To pay off a HELOC or not?...

[lherndo]

I own two houses, I just recently purchased my second and rented my first house for $850/mo.
The value of that house is ~$115,000. I owe ~$76k on the mortgage and ~20k on a HELOC for a total of approx $100k. The mortgage rate is 6% @ $630/mo including escrow, and the HELOC is 4% @ $158/mo minimum totalling $780/mo.

I recently came into some cash of $12,000. I have a unique saving account through my work that pays out 4%. I'm thinking it makes sense for me to deposit that %12,000 and take the 4% that completely offsets the HELOC yet I can withdraw the money at anytime with no penalty, thus staying liquid.

Alternately I could spend the money to pay off some of the HELOC to get to 80% LTV on the house and refinance the house at around 4.9% and lower my total payment to ~$660 total. Lock my rental investment to the lower % interest and increase my monthly profit from it from a break even/tax shelter to $190/mo.

Any insight as to which one of these is better and why is much appreciated. Thanks.

Sincerely,
Luke

[jpg7n16]

How old are you? Do you have a 3-6 mo EF in place? Are you saving towards retirement already? Any other debt?


I ask all these because I personally would not rush to pay off a 4% loan. I would like to see you with a quality EF 1st (esp since it can earn 4%), then on track for retirement. Then once the EF is in place, and I'm on track for retirement - would I personally worry about accelerating these specific loans.

So I would choose option 3) fund your ROTH for the year, invest the rest. --- but that's me.


If paying off the mortgage is important to you, and you'd like to accelerate that process, then paying down to refi is better than keeping liquid in 4% account. It's like you increase the rate on $8k by 1%, but lower the rate on 76k by 1%, so of the 2 options you gave, with this one you'd come out much further ahead. The 4% account is a slight loss with the HELOC but with liquidity. (the 4% account is taxable, so it's like 3% really)

[jIM_Ohio]

I own two houses, I just recently purchased my second and rented my first house for $850/mo.
The value of that house is ~$115,000. I owe ~$76k on the mortgage and ~20k on a HELOC for a total of approx $100k. The mortgage rate is 6% @ $630/mo including escrow, and the HELOC is 4% @ $158/mo minimum totalling $780/mo.

I recently came into some cash of $12,000. I have a unique saving account through my work that pays out 4%. I'm thinking it makes sense for me to deposit that %12,000 and take the 4% that completely offsets the HELOC yet I can withdraw the money at anytime with no penalty, thus staying liquid.

Alternately I could spend the money to pay off some of the HELOC to get to 80% LTV on the house and refinance the house at around 4.9% and lower my total payment to ~$660 total. Lock my rental investment to the lower % interest and increase my monthly profit from it from a break even/tax shelter to $190/mo.

Any insight as to which one of these is better and why is much appreciated. Thanks.

Sincerely,
Luke

Most of renting is about ROI- how much did you put "down" on the property vs how much positive cash flow it generates for you.

As I see it, the ROI on the rental is

[12*(850-780)]=840/(115-76=35k)=840 (annual profit per year)/ 35k (equity on current house)=2.4%

If you get the mortgage down to $660 the new math is

[12*(850-660)]=2280/(115-64=47k)=2280 (annual profit per year)/47k (equity on house)=4.8%

Your ROI would improve in this case. If you want a higher ROI you could do any of these things

1) raise the rent
2) lower the amount you owe
3) lower the amount of equity (if house is worth $115k and you owe 80k, the ROI is better than if you owe 60k (because you reduced your skin in game by 20k and have 20k more cash (now) to show for efforts which is added back into the numerator).

3 also increases risk (leverage) so take that into consideration. 2 and 3 are opposites of each other, so it depends how much risk you want to take for given situation.

[lherndo]

How old are you? Do you have a 3-6 mo EF in place? Are you saving towards retirement already? Any other debt?


