A few posts ago, right about last year, I wrote about my plan to pay off rental mortgage debt. I had laid out several of my options, and I ignored all of them. Instead, I continued to pay my regular payment, bought a new rental and paid cash for it, and paid extra on my current mortgage that is targeted to be paid off next. If I would have skipped the new rental, and put that money on the rental mortgage, I would almost have this rental mortgage debt paid off. Instead, I have that money as a 15%+ income producing asset.
There are many reasons to pay off rental mortgage debt, those reasons are all against the many pundit’s advice to stay leveraged. Here are my own personal reasons and what I have accomplished in the past twelve months.
My rental portfolio is a rock star rental portfolio in terms of non-leverage. I own 9 properties including my own residence, and have 25 renters. I only have three mortgages. My mortgage payments, principle and interest, are about 10% of rents when 100% collected. It will soon be much less than that.
What Rental Mortgage to pay First?
When you pay off a rental mortgage, or any debt, you should look for the highest interest debt you have, then pay it off as quickly as possible. Make the minimum payment on your other debt, and pound the highest interest rate debt first.
If that high interest debt is insurmountable, pound out the smallest one. Once that smallest debt is paid off, it creates more cash flow, and that allows you to pay off the highest interest rate debt next on your list. It is very simple – on paper.
In my case, both the highest interest rate mortgage and the smallest mortgage is the mortgage. So I have been focusing on that one.
Stay Away from Leverage to Sleep Well
My loan-to-value (LTV) ratio, when you look at realistic selling price, is about 15% of the total value of the properties. It seems like quite a bit of equity, but you cannot even buy a cup of coffee with a paid off building. You can buy many cups of coffee with a mortgage payment though.
Paying off a rental mortgage is frustrating. You pay and pay, and the balance never seems to get where you want it to be anywhere fast. I have been paying an extra $4,000 per month on my mortgage, and the balance is still high.
In the end, until the mortgage is paid off 100%, your cash flow does not change, and your tax deduction is less. So you are actually temporally worse off in the interim, with the extra principle payment scheme. Once you make a commitment to pay down a rental mortgage, you have to be relentless. You need to focus like a laser.
In Retirement, or FIRE, you need less debt – not more income
When you reach FIRE status, you will realize that you do not need as much money as you think. Much of what you earn as a W2 employee goes to taxes and savings. FICA, Medicare, 401K, HSA, IRA, Roth IRA, etc. Factor in extra income taxes due to a higher income, business lunches, commute costs, parking and bus fare, and adding in the cost of going everywhere at prime time and paying high prices, etc. take up a lot of cash.
Once you FIRE, you can fly out on a trip on a Tuesday, and save big on airfare. You can go to a restaurant and save on the Wednesday specials. You can take the time and make something to eat, as your schedule is less hectic. There are many ways to not spend money if you are not working. But working or not, bills must be paid. No matter how much your cash flow is.
If you have debt, it stays on like tree sap in your hair. Debt must be paid. Debt is like a nagging toothache that will not go away. It will destroy your credit rating if you do not pay it. It is the first dollar spent, and your ‘fun’ money comes last. You must defeat Debt when you are ready to FIRE. If you are still building your asset base, ‘good’ debt is OK.
The (new) Plan to pay off a Rental Mortgage
I have access to a HELOC that is an adjustable rate loan, and is 3.49% at the present time. That’s almost 2% cheaper than my lowest balance mortgage. The HELOC could be used it when the mortgage balance is lower.
I had ideas of paying off any remaining balance by 12/31/15 with my HELOC, and then pounding away at the HELOC. I invested in stocks instead.
On my FIRE date of 7/5/2016, I was going to make a larger payment from my investment account, and then pay off the rest with my HELOC, but I invested in stocks instead.
So the plan now is to continue to pay an extra principle payment until the need of the year, and decide what to do at that time. The balance should be ~$81K by then.
Remaining Rental Mortgage Debt
|Property||Balance 08/06/15||Balance 08/06/16||Paid Off||Payment (P&I)||Interest Rate||Annuitized return|
I look at annuitized return just a bit. If I put up ~$103,671, which is the remaining rental mortgage balance, I save $960 every month. It’s sort of like buying an immediate payout annuity, that pays $960 every month, sort of…
Historical Mortgage Balances
I have made significant progress on mortgages over the past few years. I was almost a million dollars in debt at one time. That was just a bit over 4 years ago. This list of mortgages is not all my properties, as there are a four others without any mortgage debt at all. Since they were free and clear on 02/18/2012, I did not include them. That makes six total properties without a payment.
So away I go. I will keep trudging along, paying an extra $4K a month as I have every month for the past year. Hopefully I can continue this payoff scheme for the rest of the year. I may decide to use some investment money to pay the smallest rental mortgage off – or not. Now that I no longer have a full time job, I will be a bit more careful of the money spent.
Once the rental mortgage paid off, I will have an extra $4,000 + the $960 payment extra in cash flow. That’s almost $5,000 extra per month. Some families with kids live in less than that, and pay rent or their own mortgage payment.
How would you approach the mortgage payoff? Would you use a HELOC to pay it off?