$235k Question, Putting It All Out There

[Breanna Green]

Hello Bigger Pockets Supporters,

I'm in some need of financial advice. I'll attempt to be brief since there's a lot of info to provide. I recently received a loan (30 year, 3.5% for $235k cash out refi tied to a property in San Diego which was originally paid off) in order to pay off this annoying personal loan ($235k, based on LIBOR with 3% "discount" tied to my stocks (long story)). I don't like the idea of a variable loan but at the time I didn't have a choice.  Historically, LIBOR over the last 5+ years has varied from .2% - 4% so at times I'm only paying 3.2% (LIBOR plus discount rate) and other times I'm peaking at 7% which is tough to beat from an investment perspective but not impossible. My initial thought was to pay down the loan and be done with it but then I started thinking what else could I do with the cash. 

Option 1:

I'm thinking of purchasing a small 1BD unit in Scottsdale/Phoenix, AZ because I'm from there and familiar (granted I live in Washington, D.C. right now) but the waived eviction notice and COVID puts doubt in my mind that spreading myself thin right now is a good idea. (I have 5 properties in total - 2 in San Diego, 1 in Scottsdale, 1 in Strawberry, and my primary in Arlington, VA). I'll explain San Diego below, Scottsdale and Strawberry are paid off, and I recently purchased Arlington in January so owe $700k, 3.75%, 30 year).

Option 2:

San Diego property is paid off in 2027. I receive $4500/mo for 9 months for student rentals and varied in the summer up to $12k/mo. I have $250k left on this loan at 2.5% interest. I always thought the best thing to do was have the tenants pay the loan off but mathematically if I pay it off now I would be in the black almost $60k/yr give or take which seems like a good idea and then I could pay off the personal loan in ~4-5 years as there's no rush per se I just hate the idea of this varied loan which could crush me if it hits that 6%+ mark and it requires a minimum for my stock balance or there's a maintenance call. So basically I worry in this market there could be another drop in stocks which forces me to sell low to pay down the loan.

So do I purchase in Scottsdale, pay off the San Diego home, pay off the personal loan as originally thought, invest in stocks, retain some cash and pay off X amount of loans, mixture of everything, do something completely else I haven't thought of...? Cash is king and once I pay off the loan obviously it's gone...

What is the best decision? Thank you all!

[Justin R.]

Originally posted by @Breanna Green:

Thanks Justin! So as if I invest the funds, how do you propose I pay off the variable loan? I have to pay at least $1000/mo for interest alone so typically try to aim for $2500/mo. And of course the mortgages come due and for the most part my tenants' rent takes care of it. 

Unlearn how you think about debt.  Instead of seeing it as an oppressive and dangerous wild animal that you have to kill for your safety, think of it as an animal that you need to tame and then use.  Would you rather plow the field by hand or with an ox pulling your plow?  Make debt your ox.

Here's the thing: Someone invested some money into a 'margin lending' product.  You bought that product for $235k, and you're paying $587/m for it (assuming 3.2% interest rate).  How do we make money?  We buy low and sell high.  Sell that $235k at a higher price (meaning, more than 3.2% interest).  The difference is your profit.

The skill comes in figuring out how to sell it and what to charge.  

• Buy VZ stock - it'll pay you 4.3% in dividends right now. It'll pay you $10105 over the next year. You pay $7520 of that to your LOC. Your profit is $2585 over the next year.
• Invest in MogulReitI (no affiliation - just an example) - it'll pay you 6% annually.  You'll pocket $6580 over the next year.
• Lend that money to a real estate developer for a project - it'll pay you, say, 13% annually.  You'll pocket $23,030 over the next year.

I'm just giving some easy-to-explain examples.  Of course they all have different things to consider, but the money you make at the end of the year is payment for your knowledge and skill in choosing and evaluating your strategy.  The more you know, the higher your net risk-adjusted returns will be.

So to answer your question, "how do you propose I pay off the variable loan?". I don't propose that you do. As long as you've tamed the debt beast and are using that beast to plow your fields faster, never pay off that loan. Sleep well knowing that if the loan is called or the interest rate spikes, or your spouse starts arguing with you because they're listening to too much Dave Ramsey and don't yet understand, you can sell your investment and pay off the LOC within a fairly short order.

Don't fear the beast.  Own the beast.

--Justin

Note: The numbers I'm seeing don't add up correctly, so I just made the following assumption:

• The "personal loan" is actual a margin LOC in the amount of $235k. Currently at 3.2%, variable. This is $587 in monthly interest.