Sacrificing $92/mo in CF will save me $180, 240
Cash-flow is king, right? Whatever you do, maximize cash-flow! Maybe not??
The terms of that hard money loan? Who cares! The extra $7k in costs can be rolled in and my cash outflow is less at the buy.
That 5/30 commercial balloon? Phooey. The 20yr straight am will hurt my cashflow. I'll figure the balloon out in 58 months. The market only goes up after all...
Buying with seller financing, but you don't own it until it's fully paid off? Oh well. It cash-flows, baby! I just hope that old seller doesn't die or get sued while I'm still paying on it! Maybe I should have learned about how to get seller-financing AND ownership, even if my rate would have been a tad higher to convince them to give me a mortgage instead.
There are other factors on our wealth-building journey than cashflow. Costs are not always measured in net cents every month. Reducing risks can make more sense in the long-run.
In 2012, I refinanced a lot of mortgages. Rates were their lowest in 60 years and my old loans from 1998-2007 were in the 6s and higher. Those were the going rates then. What were also attractive since I wasn't new and rates were about 30% less, were 15-yr loans. Yep, rates were way less percentage-wise. Check them out always when shopping for a loan. Yes, your monthly cashflow will be less, but watch this...
I had a duplex on a 30yr at 6.5% and I was 5 yrs in. The payment was $1640/mo (my market is expensive). A 15yr loan could be had at 3.375% with a payment of $1732. What should I do? My tenants were paying my mortgage, right? Who cares if the rate is over 3% higher and the term 10yrs longer. The cash-flow is better staying put!
But hold on there, sparky. By reducing the rate 3.125% on a shorter term my principal paydown went from $250 To $1050 month 1. That's $800 a month better. To fully illustrate, shortening the term by 10 years saves me $196,800 ($1640 × 120 months). There are other factors to consider than the size of the payment!
But what of the $92 payment increase? The cashflow reduction? That over 15 years will cost me $16,560.
This is where you get creative with your household budget and save $92/mo by cutting the cable, brewing your own coffee brown bagging your lunch, borrowing your audio books and movies from the library, etc. Easy stuff. If you already cut to scorched earth there, reduce property expenses /or increase revenues with value-adds and optimizing space uses.
Cash-flow is not always king. I will take my accelerated paydown path to payment-freedom over needing to acquire more assets any day. Consider more than just cash-flow on your wealth-building journey!
Comments (7)
@Jerry W. I've been trying to reply since you were nice enough to comment 8 months ago. Thank you for your thoughts. I agree it is an easy decision when viewed on the whole. $17k you won't miss for $180,000 you will notice. Always appreciate your thoughts!
Steve Vaughan, over 3 years ago
The truth of the matter is that that sound business decisions are sound business decisions. Who in their right mind would trade $167K for $17K? You don't actually slow your growth or your business. The slight drop in income makes no difference. I used mostly 15 year loans when I started investing. My cash flow was tighter, but I pulled my belt a little tighter, trimmed down my expenses and pushed forward. When I saw another property that I wanted to buy later guess what? I had no cash for the down payment, my fault right? NO! I simply took out a second mortgage on the property with the 15 year loan as collateral for the 20% down payment. Problem solved. I saved myself 6% interest by having the first mortgage paid down instead of having the extra money sitting in a savings account. DTI is important, but banks love to see equity sitting in your properties.
Excellent post. Folks need to see both sides and realize that a balanced approach to cash flow is best.
Jerry W., almost 4 years ago
@Jerry W. I've been trying to reply since you were nice enough to comment 8 months ago. Thank you for your thoughts. I agree it is an easy decision when viewed on the whole. $17k you won't miss for $180,000 you will notice. Always appreciate your thoughts!
Steve Vaughan, over 3 years ago
All great points, Andrew. For 'wet behind the ears' I think you covered the pros and cons of loan acceleration very well!
A lot depends on how new we are, how much we want to grow and the market itself. When even the MLS has easy pickins'? Grow like crazy! When you have to turn over 100 rocks to find a marginal deal? Acceleration makes more sense to be better armed later.
I have gone to 15s on a lot of loans because I've been doing this a while and deals are harder to find anyway. I even a 10 yr loan (private loan with an older guy that paid off a commercial bank loan) and CF is tight. But with zero borrowing costs the effective rate is in the high 4s. The payment is $1800 (7-plex and I got cash out to pay off a 7.9% house mortgage, too) but the paydown was over $1100 beginning month 1. I have 3 that pay down over $1200 a month each.
I used the no-brainer in my article to make a point. I fully expected someone to come and say 'duh'. LOL i chose 15s on a couple other house loans which make my cf neg $200 but pay down like bandits, over 50%, or $600 per month. I think my paydown per month is about $11k.
Like you said, it's all about where you are. I just ask folks to consider more than what's left at the end of every month. Think in decades. Cheers to you, Andrew, and thank you for your awesome comments!
Steve Vaughan, almost 6 years ago
Steve, I really like the accelerated pay down if the goal is reduced growth and speed finance independence, while concurrently minimizing tenant headaches. I think when folks first get going in REI controlling DTI ratios so you can grow and maximizing cash flow for growth are important, which is probably done best through longer loans. But at some point one might find thy self with enough properties and enough tenants to manage (especially if self managed). Further, if the goal is to replace current 9 to 5 income in say 15 years it makes sense to have enough properties where the loans will mature and the cash flow is much greater after the notes are paid.
But of course others will argue that growth should be non-stop and there is no incentive to payoff loans when costs to service them are all deductible. But goals need to be matched with approaches right? If you're going to self manage during the FI years maybe you don't really want to have so many loans and units to service. Maybe it's better to have less where each is a cash cow since the loans are paid.
Lots to consider here and most will argue that 0 down, 30 year loans are the way to go. I see it a little differently, but as you know, I'm a little wet behind the ears. Finally, we've not considered that net worth grows much faster with the shorter loans. If that's the goal than it should be considered as well.
Respectfully, Andrew
Andrew Gingerich, almost 6 years ago
This is wisdom indeed. Long term view of wealth management is easy to miss when focus is cash flow only. Also the loan restructuring options change after having held the property for 5-10 years. Thanks for the post.
Rajat M., over 3 years ago
@Rajat M. Thanks for finding my old blog post and chiming in. I have just this year paid off the loan entirely and placed a HELOC on it in case an opportunity arises. We must see the forest through the trees. One tree may say to maximize the immediate cash-flow, the forest asks how this will fit into your journey and achieve your goals. Cheers!
Steve Vaughan, over 3 years ago