Personal Finance & Money Asked by simplemind on January 27, 2021
Given the very low interest rates, I was wondering under which conditions it is beneficial to invest in a rental property (maybe with 20% equity) and pay back the loan primarily by the rental income, or, alternatively, pay off the first loan faster. Risks associated with buying a rental property are of course that the value could decrease or the tenant does not pay the rent. However, by the leverage of the credit, also higher gains are possible and ideally the credit could be paid back primarily by the rental income. Clearly, in both cases, there should always be a financial reserve to cover unexpected costs. So basically my question is, which factors should I take into consideration regarding this decision? Is buying a second home before the first home is payed off generally regarded a bad idea?
which factors should I take into consideration regarding this decision?
Is buying a second home before the first home is payed off generally regarded a bad idea?
Generally, no. Most business borrow money when they can achieve a spread of about 20% between the cost of borrowing money and their ROI. This may be difficult to achieve in the rental business without property value appreciation. My experience is that one can only hope to achieve about a 4-6% ROI in the rental business when factoring in reasonable costs and leaving out property value appreciation.
For some, including myself, I would only buy a rental property if I owned my home outright and could buy the rental property outright as well.
Correct answer by Pete B. on January 27, 2021
So basically my question is, which factors should I take into consideration regarding this decision?
There's only one.
That you guess (long-term) home prices in your market will skyrocket.
Home prices is many(but not all) markets do skyrocket long term.
But you're simply sitting down making a guess
[A] home prices in this market will skyrocket long-term
[B] home prices in this market will be stagnant long-term
That's all there is - there's no other decision point.
Owning real estate is the only investment with margin (in fact massive margin) available to "civilians".
If [A] your long-term profit will be enormous and all costs will be trivialized, if [B] it will be a grinding endless cost (just like owning a car or boat).
Answered by Fattie on January 27, 2021
The underlying question you are asking might be rephrased as:
Given that mortgage interest rates are currently very low, does it make sense to purchase more property than I normally would?
If you are planning on financing the property, then with all other things being equal, the answer is Yes.
However, all other things are never equal. In fact, there is a usually a direct correlation between interest rates, and buyer demand. The lower the rates, the higher the demand, which generally means property values increase. It's very possible that you will pay more for the same property when interest rates are low, which could be enough to undo any gains you make on the low cost of financing. So you still have to do all of your regular calculations to determine if purchasing property makes sense. Different markets are affected by buyer demand and increased purchase price in various ways, so include in your research the historical purchase and rental prices to make sure it still makes sense for now, as well as the projected future.
Answered by TTT on January 27, 2021
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