Advice #1 - Quit borrowing. If you have to borrow for a down payment, you are piling debt onto debt. You need to start living within your means - and that includes not buying property you can't afford. Interest only loans will be your demise if you aren't careful.

Advice #2 - "Our plan is to take the tax returns for the next 5 to 6 years and pay off the home equity." What???? You have a 58K loan. If you are getting 10k back at tax time, you need to see a CPA. I know it seems great to "get money back" at the end of the year, but what you are really doing is giving the government a 10k loan at 0% interest. Instead of doing that, you should adjust your withholdings so that you take home more money each month and get zero refund. Use that money each month to pay down your HELOC. Why lend the government money with no interest when you are borrowing money with interest?

Advice #3 - If you can get a lower fixed rate, great. If not, don't worry as long as you have a plan to pay off that loan quickly. Interest rates are currently low and probably will stay that way until we are well into an economic recovery. The real key is to start paying that balance down so that you don't have a 58k loan.

I agree with billl, pay off your loan ASAP, don't refi into a higher rate.

Hi Amy,

Well, billl actually beat me to the punch on items #2 and #3... I totally concur.

I think point #1 was mistaken in focus though. I see no evidence from your post that you couldn't afford to make the shortsale investment that you did... and the fact that you are capable of managing them together supports the idea that you are in good, responsible shape in that manner.

Rental real estate (properly acquired and managed) is the absolute SUPERIOR inflation-hedge investment going forward. Your fixed-rate mortgage payments will never go up... but your RENTS WILL! Further, the longer you can avoid giving back the levered funds to the mortgage bank, the more the economic burden of the borrowed amount will deflate (in direct balancing opposite to degree of inflation itself.)

Here's an extremely simple example (you can divide by 10 to get the idea.)

If you bought 10 rentals at $100,000 each with zero down at 6% fixed ($500/month)....
Starting of with *only* $600 monthly rents (zero cashflow after taxes, insurance & expenses,)
With a 3.6% average rate of inflation...
And a 3.6% average rate of real estate appreciation...
And a 3.6% average rate of rental rate appreciation...

After 20 years you would own 10 rentals worth $200,000 each... still costing $500/month mortgage payments.
Rents would be roughly $1,200/month...
Minus double inflated taxes, insur. & expenses ($200) you'd have $500 positive cashflow ($5,000 for the portfolio,)

Let's say you want to drop your management burden in half... take life more easy....

If you sold HALF of them, you would collect enough money (thanks to appreciation)...
to pay off all the mortgages on the OTHER half (thanks to inflation)...

Leaving you with 5 properties with a net casfhlow of $1,000 each ($5,000/month income,) and $1,000,000 unencumbered equity in your net worth.

You're on the right path.

Luck!
Dave Donhoff
Leverage Planner

The problem with Dave's argument is that you take on large risks by not holding equity in your investment properties or major cash reserves. Say you had 30% equity in your old home. You "borrowed" some of that so that for down payment. Now, you have minimal equity in both places. If prices go up, and if you can keep tenants in them, and if you keep a steady job, and if you don't encounter any major expenses as a landlord, then the numbers work out just like he says. Unfortunately, a lot of people lost their shirts using that strategy in the recent downturn because those "ifs" didn't cooperate. Realestate is a great investment for the reasons that dave states, but it can be a quagmire if you over-extend yourself to get into the game.

Thanks for all the advice. We can afford both places. We are not going to be buying more property in the future. We just took advantage of a home that was a shortsale because it was twice as big, in a much better neighborhood in Chicago and three blocks from our kids school and we paid the same amount as we did for our two bedroom house seven years ago. I am not one to take on debt lightly!!! As with the tax return our CPA, my father, has been telling us this for years. My husband likes it set up this way so that we have a big return at the end of the year and we have always used it wisely, like paying off mortgages etc.
I guess my big concern was the loan NOT being at a fixed rate. With that said we could pay the payments even if they went to 8% no problem but I would be mad at myself if we could have locked in at like a 5 to 6% now. I do believe the interest rates will stay low for awhile but in two years if they go up I do not want to wish I had paid more up front for the long run of a lower interest rate. I hope I have been clear at what I am asking. I will be able to pay off the loan in 5 to 6 years but no sooner than that. Is there any way to refinance this loan at a little higher rate that what I am paying now 4.?% instead of risking that they may go up a lot. After the 1982-85 crash wern't interest rates up high?

The problem with you overpaying taxes is you wait until many months later to pay while the interest expense accumulates every month. If you got those extras tax payments every month, paying it toward your mortgage it will save you in the long run paying off that mortgage earlier..

On short term loans, interest rates are far less important. Say you can be variable at 4% now with zero cost. If 3 years from now rates double, your balance should be down to 30k. The difference between 4% and 8% of 30k is about 1,200 for year 4, 800 for year 5 and 400 for year 6. It really isn't worth paying more now in the hopes that you won't have to pay a small amount more in 5 years.

