Don’t Miss Out On The Advantages Equity Provides
By JD Esajian on March 9, 2015
It is no secret that the mortgage industry has changed quite a bit over the last ten years. Before the market collapsed, you could buy investment property with little to no money down – without having to verify income. This made getting into a property easy, but it also created problems if you needed to sell in a pinch. One of the hardest hit segments of the mortgage industry was to investors, and the investment property market. Instead of putting little to no money down, you currently need between 20-25 percent. While this may be an obstacle to some, it can also be a blessing in disguise.
The first advantage of putting 20% down is that you have equity as soon as you open the door. While equity is not necessarily important unless you are considering selling, it gives you the confidence to make the best possible decisions. Instead of cutting corners or rushing to get a tenant in, you can do the right work knowing that you already have equity in the property. You don’t have to do work to create value. It is already there, and you are simply adding to it. This will buy you some time to work on your schedule. This flexibility may not seem like a big deal, but when you are dealing with a portfolio of properties it has a huge impact.
Equity also gives you more options. No investor ever thinks that something bad will happen in their business or with the property, but from time to time, plans will turn off course. If you have equity, it will give you the flexibility to sell your property quickly in a pinch. You won’t have to worry about a short sale. You simply take what you can get and move on. This is not ideal, but it is far better than trying to get rid of a property that you are close to breaking even on. Even if you don’t want to sell, you may be able to take a second mortgage or possibly refinance with the equity you have. Most loan programs require 75-80% loan to value, but if you put down 20% when you bought you should have more than enough equity to work with. It may be difficult forking over the down payment at closing, but you can use this money as a way of forced savings that will give you constant flexibility to do what you want, whenever you want with your investment.
Another benefit of equity is that it will increase your cash flow on rental properties. Right off the bat you will eliminate the PMI (private mortgage insurance) payments that would be added to your monthly payment. Also, the more you put down the lower your mortgage payment will be. In some cases the difference in 10% down payment can equate to hundreds of dollars a month less. With your total monthly payment lower you will see a higher cash flow every month which can lead to better tenants instead of trying to get every last rental dollar. If you have a good tenant but wanted to increase your rent by $50-$100 you can opt to keep the existing tenant knowing that they will pay every month and take care of your property. You can also use this extra cash flow in other areas of your business or to pay down other debts that may be pressing. The higher cash flow that you receive is often more than the return you would get if you dumped your down payment money in a typical savings account.
The more equity you have when you buy the less money that is owed on your mortgage. The less that is owned on the mortgage the quicker you are to owning the property free and clear. This is the goal for most investment property owners. With a free and clear property you now have a full array of options and benefits that you would not have otherwise. If you make one extra payment to the principal every year you an additionally knock your balance down and accelerate your equity. With interest rates as low as they are the 15 year option may only increase your payment incrementally meaning that you may be able to shave off 10 years or more of mortgage payments and still see significant monthly cash flow. The quicker you can pay off your mortgage the better position you will be in. A large down payment will get this ball rolling for you.
Each property can call for a different down payment strategy. With the mortgage industry constantly changing there will surely be more investment programs coming in the not so distant future. Some of these will most likely allow you to put down as little as 10-15% down payment. While this may be the best option getting into the property it may not be the best long term strategy. Having equity will allow you to maximize cash flow and give you an array of options if you need to pull cash out or sell quickly. It will also start you on the path of owning your property free and clear and adding to your retirement portfolio. Coming up with the initial down payment may sting but with the right property it can be the best thing you can do for your business.