Interest Only Vs Principle+Interest

[Brad Garcia]

I have looking into financing and have come across this idea of doing an interest only loan to purchase a multi-family. The thinking is, I really don’t have a desire to own the property, but rather maximize the cash flow the property can make and then sell in either 5 years or match closer to the terms of the IO loan (depending on market conditions, etc.)

Having more cash flow would enable us to improve the property conditions, thus rents etc, repositioning the properties performance for the future sale. Also, we are looking to reinvest excess cash flow into a liquid investment, roughly 4-5% returns, unless it makes sense to invest in the property. All revenues would be dedicated to the investment until we sell the property.

Here is the comparative analysis that I am seeing after doing my research:

	Principle & Interest (5yr 20)	Interest Only
Depreciation Expensed	Yes	Yes
Pay-Down of Note	Yes	No
Interest Rate Volatility	Lower Risk	Higher Risk (Depends on terms?)
Interest Expensed	Yes	Yes
Taxable Income	Lower	Higher
Real Estate Market Volatility	Same Risk	Same Risk
Appreciation of Property	Yes	Yes

Doesn’t it make sense to simply do an IO loan given the following controlled assumptions:

Put excess cash flow to work in alt. investment with lower risk.

Plan to sell the property in 5-10 years.

Am I missing anything, other than who does IO commercial loans?

[Edward B.]

@Brad Garcia,

I typically opt for IO if it is available and I haven't seen it since before the crash except in 2nds. My rationale is that I would rather own the property on paper vice outright, i.e. have the cash in safer alt. investments as you call it to pay off the loan, especially if the alt. inv. earns more than the cost of the loan. This puts your money to work in two places and adds an element of asset protection since the property stays leveraged.

To me, paying down a mortgage faster, or at all for that matter, is a process of forced savings. Only I do not need anything/anyone to force me to save because I am already very financially responsible. I do not want my money locked up in a property where it is difficult to get at. I want to be able to invest/spend it as I please, when I please.

Additionally, owning real estate outright is not nearly as lucrative as taking advantage of the ability to leverage it. The returns are much lower. And you are very unlikely to be able to borrow against any other asset with such favorable terms and/or cost of capital as you can against real estate.

So all things being equal I would go with the IO loan if you can find it. All things are rarely equal, though, and that is a very simplistic answer to a very complex question that has a lot to do with you, your situation, the deal, etc, etc.