Should You Pay Off Your Rental Properties Early?

When I started buying rental property a few years ago I financed them all with 30 year mortgages. I wanted to create the most cash flow possible so that I could continue to buy more rental property. If I financed the property with a 15 year mortgage it would eat up the cash flow and wouldn’t give me the money I wanted to buy the next deal. Buying properties in Denver four years ago, using the Hard Money and Refinance Strategy, I was buying property that cash flowed $700 a month with 30 year notes; in most cases with less than $5,000 out of pocket. So that meant I could buy another property using the cash flow every few months. Prices were low, finding tenants was easy and my cash flow increased with every purchase, life was good! While preparing for taxes this year, I was reviewing mortgage statements on rental properties, seeing my monthly average principal pay down is about $125 a door. I currently have 10 properties so the pay down is slow. When I bought properties with 100% financing on 30 year mortgages I wasn’t expecting that I would have principal pay down over night, I also wasn’t expecting to be paying the same mortgages at 60 years old.

When a property cash flows so well, I start thinking about what things would be like if I started plowing all of the cash flow into the rental mortgages, and if that would be a good investment strategy. Keeping in mind that all of these mortgages are between 3-5.5% interest, the immediate thought from most investors is, “why would I invest my money at 5.5%?”

Everyone’s answer to this question is different, depending on your personal situation. Let’s look at a typical investor with four properties; details are below as well as a few questions that might provoke some thought.

Here is an example landlord’s situation.

4 rental properties; all balances at $100,000
Mortgage payments ($100,000, 30yr, 5%, $125 per month for taxes and insurance) $625 per month
All rented for $1,250 per month
Gross monthly cash flow: $625
Expenses at 25%, $315 per month, per property

What are your goals?

Create cash flow for income today. In the example provided, the net rents would add $1,240 to your monthly bottom line. This might pay your mortgage payment, fund a couple nice vacations a year or send a child to college.

Use the cash flow now to create more cash flow in the future. Pay down the mortgages and have one free and clear rental in just 6 years. Add the payment you were making on that property, $500 per month, creating $1,740 per month and the next one is paid off in 4 years and the next two in just 6 years. Accelerating the pay down delivers 4 free and clear rental properties in just 16 years, with a monthly cash flow of $3,240 (not including rent increases).

Other Investment Opportunities: If you are looking for more deals, it makes sense to save that cash flow to invest in another deal. In the example of $1,240 net per month it is about $15,000 a year or $30,000 in two years to purchase another deal or two. In the Denver market the deals are more difficult to find now than ever before, so you may need to work harder to put that money to work. Some of our Minnesota clients are buying houses for $30,000, making it pretty easy to put the cash flow to work in your next deal.

Tolerance to Debt: Your personal tolerance to debt could be your deciding factor. Some buy and hold investors only buy property with cash while others prefer financing. Each has their own benefits. When paying cash, a change in the market or increased vacancies likely won’t cause lost sleep. Financing allows an investor to purchase more property with less cash. It could be uneasy for an investor to look at their balance sheet and see $400,000 in mortgage debt, for others is just a part of the business.

Time Horizon: In my opinion, this is the second most important decision to make when considering paying down rental mortgages. Your time horizon could be crucial to your decision. If an investor is 30 years old, they may not be in a hurry to pay off the rentals as more opportunities could be in sight to continue acquiring property. Although based on the example in “what are your goals?” this investor could be 46 with a nice monthly rental income.

At 45 years old, an investor may or may not be comfortable with carrying that debt until 75 years old. This investor wouldn’t have as much time to enjoy the cash flow they created. However, if the intent was to use it as retirement, it would be a great choice.

Required income: How much do you require living on? This is the most important question to ask yourself. Some investors use rental income as a supplement or all of their income. Obviously if you use your cash flow to pay your bills, using it to pay down mortgages isn’t an option. Although, if you don’t need the cash flow; it could be easy to use the additional to pay down rental properties.

Tips on How to Find the Right Rental Properties

Finding profitable properties is the key in becoming successful in rental property business. To help you find profitable properties, here are some tips you could use.

First, you should find the right broker. Having a reputable real estate agent or broker is a big step in the successful hunt for a profitable rental property. The right broker knows the neighborhood well, and he or she can advise you the right properties that suit your needs. If you’re looking for rental properties outside your town, this can really be helpful too.

Next, make sure that your finances are all in order. Make sure that your credit report does not contain inaccuracies if you’re planning out a mortgage to finance your property purchase. After asking for your credit report copies from the three major credit bureaus and you find something inaccurate, make sure to question this inaccuracies. With this, your chances of getting approved for financing and qualifying for favorable interest rates will be improved. And before you come up with a decision to buy a rental property, come up with some worst-case scenarios. This would allow you to pay your mortgage payments even if you don’t have enough renters to fill the property.

