Anonymous wrote:

Anonymous wrote:If you have enough money to pay off the mortgage, don't you also have enough money to refinance into a 10 or 15 year loan? You should be able to get the interest rate comfortably below 4%. Having a fully paid-off investment property doesn't make a ton of sense since it minimizes your leverage.

What is the importance of leverage (real question - not being snarky)? How does cash on hand, if it is not needed, outweigh spending more by paying unnecessary interest?

Anonymous wrote:What is the importance of leverage (real question - not being snarky)? How does cash on hand, if it is not needed, outweigh spending more by paying unnecessary interest?

Leverage changes the return on the investment.

If you put 10% down on a house worth $100,000 and then sell it after a year for $110,000 (pretend that selling a house is free, for a moment), you got close to a 100% ROI, which is excellent.

If you had bought the same house outright, your ROI would be only 10% (which is still good, but a lot less so).

Its true that if you're literally doing nothing with the money, there's probably not much reason to be paying interest. But a few things to consider:

1. If you have it in a high yield checking account and you have an interest rate on the loan under 4%, you're already making back a good percentage of the interest payment by parking the money, which might be worth it to have cash on hand instead of cash stuck in a property that you've have to sell or refianance to get at.

2. If you put the money in an only moderately aggressive money market account, you have a pretty high chance of beating your interest rate payment. Over the past year, a ton of mutual funds outperformed the prevailing interest rate. And getting your money out of a money market account is a lot simpler than getting it out of your property.

3. If you're hyper-aggressive, you could simply invest the additional money back into real estate. In the example above, the person who was able to buy the place outright could have instead bought ten places and sold them all, netting $100,000 instead of $10,000. Plenty of people have gotten rich doing this (though half of them filed bankruptcy in 2009).

4. Under a lot of circumstances, you can deduct some or all of your interest payment from your taxes, saving some of the money back.

5. Finally, you need to factor in the effect of inflation. Inflation makes your cash in hand less useful, because you can buy less with it. But it also makes your debt less significant. Obviously, having available cash is better than having debt, but its not nearly as much better when the inflation rate is high. Under those circumstances, your money is becoming less valuable, but your debt is not becoming more burdensome.

Anyhow, I don't advocate taking on a ton of debt, but I think some people, in the name of being debt-free, act in a way that doesn't maximize their wealth or flexibility. See for example the 12:00 poster, whose reasoning is "You will have more freedom!" That's certainly false. The whole point of OP paying off the loan would be to trade away unneeded financial freedom in the short term with the goal of being wealthier over the long term.

Anonymous wrote:Pay it off- No brainer. You will have more freedom!

+1

I am about to finish a refinance of an investment property with a loan balance under $100,000 and without any closing costs. But its in a different state so maybe the rules/willigness to complete the transaction are different there.

Pay it off- No brainer. You will have more freedom!

What type of diversification do you have in your overall portfolio? If you are heavy in RE, and this is a property that is easy to rent, then refinance a much larger portion of the value (leaving a 60% or so LtoV ratio), take the refi-proceeds and redeploy that money into the stock market---or---

redeploy that equity into making an investment into another rental property, if you like real estate.

Anonymous wrote:If you have enough money to pay off the mortgage, don't you also have enough money to refinance into a 10 or 15 year loan? You should be able to get the interest rate comfortably below 4%. Having a fully paid-off investment property doesn't make a ton of sense since it minimizes your leverage.

What is the importance of leverage (real question - not being snarky)? How does cash on hand, if it is not needed, outweigh spending more by paying unnecessary interest?

^^ I'm in a similar situation on no one wants to refinance that little amount. One lender called it a "nuisance loan."

Anonymous wrote:If you have enough money to pay off the mortgage, don't you also have enough money to refinance into a 10 or 15 year loan? You should be able to get the interest rate comfortably below 4%. Having a fully paid-off investment property doesn't make a ton of sense since it minimizes your leverage.

With investment property you would have to pay closing costs of $2000 to refinance. Being that the loan amount is only $40k it wouldn't make sense since I wouldn't be able to recoup the money. IT would defeat the whole purpose of not having to pay so much in interest or fees.

If you have enough money to pay off the mortgage, don't you also have enough money to refinance into a 10 or 15 year loan? You should be able to get the interest rate comfortably below 4%. Having a fully paid-off investment property doesn't make a ton of sense since it minimizes your leverage.

Anonymous wrote:Np.
How are taxes calculated on rental income? If you've paid off the mortgage, do you wind up paying more in taxes since the profit margin is larger?

Well...by paying off my mortgage I will have a higher taxable income. But for every dollar I paid in interest I saved about 33cents. But net I am still paying money to interest. It's just a deduction from my interest so it doesn't make sense to pay interest so that I can save that tax. I am still out the 66cents on the dollar.

Np.
How are taxes calculated on rental income? If you've paid off the mortgage, do you wind up paying more in taxes since the profit margin is larger?

Yes, and once you are no longer paying a mortgage on the property you should be able to build your savings back up quickly.

Yes.

Anonymous wrote:I wanted to get some advice. We have a rental property but the loan on it is currently at 5.625% interest. It is much higher than my residential home (@ 2.749%). So the loan amount is about $40k. We have approximately $104K in cash. After paying off the loan, we would still have approximately 6 months of emergency fund (if we cut some of the fat). In addition, we have a good amount in investments, 401k and 529s. I just hate having to pay 5.626% when the bank is only paying me 0.9% on the money.

If it matters, the property is in Northwest DC.

I wanted to get some advice. We have a rental property but the loan on it is currently at 5.625% interest. It is much higher than my residential home (@ 2.749%). So the loan amount is about $40k. We have approximately $104K in cash. After paying off the loan, we would still have approximately 6 months of emergency fund (if we cut some of the fat). In addition, we have a good amount in investments, 401k and 529s. I just hate having to pay 5.626% when the bank is only paying me 0.9% on the money.