How to calculate the benefit/return?

**sweeps** · 02-12-2008, 08:29 AM

I never remember all the finance formulas, so I simply whip out Excel and create a spreadsheet for questions like this.

If you're truly able to get a 12% return on your money, then yes, it is very likely you'll come out ahead. But the devil is in the details. What kind of investment is this? Are there other costs involved? Is it a steady 12% return per year, or something else?

Also chances are if you're taking out an Interest Only mortgage, you're not going to be able to keep it for 10-15 years. Most of them are only for 5 years before you have to start paying principal or refinance again.

**disneysteve** · 02-12-2008, 08:42 AM

Originally posted by noslenj123 View Post

On the investment side there will be capital gains but not sure if I only pay them when I pull money out of the investment (which I don't plan to do for 10-15 years).

When you pay capital gains depends on the type of investment. If it is an individual stock, you don't pay the capital gains until you sell the stock and realize the gain. If it is a mutual fund, however, you pay the capital gains annually whether you sell the shares or not.

A couple of comments on your plan, though. As sweeps mentioned, the interest only period is usually just a few years so you need to look at what the payments become after principal repayment starts.

And most importantly, where do you expect to earn a consistent 12% return on your money?

**jIM_Ohio** · 02-12-2008, 08:43 AM

Originally posted by noslenj123 View Post

I'm trying to understand how to calculate my return on the following investment scenario.

If I refi my mortgage as an I-only to pull out 150k of equity for investing and I'm able to get 12% return on that money.

It will cost me $250 more per month. I know there is a tax savings on the interest only payment. On the investment side there will be capital gains but not sure if I only pay them when I pull money out of the investment (which I don't plan to do for 10-15 years).

So the $250/mo cost is less due to the tax write off. And the money I make in the investment is lower due to capital gains. I assume it is still a net positive but not sure how to calculate it.

Can anyone help?

Here is what I would look at:

1) Check the terms of the interest only mortgage. Many have a balloon payment or reammortize after year 5 or year 10, for example.

2) Calculate the total interest paid each year. Plug the projected 2009 full year number into your 2007 tax returns. See what the "tax return" benefit is.

2a) comment on how this tax benefit will be spent (invested, prevent you owing taxes, or similar).

3) calculate 150k compounded annually for 10 years. At 12% return.

3a) add the tax benefit to compounding if investing (is the tax benefit greater than 3k per year?).

4) calculate alternative mortgage (the one $250 cheaper) if you invest $250/month for 10 years ($30k).

You need to weigh the risks:

30k invested over 10 years will be a good amount.
The mortgage is paid off in scenario 4, you will owe taxes at unknown rates on the 150k compounded.

In scenario where you borrow to invest, I think the kicker is the tax return. if you are getting more back in taxes, that can lower your overall tax rate. If you get 3k additional back per year, the $250/month which costs you is made up for on the tax return.

If you use Turbotax, I would plug the estimated numbers for a full 2009 interest schedule into it

a) with cheaper mortgage
b) with interest only mortgage
c) with cheaper mortgage and standard deductions
d) with interest only and standard deductions

meaning check to see how much you are saving comparing a) and b), and also know how far you are away from not needing the mortgage deduction.

**noslenj123** · 02-12-2008, 01:15 PM

Thanks for the replies gang. In essence, what I'm trying to do is an equity repositioning. I don't plan on moving and would like to put my equity to work if possible. I'll try to address your questions/concerns.

I understand that I-only loans are usually short term. I see them with 5,10 and even 15 year balloons. Whichever I choose I will refinance as an I-only again as often as needed. I should retire within 15 years.

The investment I'm considering is through a local Real Estate Investment company. The return is steady and the investment is via first trust deeds. As always you must consider the risks with real estate especially in todays market. I have been doing real estate investing for the last 4 years and there is more due diligence for me to work out before attempting even this scenario.

Jim, I don't have any tax software and much of what you suggest is a bit confusing to me. I need to review that a few more times when I get the chance to understand it all.

I'm just trying to see if it works out better to do what I'm talking about here or just lower my mortgage with an I-only without pulling out equity and simply just investing the difference plus the $250 per month. Then I would be comparing about $550 per month invested over 15 years in something like and index fund versus the $150,000 up front (that I'm still paying $250/mo for) at 12%.