Also, you should always remember not to overpay. In buying a property, make sure to allow a sufficient profit margin. Spend only the maximum amount that you can afford to spend so that you’ll survive even if you don’t have full occupancy on your rental property.

It is also important that you have the property thoroughly inspected before purchasing it. See to it that the environment is safe for the tenants. You should also check the electrical wiring and the paints used. Having the property inspected will help you prevent hidden problems that may cost you thousands of dollars later on. And compared with paying unexpected repairs, paying the inspection yourself will still save you lots of money.

After finding the right rental property, do not forget to research the entire neighborhood. Make sure that it is safe and has enough security. Try to see if there are plans in the works for construction that can lower the property’s value. Knowing what is the neighborliness now and what it is like in the future is very important.

Lastly, you should be familiar with the real estate market. For those who are not familiar with the area or are not working with a broker, knowing the real estate market is very crucial. You should be aware that rents are also low for those housing markets with low prices while high housing costs mean that you can charge more since the area is in demand.

Types of Rental Properties

If you’ve been in the market for a home, you know that in addition to single- family homes, you can choose from numerous types of attached or shared housing including apartment buildings, condominiums, townhomes, and co- operatives. In this section, we provide an overview of each of these properties and show how they may make an attractive real estate investment for you.

From an investment perspective, our top recommendations are apartment buildings and single-family homes. We generally don’t recommend attached-housing units. If you can afford a smaller single-family home or apartment building rather than a shared-housing unit, buy the single-family home or apartments.

Unless you can afford a large down payment (25 percent or more), the early years of rental property ownership may financially challenge you: With all properties, as time goes on, generating a positive cash flow gets easier because your mortgage expense stays fixed (if you use fixed rate financing) while your rents increase faster than your expenses. Regardless of what you choose to buy, make sure that you run the numbers on your rental income and expenses to see if you can afford the negative cash flow that often occurs in the early years of ownership.

Single-family homes

As an investment, single-family detached homes generally perform better in the long run than attached or shared housing. In a good real estate market, most housing appreciates, but single-family homes tend to outperform other housing types for the following reasons:

Single-family homes tend to attract more potential buyers – most people, when they can afford it, prefer a detached or stand-alone home, especially for the increased privacy.

Attached or shared housing is less expensive and easier to build and to overbuild; because of this surplus potential, such property tends to appreciate more moderately in price.

Because so many people prefer to live in detached, single-family homes, market prices for such dwellings can sometimes become inflated beyond what’s justified by the rental income these homes can produce. That’s exactly what happened in some parts of the United States in the mid-2000s and led in part to a significant price correction in the subsequent years. To discover whether you’re buying in such a market, compare the monthly cost (after tax) of owning a home to monthly rent for that same property. Focus on markets where the rent exceeds or comes close to equaling the cost of owning and shun areas where the ownership costs exceed rents.

Single-family homes that require just one tenant are simpler to deal with than a multi-unit apartment building that requires the management and maintenance of multiple renters and units. The downside, though, is that a vacancy means you have no income coming in. Look at the effect of 0 percent occupancy for a couple of months on your projected income and expense statement! By contrast, one vacancy in a four-unit apartment building (each with the same rents) means that you’re still taking in 75 percent of the gross potential (maximum total) rent.

With a single-family home, you’re responsible for all maintenance. You can hire someone to do the work, but you still have to find the contractors and coordinate and oversee the work. Also recognize that if you purchase a single-family home with many fine features and amenities, you may find it more stressful and difficult to have tenants living in your property who don’t treat it with the same tender loving care that you may yourself.

The first rule of being a successful landlord is to let go of any emotional attachment to a home. But that sort of attachment on the tenant’s part is favorable: The more they make your rental property their home, the more likely they are to stay and return it to you in good condition – except for the expected normal wear and tear of day-to-day living.

Making a profit in the early years from the monthly cash flow with a single- family home is generally the hardest stage. The reason: Such properties usu- ally sell at a premium price relative to the rent that they can command (you pay extra for the land, which you can’t rent). Also remember that with just one tenant, you have no rental income when you have a vacancy.

Attached housing

As the cost of land has climbed over the decades in many areas, packing more housing units that are attached into a given plot of land keeps housing somewhat more affordable. Shared housing makes more sense for investors who don’t want to deal with building maintenance and security issues.

In this section, we discuss the investment merits of three forms of attached housing: condominiums, townhomes, and co-ops.


Condominiums are typically apartment-style units stacked on top of and/or beside one another and sold to individual owners. When you purchase a con- dominium, you’re actually purchasing the interior of a specific unit as well as a proportionate interest in the common areas – the pool, tennis courts, grounds, hallways, laundry room, and so on. Although you (and your ten- ants) have full use and enjoyment of the common areas, remember that the homeowner’s association actually owns and maintains the common areas as well as the building structures themselves (which typically include the foundation, roof, plumbing, electrical, and other building systems).

