyler Cruz · Answer

Got it. That's exactly why I was thinking of leveraging that equity into another property, assuming the cashflow numbers can safely handle the refinanced mortgage. My idea was to refinance (cash out the equity) and buy another property in cash and then use that added rental income (say $1,000 a month) in addition to my existing $1,900/month to pay off the refinanced mortgage.

I am obviously new to this though so am not sure if my thinking is right here.

Thomas S. · Answer

Opportunity value of cash (equity)

A benefit, profit, or value of something that must be given up to acquire or achieve something else. Since every resource (land, money, time, etc.) can be put to alternative uses, every action, choice, or decision has an associated opportunity cost.

Your dead equity, by not being invested else where, is costing you a loss of $1933/month in potential income.

The absolute highest return dead equity can earn is the savings on the prevailing mortgage interest rate ....4% ????

No investor would ever be satisfied with a 4% return on their investment but in reality that is all you are receiving on your $232K of equity.

Maximum leverage produces maximum cash flow.

Tyler Cruz · Answer

Couldn't you argue the same thing with cash flow though? Maybe vacancy rates skyrocket and kills your cash flow. You're risking everything on cash flow, no?

Tyler Cruz · Answer

I guess I'll have to research what you mean by opportunity value as I have no idea what you're talking about there.

Thomas S. · Answer

Yes I had a computer glitch and had to post reply before I could finish the post with edit.

Tyler Cruz · Answer

Did your message get cut off? Otherwise I don't understand the numbers breakdown...

Tyler Cruz · Answer

When I say breaking even, this is after mortgage costs, taxes, repair costs, contigency fund, etc. I am not left with any savings towards another property.

As mentioned though, I feel that here you can gain a lot more through appreciation than you can through cash flow... I don't understand how less equity means greater cash flow. Shouldn't it be the opposite as the mortgage is less with a larger down payment?

Jimmy Murray · Answer

@Tyler Cruz Congrats on such a successful investment! Investors would kill for those returns. haha

I would see if you can take out an equity line on your investment property. Or you could go to the bank and see if they would be willing to put a lien in second position on that property to be used as collateral for a new purchase.

Anything I can do with my existing appreciated property?

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