Realty Q&A Minimum cash-out refinancing depends on your equity
Last Update: 7:48 PM ET Feb 22, 2007
WASHINGTON (MarketWatch) -- Question: What is the minimum amount of money that one can cash out without causing additional money to be refinanced within your loan amount? I have been informed that it is $2,000. Carnell Gadson.
Answer: The amount of cash you can take out of your house depends on the equity you have in it. And there are several ways to get at it. One is to take out a home-equity loan. Lenders usually will give you 75% to 80% of your equity, which is the difference between what your place is worth and what you owe on it.
You also might be able to get a little more with a second mortgage, which also is a tad more expensive than an equity loan. Or you can refinance the whole shooting match, which means turning in your old loan for a new, higher balance one and pocketing the difference between what you owe now and what you will owe on the new mortgage. Finally, you can sell the place and pocket the proceeds.
However, in the first three cases, we're talking about loans that must be paid back. Therefore, all three require that you take "additional money" out of your pocket every month. Even if you cash out $500 or $1,000, that amount will be added to your balance and your payment will increase.
Q: We are immigrants in our early 30s who came to this country with nothing in our pockets about eight years ago. My wife and I now currently own a two-bedroom condominium (House A) in downtown Chicago, which we bought for $360,000 in December 2004. We paid 5% down and got two loans, one 5-year adjustable rate mortgage at 4.625% and the other -- a line of credit -- at 1% plus prime.
We've been good with paying our bills on time and we also keep putting some extra money towards the principal every now and then. And thanks to the real estate market, the house has seen some appreciation, around 15%.
However, we now find this house rather small and are planning to buy a bigger house (House B) in downtown by early 2008. At the same time, we are thinking we should hold on to this house and use it as an investment property. Together we make about $200,000-$220,000 per year and have about $70,000 in savings, mutual funds and stocks. We do not have any major credit debt or any student loans to pay.
If we were to keep our total real estate portfolio between $900,000 and $1 million, which of the following options make more sense and why?
We keep House A, rent it out and buy House B. Or sell House A, use the profit from House A along with some savings for down payment on House B and use the equity from House A to buy and rent House C. House C will be smaller than House A (about $300,000, but still a two-bedroom condo) so we do not get too burdened if we are not able to rent it out for the entire year, which I am thinking will be the case. Or sell House A and use the money to buy House B. Gurneet Singh
A: Wow, that's a mouthful. For starters, you need to get with a knowledgeable investment and/or tax consultant, one who can look over your entire financial situation and make recommendations accordingly. There's just not enough information here for me to offer concrete suggestions.
That said, several things come to mind that you might want to consider. First, renting real estate isn't as easy as it seems. And you'll make most of your money from appreciation, not rent and write-offs. That begs the question, how long would you will be willing to hold Property A or Property C as rentals?
Also, what is the current rate of appreciation -- not in the Chicago market as a whole, but in the neighborhoods where the properties are located? Appreciation rates can change, of course. But for now, do the math to figure out whether your gains will be larger by owning one more expensive house or two less expensive places.
Another thing to consider is whether or not you have the stomach to be a landlord. Are you hard-nosed enough to kick someone out if they don't pay on time? Landlording is a tough-love business. You have to be stern but reasonable at the same time.
If you go it alone without hiring a professional property manager, can you give it the time necessary to collect the rent, pay the bills and keep on top of maintenance and repairs? If not, consider the cost of hiring a rental agent. In some markets, it rounds around 20% or so of the monthly rent. Can you give up one-fifth of your potential income and still make a go of it?
Also, can you afford to pay the bills if for some reason the house remains vacant longer than expected? Perhaps your search for a good tenant will take longer than you estimate? Or maybe it will take longer to fix up the place after a tenant leaves?
There also are transaction costs to consider in each of the scenarios you mention. Option One is the only one in which there is only one set; the others require two or perhaps even three rounds of closing costs.
It sounds like you have enough equity in House A that if you decide to sell, you have enough to make a healthy down payment and keep your payment reasonably close to what it is now. But you might be able to afford more now every month than you could when you bought the property. If you have two properties, can you charge enough on the rental property to make that payment without making it difficult to afford two house payments? And remember, there may be some down months when you have nothing coming in on the rental.
These are just some things to think about. Obviously, it is time for you to put pencil to paper and consider all the alternatives mathematically. And get some sound advice from someone who is familiar with your finances.
Feedback
Paul Beland from Bergen County, N.J., writes to note that I erred when I said federal income tax returns must be filed by April 15. See previous Realty Q&A.
While that is normally the date, when it falls on a weekend or holiday the deadline is extended to the next business day. That would be April 16, a Monday, this year. But as it turns out, that day is a holiday in some parts of the Northeast and in the District of Columbia. So for 2007 you actually have until Tuesday, April 17 to file your returns.
Nationally syndicated columnist Lew Sichelman has been covering the housing market for 35 years.
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