One advantage to a condo as an investment property is that of all the attached housing options, condos are generally the lowest-maintenance properties because most condominium associations deal with issues such as roofing, gardening, and so on for the entire building and receive the benefits of quantity purchasing. Note that you’re still responsible for necessary maintenance inside your unit, such as servicing appliances, interior painting, and so on.

Although condos may be somewhat easier to keep up, they tend to appreciate less than single-family homes or apartment buildings unless the condo is located in a desirable urban area.

Condominium buildings may start out in life as condos or as apartment complexes that are then converted into condominiums.

Be wary of apartments that have been converted to condominiums. Although they’re often the most affordable housing options in many areas of the country and may also be blessed with an excellent urban location that can’t easily be re-created, you may be buying into some not so obvious problems. Our experience is that these converted apartments are typically older properties with a cosmetic makeover (new floors, new appliances, new landscaping, and a fresh coat of paint). However, be forewarned: The cosmetic makeover may look good at first glance, but the property probably still boasts 40-year-old plumbing and electrical systems, poor soundproofing, and a host of economic and functional obsolescence.

Within a few years, most of the owner-occupants move on to the traditional single-family home and rent out their condos. You may then find the property is predominantly renter-occupied and has a volunteer board of directors unwilling to levy the monthly assessments necessary to properly maintain

the aging structure. Within 10 to 15 years of the conversion, these properties may well be the worst in the neighborhood.


Townhomes are essentially attached or row homes – a hybrid between a typical airspace-only condominium and a single-family house. Like condo-miniums, townhomes are generally attached, typically sharing walls and a continuous roof. But townhomes are often two-story buildings that come with a small yard and offer more privacy than a condominium because you don’t have someone living on top of your unit.

As with condominiums, you absolutely must review the governing documents before you purchase the property to see exactly what you legally own. Generally, townhomes are organized as planned unit developments (PUDs) in which each owner has a fee simple ownership (no limitations as to transfer- ability of ownership – the most complete ownership rights one can have) of his individual lot that encompasses his dwelling unit and often a small area of immediately adjacent land for a patio or balcony. The common areas are all part of a larger single lot, and each owner holds title to a proportionate share of the common area.


Co-operatives are a type of shared housing that has elements in common with apartments and condos. When you buy a cooperative, you own a stock certificate that represents your share of the entire building, including usage rights to a specific living space per a separate written occupancy agreement. Unlike a condo, you generally need to get approval from the co-operative association if you want to remodel or rent your unit to a tenant. In some

co-ops, you must even gain approval from the association for the sale of your unit to a proposed buyer.

Turning a co-op into a rental unit is often severely restricted or even forbid- den and, if allowed, is usually a major headache because you must satisfy not only your tenant but also the other owners in the building. Co-ops are also generally much harder to finance, and a sale requires the approval of the typically finicky association board. Therefore, we highly recommend that you shun co-ops for investment purposes.


Not only do apartment buildings generally enjoy healthy long-term appreciation potential, but they also often produce positive cash flow (rental income – expenses) in the early years of ownership. But as with a single-family home, the buck stops with you for maintenance of an apartment building. You may hire

a property manager to assist you, but you still have oversight responsibilities

(and additional expenses).

In the real-estate financing world, apartment buildings are divided into two groups based on the number of units:

Four or fewer units: You can obtain more favorable financing options and terms for apartment buildings that have four or fewer units because they’re treated as residential property.

Five or more units: Complexes with five or more units are treated as commercial property and don’t enjoy the extremely favorable loan terms of the one- to four-unit properties.

Apartment buildings, particularly those with more units, generally produce a small positive cash flow, even in the early years of rental ownership (unless you’re in an overpriced market where it may take two to four years before you break even on a before-tax basis).

One way to add value, if zoning allows, is to convert an apartment building into condominiums. Keep in mind, however, that this metamorphosis requires significant research on the zoning front and with estimating remodeling and construction costs.

Financing Rental Properties

How to finance rental properties. It’s 2008 and much has changed in the mortgage industry. Between the year 2000 and 2007, we could all get zero down mortgages on rental properties. Even if our credit scores were as low as 580. Credit was easy to obtain.

The purpose of this article is to show you the best way to get financing in today’s lending climate. First, let me show you the difference between a mortgage broker and a mortgage banker.
A mortgage broker will shop around for a mortgage through hundreds of nationwide lenders. Prior to 2007, this was a great route to go. This is where you could get a zero down mortgage with a 30 year fixed rate.

A mortgage banker is an originator of a mortgage. It is a specific lending institution, like a bank, who will lend their own funds. Unfortunately, banks will always require a down payment to purchase a rental property. It is usually 20 percent.So what is the best way for financing rental properties today? It’s by using a Rehab Lender.