I ask all these because I personally would not rush to pay off a 4% loan. I would like to see you with a quality EF 1st (esp since it can earn 4%), then on track for retirement. Then once the EF is in place, and I'm on track for retirement - would I personally worry about accelerating these specific loans.

So I would choose option 3) fund your ROTH for the year, invest the rest. --- but that's me.


If paying off the mortgage is important to you, and you'd like to accelerate that process, then paying down to refi is better than keeping liquid in 4% account. It's like you increase the rate on $8k by 1%, but lower the rate on 76k by 1%, so of the 2 options you gave, with this one you'd come out much further ahead. The 4% account is a slight loss with the HELOC but with liquidity. (the 4% account is taxable, so it's like 3% really)

Thanks for the reply,
I'm 30 yo with an income of about 100K with 10% contribution to a 401K. I think there's about $50k in the 401K right now. The only debt I have is the two houses, and 1 $300 car lease payment. We do have about 4 revolving accounts at 0% we opened for furniture and what not on the new house, just a few thousand $$ there and hey, it's 0% so I certainly don't want to pay that off early.

I'm afraid I don't know what EF means.

[jpg7n16]

Oh sorry been posting here too much!

EF = emergency fund

[lherndo]

Gotcha

So I had about a 6 month EF but that was before we bought the new house. (1 month ago) And the mortgage process today took A LOT more cash than it did 8 years ago. But we lucked up on a short sale of a builder that went belly up and absolutely stole it, and were lucky enough to find a renter before we even had to make a second mortgage payment.

Now our situation is different than a lot of peoples because I work for family in a family owned business where thank god, this economic downturn hit us first and we're through the worst of it. So my income is pretty stable. But you're right, I'll get that back up to 6 months first.

I also don't know anything about a ROTH. Can you point me to some more info about what a ROTH is.

[jpg7n16]

Well you don't have to have 6 months - that's the max. You should have somewhere between 3-6 in cash in case of an emergency. If not at the full 6 months, it's no big deal.

A Roth IRA is a type of retirement account that allows tax free withdrawals no matter how much it's made. So you deposit up to $5k/year - and whatever that grows to, it's all tax free when you withdraw after age 59 1/2. It's a pretty sweet deal.

Other retirement accounts are called "traditional IRA's" where when you make the deposit, you can deduct it from your income tax this year - but when you withdraw, it will all be taxed at that time.

So the main difference is traditional = no tax now, tax later. Roth = taxed now, no tax later.

Some links:

Roth IRA - Wikipedia, the free encyclopedia
Roth IRA



From the FINRA glossary: FINRA Smart 401(k) Investing Glossary

Roth IRA
A Roth IRA is an individual retirement account from which you can withdraw your earnings completely tax free any time after you reach age 59 1/2, provided your account has been open at least five years. However, to qualify to contribute to a Roth IRA, your income must be less than the level set by Congress. You may also qualify to convert a traditional IRA to a Roth IRA if your modified adjusted gross income (MAGI) in the year you convert is less than $100,000, whether you are single or married.

IRA = "individual retirement account"
FINRA = Financial Industry Regulatory Authority, Inc. - website: FINRA - Home Page (they're the people who do all the securities licensing stuff)

[jIM_Ohio]

So I had about a 6 month EF but that was before we bought the new house. (1 month ago) And the mortgage process today took A LOT more cash than it did 8 years ago. But we lucked up on a short sale of a builder that went belly up and absolutely stole it, and were lucky enough to find a renter before we even had to make a second mortgage payment.

Now our situation is different than a lot of peoples because I work for family in a family owned business where thank god, this economic downturn hit us first and we're through the worst of it. So my income is pretty stable. But you're right, I'll get that back up to 6 months first.

I also don't know anything about a ROTH. Can you point me to some more info about what a ROTH is.

Make sure the emergency fund has enough cash for household emergencies and rental emergencies.

Add up all needed household costs
Add up all needed rental costs (for 2-3 months)- include both mortgage payments, utilities and repairs in this "needed" stash.