Refi my own house to make it rentable?

Question

So my wife and I live in Northern Virginia (NOVA), and we are looking at moving out of the area in the near future. Due to the nature of our professions, we will very likely be back sometime in the future, and the way houses tend to appreciate in this area, it seems like a mistake to sell. We're committed to holding onto the house, so we'd like to rent it out after we move. The problem is that rental estimates show that we could expect to get $2400 a month for our place, and our monthly expenses on the house come to around $2500. We've been making payments on it for 5 years, and by now I have enough equity in the house to refinance and bring the monthly rate down to $1700. Considering that we're against selling it, it seems like a good move to me to turn the house into a cash-flowing asset by refinancing it rather than putting money into it every month just to hold onto it and build equity.

Is this a good idea in principle, or is there something that I'm not taking into consideration?

Greg Scott · Answer

Brian:

It seems strange that your monthly payment would come down so much, so I'm going to have to make some educated guesses.  I'm presuming you had a 15 year mortgage and were likely paying PMI.   So, I suspect the $1700 number means you refi to a 30-year fixed rate.   I'm also going to assume for now that your $1700 is PITI so includes taxes and insurance.

Adding an 8% factor for vacancy, about $200/mo for long-term repairs, plus more for property management, your cash flow would be about $150-200/mo.  I would say this is an OK, not great return on your equity.  Given you want to hold the property, that may not be the best purely financial decision but there are other factors in play

A word of warning, it is often very hard for people to rent out their personal residence.  The tenants will never care for it the way you want them too.  It will be doubly hard for you if you intend to move back and they have damaged or modified the property in a way you do not like.  It will drive you crazy but you need to keep your cool.  Be prepared for that.

Another factor you will need to consider is taxes.  If you sell the property now, you will likely not have to pay any capital gains.   On the other hand, if you decide to sell it 3 or 4 years from now after renting it, your situation will be very different.

Brian Harker · Answer

I really appreciate all of the responses here. You've all definitely given me a lot to think about, and a big takeaway is that this is really going to depend on the specifics of the loan, of course. I asked a pretty broad question and ended up with some broad answers, but I think everyone is basically getting at "if the math works out, then it's a good deal."

@Greg Scott @David Barnett We're actually currently on a 30 year fixed mortgage and we don't pay PMI. It's at 4% and basically all the refi offers I'm seeing are lower than that.

@Mike Dymski that's exactly the kind of thing that I wanted someone to point out. I would never have known that if you didn't bring it up. Does that still apply if you end up moving back in after it's been rented for a 3 year period?

@Kyle Deutschmann @Chinmay J. thanks for the heads up on the advantages of the owner occupant refi rates. That makes me think if I am going to do this I should do it sooner rather than later to get through that year waiting period as soon as possible.

I think we'll probably end up doing it. I'm going to shop around for good refi's. I've never done it before, so it'll be a learning experience. I assume that I should just aim for the lowest interest rate on the shortest term that still allows the property to cash flow every month. Does that sound right?

Kyle Deutschmann · Answer

@Brian Harker hey Brian, if youre able to make it cash flow by refinancing then I think thats a great strategy. Most investors I work with like to stretch out the loan term to maximize cash flow, but if youre concerned with paying more in interest (even though your tenants will essentially be paying the interest) you could certainly look at a shorter loan term, as long as it doesnt cause the property not to cash flow. Also you should take into consideration when you are planning on moving - if youre willing to stay in the property for a year you could refinance as an owner occupant and take advantage of lower rates vs. rates for a non-owner occupied property. Best of luck, Kyle

Jerry Padilla · Answer

@Brian Harker

I would take a look at where your current interest rate is versus the rate you would get for a refinance. If you can drop the rate lower than what you currently have, I would say go for it. Rates did recently just drop so hopefully you could get a better rate.

David Barnett · Answer

@Brian Harker  I'm in full agreement with @Greg Scott said.  The amounts appear to support Greg's conclusion, and I wouldn't go from a 15 year mortgage to a 30 year mortgage just to make it "cash-flow."  You would be resetting the interest calculator, and since you've been paying on the property for five years, you're probably within a few hundred bucks of paying more principal than interest on your monthly mortgage payments.  If you go to a 30 year mortgage, I believe (if I remember correctly from my undergrad days) the break-even point is year 22 for principal and interest.  I don't particularly like the strategy of going back to a 30 year (if that's what is being proposed) just to ensure the property "cash flows."  I would check out a 10 year mortgage to see if that would be cheaper than keeping the 15 (again, assuming this is the case) to see if you can make up the payment gap.

Mike Dymski · Answer

If your home has appreciated, be sure to check out the section 121 capital gain exclusion on the sale of your primary residence.  You will lose that exclusion after three years as a rental.

Chinmay J. · Answer

If you get rid of the PMI and bring money to the table, you can easily achieve that. That's what I did. We don't know what is the financial position of OP, so let him be the judge..LOL.  Interest rates are pretty good right now.. Actually fell a lot as I was locked in for my refinance due to all this Trump induced drama, treasury yields are getting slaughtered.  10 yr yield was about 2.50% when I did mine. It's about 2.13% right now... Great time to refi right now..

Chinmay J. · Answer

Yes.. Good idea.. I just did it... I got my mortgage from $1700 to $1200, and home will rent for $1900.  That should provide me extra cushion for expenses. However, I can't rent it out for another year as I just refinanced as owner occupied.   Since I live in the area and plan to live here, I will self manage it.. So no PM Fees..  Make sure you have plan to have it professionally managed, then account for PM fees..

Jake S. · Answer

Hey @Brian Harker I'd say as long as it cash flows (after budgeting for vacancy, maintenance, capex and management) then I'd keep it if that's what you really want to do!

Refi my own house to make it rentable?

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