Forclosures are abundant and will always need rehab. Let’s say you wanted to buy a forclosed property that needed substantial work. Banks and mortgage brokers will not lend on this type of property. A rehab lender will.

Here’s how it works. Most rehab lenders will lend up to 70% of After Repaired Value (ARV). This includes the purchase price, closing costs, and repairs. You’re credit score can be as low as 620 with no problem. These mortgages are between six and twelve months. Then you must sell the property or refinance it with a different lender.

Here is an example:

$40,000- Purchase price.

$4,000- Closing costs.

$26,000- Repair/renovation.

$70,000- Total funds needed.

If the ARV of this property is 100k, they will fund it.

This is the best way for financing rental properties because it’s zero down and you get a fully renovated house from the start.

After the property is rehabbed and rented out, you will need to refinance it with a different lender.
In today’s real estate market, I would suggest a small local bank in your community. On a refinance, they will give you the best interest rate. Way better than what you could get through a mortgage broker. It’s typically a half point above the current mortgage rate. They will also refinance with no money down up to 70% LTV. With a rental property they usually offer a 3-5 year arm product. I have never found a bank who will offer a 30 year fixed on a rental property. But that’s ok. Refinancing with a small local bank is better in every other way. They are even more lenient with credit scores because they do their own underwriting.

I know you’re next question. Where do I find a rehab lender? There are a few nationwide private rehab lenders. You can find these by typing “rehab lender” in your browser.

Another way is opening up the Yellow Pages and calling the smaller banks in your city. In my city, I have found two local banks that do rehab lending. The local banks I use require a 10% and 15% down payment. Their closing costs are only $1000. Because of their down payment requirement, I usually use a private rehab lender even though the closing costs are higher. This company requires no down payment and can escrow the closing costs.

Another way to find these private lenders is to call your local Apartment Association. Another way is to use Under “Real Estate Services” place a free ad saying, “Seeking a rehab lender”. You’ll be surprised how many responses you get. You can also find them in your local Yellow Pages.

“Ultimate” Residential Rental Property

What is the “Ultimate” Residential Rental property? Many experienced investors might well say, “Apartments”. This can range from a Duplex to hundreds of units in a Complex. In my “Illustrious” Real Estate career, I have been involved in the ownership of various sizes of these complexes.

However, today I still own several Residential Rental properties, of which none are apartments. I believe for the average (if there is such a thing) Investor, the ULTIMATE Residential property is the Single Family House. “Well”, you say, “Why do you make a statement like that, Jack?” Let me count the reasons why.

1. The Single Family House (SFH) is easier to manage. One unit – One tenant.
2. The SFH is easier to finance or refinance. a. Institutional Lenders much more are inclined to loan on a SFH than a Multi-Unit property. b. Private Investors also will usually favor lending on the SFH. This is especially beneficial for rehabbers.
3. The SFH is much easier to sell than larger properties. The demand for SFHs far exceeds Multi-Unit; more buyers who can afford to buy.
4. The SFH is easier to maintain because there are fewer things that will require repairs.
5. Greater choice available in SFHs for Investors who want to get involved in Rental Property.
6. The SFH offers a greater Tax Advantage for the Investor. If managed by the Investor, things like interest paid, taxes paid, and depreciation can create tax deductions.
7. The SFH is easier to understand, especially for the newer or beginning Investor. This is true because most people already know a lot about SFHs because they have been living in one for most of their life, up to now. Acquiring and holding single family houses as rental property is a great way to set up one’s retirement plan. If a person, say at age 30, 40, or whatever acquired just one house a year by the time they reach retirement time, they should have a good steady income from the houses.

A good thing about rental income is that in the event of inflation, the rents will go up along with everything else. One question a person might ask is, “How am I going to buy a house a year? Where am I going to get the money to do that?” The answer is you do that by acquiring financing for the purchase. If you have good job income and good credit you look to your bank or other Institutional Lenders.

If this is not the case or if you would rather just not use Institutional Lenders, there are many houses you can finance with the Seller or Private Investors. If you doubt that, just look at your newspaper in the “Houses For Sale” section and you will find houses that offer Seller-Financing, often with the statement, “No Credit Check”.

Another good way to find houses to acquire is to look for those that are in need of repair. Often these houses are vacant. If you happen to be handy with fixing-up, you can often acquire a house with “Sweat Equity”. If not, you can look for a handy man who can help you get the house fixed up and ready to rent.

One final comment: If you own a house free and clear, or with a lot of equity, you can always raise cash if you need to by selling or borrowing from an Institutional or Private Lender.

These posts are the opinion of the author who is not engaged in rendering legal, accounting, or investment advice. If such advice is required or desired, the services of competent professional persons should be sought.