As professional property managers, we receive numerous questions from new and existing investors in regards to purchasing their next income property. As every personal situation is different, below is what we believe to be one of the best ways to make money while you sleep.
Real Estate investing has the benefit of utilizing the banks money for the majority of a property’s purchase price (mortgage) you don’t get that with stocks. The down payment that investors put in the property come from either: savings, existing equity, or other people’s money (OPM).
The cheapest source of capital is savings, but it is the most expensive in terms of time in our view as it takes time to save and opportunities may pass by during that waiting period. On the other end of the scale, you’ve got OPM. We see investors jump into OPM capital prematurely because of its unlimited potential. While true, it may appear as an inexpensive source of capital, it is money you are responsible for and the “other people” have their expectations. While there is a place for OPM within one’s portfolio, we believe it should be used strategically and that investors should first maximize on what they can do on their own using their own capital to own a property.
The most powerful source of capital for investors in our view is existing equity, mainly for these reasons:
1. investors do not have to “work” for that money. Their properties do. Many investors have seen their properties (primary residence and rentals) appreciate over time, picking up hundreds of thousands of dollars in equity that they can extract to re-invest.
2. Extracting equity is relatively cheap given the low cost of borrowing with many lenders
HOW TO TAKE OUT EQUITY
There are three ways to take out equity from a property:
1. through a mortgage secured by a property you already own,
2. setting up a secured line of credit against the equity in your property
3. a combination of the above
With a mortgage, you pay principal and interest on that money from day 1 – the minute the deal closes – while with a secured line of credit, you don’t pay anything until you start using the line; and when you do: you can either pay an interest only payment – which is often at a higher rate than the mortgage – or a principal and interest payment.
So which method is best?
Many of our clients utilize a secured line of credit – that can work like a mortgage if you want it to, which is often called an advanceable mortgage product.
What it does essentially is allow you to pull out the equity through a secured line but it gives you the flexibility to convert any revolving balance at any point in time into a mortgage. Further, the product allows you to accumulate equity on the line as you pay down the principal without having to go through the hoopla’s of approvals. A big bonus!
To investors, the benefits of such product are huge:
First: you don’t pay for the equity until you start using it
Second: paying an interest only payment, gives you the opportunity to stabilize cash flow on the property you are buying and maximize the net cash flow in the meantime. Once accomplished and you have a “good grasp” on the income and expenses your property generates, you can convert from an interest only payment to a principal and interest; which will help you accumulate additional equity
Last: The ability to convert a revolving line of credit to a mortgage could help your future approvals because the lenders (especially the banks) factor a monthly payment on a revolving line of credit balance that is higher than the payment on a mortgage payment.
Advanceable mortgages are offered only through a select group of lenders and you may have to qualify for such a product.
It is best to position the equity in your home or rentals when you do not need it versus when you have a property that you purchased and plan to rely on equity from another property to close the deal.
Not only is it less stressful to do it ahead of time as opposed to being in the middle of closing another deal, but also doing it at the time you qualify is the best time to do it as your income situation or the rules of qualification could change down the road.
Further, it is generally easier and more cost effective to take out equity from your rental portfolio before you own your 6th rental property. The reason is that once you own more than 5 rentals, the ability to qualify for an advanceable mortgage product is tougher and the costs associated with equity take out tend to be higher, especially if you don’t have liquid assets (non registered investments or cash assets) that you can prove to the lenders.
If you are planning on positioning equity in more than one property; it is important to speak with a qualified investment property mortgage broker to help you determine how to go about the process, which property to position first and which lenders to take each deal to. We have many that we have worked with and can recommend a couple to you.
Without a plan that factors the impact of taking out equity from one property on the equity take out from another property, you run the risk of qualifying for less money overall and/or not qualifying for the right equity take out product.
You can rest easy when you use your existing equity, as this strategy should be part of your overall portfolio financing plan and management. Working with a professional property manager, a qualified mortgage broker and an experienced realtor can help guide you through the process to not disrupt your portfolio cash flow and does not limit your ability to get favorable financing terms on your future deals.
We are here to help
If you are weary from the headaches of maintaining and renting out your property, Westhawk Property Management is here to help. We provide professional service to all properties we manage and offer Concierge service to owner-occupied homes so we help you to find roofers, electricians and other home pros to help you get jobs done.
The Westhawk Property Management team of professionals are here to help you build wealth through real estate investing. We will free you up to pursue your career, spend leisure time with your families, while at the same time saving you costs and frustration. Call us today to discuss how we can be of service to you.