Whether I do it or not, it's still an interesting thing to compare if I can figure it out. :-)

**disneysteve** · 02-12-2008, 01:21 PM

Originally posted by noslenj123 View Post

The investment I'm considering is through a local Real Estate Investment company. The return is steady and the investment is via first trust deeds.

I have no idea what first trust deeds are, but if anyone is telling you you can count on a 12% return, I'd suggest turning and running away. There is no investment that can assure that kind of return. If there was, we'd all be doing it.

**noslenj123** · 02-12-2008, 03:04 PM

Originally posted by disneysteve View Post

I have no idea what first trust deeds are, but if anyone is telling you you can count on a 12% return, I'd suggest turning and running away. There is no investment that can assure that kind of return. If there was, we'd all be doing it.

Steve, I understand where you are coming from but I'd still like to know how to figure out the financials.

If I do something like this the risk is all mine and I have done it before. Like I said, I will do enough due diligence for ME to be comfortable with the deal.

Btw, first trust deeds are first position loans on real estate. So essentially you are the bank and in first position so if the owner doesn't pay, you foreclose just like a bank and the house is then yours. The risk is, if that happens then you will end up with the house and hope the market has not gone down enough to make it negative. But even then there are options.

**jIM_Ohio** · 02-12-2008, 07:50 PM

Originally posted by noslenj123 View Post

Thanks for the replies gang. In essence, what I'm trying to do is an equity repositioning. I don't plan on moving and would like to put my equity to work if possible. I'll try to address your questions/concerns.

I understand that I-only loans are usually short term. I see them with 5,10 and even 15 year balloons. Whichever I choose I will refinance as an I-only again as often as needed. I should retire within 15 years.

The investment I'm considering is through a local Real Estate Investment company. The return is steady and the investment is via first trust deeds. As always you must consider the risks with real estate especially in todays market. I have been doing real estate investing for the last 4 years and there is more due diligence for me to work out before attempting even this scenario.

Jim, I don't have any tax software and much of what you suggest is a bit confusing to me. I need to review that a few more times when I get the chance to understand it all.

I'm just trying to see if it works out better to do what I'm talking about here or just lower my mortgage with an I-only without pulling out equity and simply just investing the difference plus the $250 per month. Then I would be comparing about $550 per month invested over 15 years in something like and index fund versus the $150,000 up front (that I'm still paying $250/mo for) at 12%.

Whether I do it or not, it's still an interesting thing to compare if I can figure it out. :-)

If you are familair with real estate, but not the tax deductions, I might suggest some tax training of some sort. Buy turbotax and play with it.

**InDebtInDC** · 02-13-2008, 04:01 AM

Originally posted by noslenj123 View Post

I'm trying to understand how to calculate my return on the following investment scenario.

If I refi my mortgage as an I-only to pull out 150k of equity for investing and I'm able to get 12% return on that money.

It will cost me $250 more per month. I know there is a tax savings on the interest only payment. On the investment side there will be capital gains but not sure if I only pay them when I pull money out of the investment (which I don't plan to do for 10-15 years).

So the $250/mo cost is less due to the tax write off. And the money I make in the investment is lower due to capital gains. I assume it is still a net positive but not sure how to calculate it.

Can anyone help?

Not enough info for me. I don't know what your current mortgage is, or how risk-tolerant/averse you are.

Typically this is a strategy of a real estate investor who has rental and/or investment property. You typically do not want any equity at all in your investment property should the property be destroyed, foreclosed, tied up in court, etc

If you view yourself as a real estate investor, that's great. Just make sure it makes sense and you're earning enough after taxes in the alternative to help cover the mortgage interest.

I'm not big on taxes so you will have to consult a professional. Jim covered pretty much all the bases so there isn't much for me to add.

Jim, you can almost do this stuff for a living

**jIM_Ohio** · 02-13-2008, 05:48 AM

Originally posted by InDebtInDC View Post

Jim, you can almost do this stuff for a living

I was painting our nursery last night with a friend of mine and we talked about the same thing.

How to calculate the benefit/return?