Am I over leveraged?

Question

I've come to a fork in the road and I need some guidance!!

I currently have a lot of personal debt and my goal is to become a full time buy and hold investor.  I don't know if I should aggressively pay down my debt so that I can obtain conventional financing, or if I should save my money and use it as a down payment with creative financing methods.  Two creative financing methods I would like to explore are partnerships and seller financing.  In a partnership, the partner would have to fully carry the loan from a debt to income perspective.

To the numbers.....

Personal Debt:

Student Loans - 87k

Car Loan - 24k

Mortgages:

Rental Property - Value: 205k - Mortgage: 195k - Equity: 10k

Personal Residence - Value: 160k: - Mortgage: 110k - Equity: 50k

I bought my personal residence with the intention of renting it out when I'm done renovating.  The renovation is nearly complete and I have put a lot of sweat equity into the project.  It will cash flow nicely when I move out.

What should I do?  Should I pay off personal debt as quickly as possible to free up my debt to income ratio to obtain conventional financing?  Or should I explore creative financing outlets?

Scott W. · Answer

what would your cash-on-cash return be? a lot of people say i'm overleveraged until they saw my recent deal was triple digits in returns.

where else am I gonna get that return? 401k? ha!

speaking of that, what's your work situation with their match on the 401k? my wife gets dollar-for-dollar match on hers up to 10% of her pay. that's 100% return without even considering any additional appreciation in the investments.

just concentrate on your return. your decision to go to college was very wise.

Robert Carl · Answer

Try to sell your house and pay some debt down and buy another house or duplex.

Marcus Johnson · Answer

Don't you think the bank is going to look at your 100k in student loans, car note and 195k mortgage as a risky situation.  Look at it from the banks perspective.  I would think this is a big risk.  I would pay off the student loans before you do anything else and sell your car and drive something cheap.  I once drove a Toyota Camry with 240k miles on it that I got for free so that I could pay all of my debt off.  Now I'm able to save alot disposable income for investment properties and not have any payments except my primary mortgage.   It just feels cleaner to me and I'm much for calmer with no revolving debt.

Mark Ferguson · Answer

Save up some money in your bank account first and then I would look at how much your debt is costing you.  How much is the rate on your student loans?  I am not very familiar with them, do they come due at some point or does the rate increase at some point?

Jeff Arndt · Answer

Michael

My personal residence will rent for about 1400/mo which is waaaaay more than I would ever be willing to pay myself.  So I take that as an opportunity cost considering I would be happy renting a small place for about 800 or so for myself.  I plan on changing this by summer of 14.

I kick myself all the time for buying the new car but I used the money that I could have spent on the car to buy and renovate my current primary residence.  Which is an asset I plan to keep for a while.  The rate is in the 2's so I though, why not?

Rick

I'm currently picking off my highest rate student loans right now with any extra cash I have and I will snowball the old payment towards the remaining balances.

As for the car, it's more than likely underwater because I financed everything including the taxes so that I could purchase my primary residence.  I could do trade down but I would have to pull cash out of my pocket.

I have a fair amount of money saved up for maintenance and repairs for the rental property.  But, I do not have 3 months living expenses saved up which would make me feel a lot more comfortable.

I'm leaning towards paying off some debt before I'm comfortable acquiring another property.

Aaron Montague · Answer

Check out

http://www.biggerpockets.com/forums/12/topics/104219-start-now-or-pay-down-debt

We were discussing a similar topic.

Michael B. · Answer

Yes, in my opinion you're badly over leveraged.

I don't know you're income, but just based on the assets and liabilities it looks pretty bad. The student loan is much larger than average, the car loan is too big, and a rental property that leveraged is probably costing you every month.

I'd be paying down the debt as quickly as possible. Take a multi-year hiatus from investing and get your balance sheet cleaned up. It will make you stronger and better able to invest when you come back.

Engelo Rumora · Answer

Personally I am not a fan of debt.

That investment property looks a bit risky also. Not much equity in that deal.

Thanks.

Rick Baggenstoss · Answer

Two things to evaluate are the health of your balance sheet (net worth and net worth growth) and your cash flow (current and projected).

A good rule of thumb on paying of debt is to prioritize the debt based upon interest rate.  Accounts with higher rates get paid down first.  Anything above 10%, you should be paying down aggressively.  10% is a substantial return on your money and paying down debt with a 10%+ guaranteed return is a great "investment" in your long term financial well-being.

Your properties are pretty leveraged and you're driving a nice car.  However, if you can easily cash flow issues like a new roof, 3 months unemployment, etc, then you *might* consider another property.  Otherwise, IMHO you're pressing your luck to use your own money.

The exception to the above is if you can overhaul your expenses.  Find a living arrangement that's much cheaper for you like a duplex, sell your fancy car for something that costs 1/3 as much, rent your house for $300 per month cash flow, reduce your discretionary spending by another $200 - $300 per month, AND you have a stable, good job, then you could take on another house.

That leaves you with partnering for money while you build some equity in properties.

What do you think?

Rick

Michael Seeker · Answer

How much do you expect your personal residence to rent for when completed?  Also where are you going to go when you rent it out?

Do you need a $24K auto loan?  I drove around a couple of old (but dependable) vehicles for a long time.  The only reason I have a car loan now is because the seller offered me no incentive to pay cash and the rate was 2.9%.  I had and still have the cash in my bank to pay for the vehicle outright, but might as well keep it to do a deal.

It takes a while to build up the knowledge, credit and bank account to be able to consistently invest in RE...it's not going to happen over night.