Dave, I'm with you on the rental purchases but - how does one buy investment property with no down, I've never bought without 25% down and am now told it is 30-40% down.
I didn't know it was possible, it may or may not be financially good, some can afford all the "ifs" billl mentions, so the leverage may work

Bill, THANKYOU!!!!!!!!!!!! I had not thought about it that way. I feel so much better. This has been on my mind for awhile. Amy

Amy-
If your husband likes that big payment at the end of the year, set up a separate savings or money market account. Then determine how much extra a month you are paying in withholding (it sounds like about $800+ per month!). Then reduce your withholding by this amount and have the bank set up an automatic payment that comes out of the account you deposit your paycheck into. That automatic payment goes directly into your new, separate account. As long as you guys are not lacking in willpower, and can avoid tapping into it, you'll have it all there at the end of the year, or whenever. Further, when interest rates improve, you can make a little money on it instead of continuing your interest free loans. I'm ok with paying what I owe...just not more than I owe. As Ben Franklin said: "Pay yourself first."

Changing to a fixed rate loan will give you security, but in addition to paying a higher interest rate, I imagine there are significant costs in refinancing the loan that would offset any savings. Can you even get a fixed rate, no-interest loan these days? And as billl points out, as you pay down the loan amount, any potential higher interest rates are on increasingly smaller amounts of money.

What is your father suggesting you do? Sometimes you need to force yourself to be dispassionate about finances. Your husband's delight in a refund check costs you money. Your desire for the security of a fixed rate loan will likely do the same.

Hi cmarlin,

Dave, I'm with you on the rental purchases but - how does one buy investment property with no down, I've never bought without 25% down and am now told it is 30-40% down.

Well, realize that my prior post was an extremely simplified hypothetical... but it still applies to the real world.

The first thing we need to mutually understand is that *everything* is 100% financed... you either pay interest for somebody else's money, or you forfeit real earnings, opportunity & safety by financing from your own cash/money... so in the end, its all the same. The only question is net average cost of that asset-purchase money.

I didn't know it was possible, it may or may not be financially good, some can afford all the "ifs" billl mentions, so the leverage may work

Right. Owning/operating a rental property is a small business action... *not* a passive speculation... and it requires all the appropriate reserves & management skills that come with such an action. It also offers the relevant upside for those who treat it appropriately.

Cheers,
Dave Donhoff
Leverage Planner

The first thing you need to decide is if one or both of your properties are rental properties. Keeping a house empty for a long term is not good for the house. I am assuming that one or the other has to be a rental to make your cash flow. Otherwise, you have an empty house. This seem rather foolish.... If you are not keeping it as a rental, the quicker you sell, the better off you will be, even if you take a loss. So be agressive and make it move.

If a property is a rental, then you need to understand how to do that and get a renter in there ASAP. You can mix and match the mortgage for IRS as long as you know how to do your taxes.

We often have a mix of ARM versus fixed rate mortgages. As long as you know how to manage the loans associated with the rental, either ARM or fixed rate should be fine at this time. For example, if you have a way to quickly lock a rate and refinance to a fixed rate as the rates start to rise, then ARM is not such a bad thing. I am paying about 3.5% on my HELOC right now. There is NO way I can get a fixed rate mortgage at that interest.

"Owning/operating a rental property is a small business action... *not* a passive speculation... and it requires all the appropriate reserves & management skills that come with such an action."

This is absolutely true. At times, our rental properties can cost us significant dollars without warning, ie leak in the bathroom, roof needs replacement, applinaces die, etc. You need reserves to deal with these...

Renters come and go at their schedule, not on my schedule!

I'm going to have a similar problem in a year, not the 2 houses, but a LOC that I'm taking out for a significant addition that I will want fixed.

check out penfed.org - Its a federal credit union. you can qualify by making a donation to a group that supports military and their families (its on the site) and they right now have a 4.99% 20 yr fixed rate equity loan.

Greetings Both/Amy,

My suggestion relates to more skillful use of your income tax refund.

That substantial cheque from the IRS after income tax returns go in every year may gladden your husband's heart ...

... but - it - drains - his - wallet!!

You know the amount of his tax refund last year. If he gets paid monthly, divide that amount by 12 (or the number of paycheques that he receives during the year).

If he gets paid monthly, as of Jan. 31, he made a loan to the IRS of that amount, on which he received no benefit, i.e. they paid him no interest on that amount ... and they held it until the date of the refund ... if it were June 1, that loan was for 16 months. I suggest that you calculate how much interest you're paying on your HELOC on that amount for 16 months.

As of the end of Feb., he made another interest-free loan of the same amount to the IRS ... for 15 months. Calculate how much interest you're paying on your HELOC on that amount for that period.

As of the end of Dec., he'd made 12 such loans. Calculate the interest on each of those amounts for the relevant periods, then add them all together.

For example, on $1,200. at 5%, the amount would be $60.00 if the full amount ran for a full year, but when we average, it's about half of that period, it'd be $30. for the year. Then we figure that the full amount was owing for 4 months, Jan. 31 '09 till May 31 '09, or 1/3 of $60., or $20., which means $50.00 in total.

Then I propose that you get 5 - $10.00 bills, fan them out in your hand and, if your husband smokes, ask him to get out his cigaret lighter and burn them.

If he shows a willingness to do so ... snatch the bills away in a hurry.

But - that's about what his lack of financial acumen is costing your family.

Every year.

Reduce the amount of withholding by that amount and use it to pay down your HELOC!

That'll produce a benefit for your family - interest-free loans to the IRS don't.

Good wishes for increasingly skillful use of your income and assets, year by year.

Good wishes also for having a great year in 2010.

ole joyful

Amy, congrats on your home purchase.

I do agree with Kudzu and Ole Joyful - you need to put that extra tax amount into savings every month instead of "giving" it to the IRS to keep for you until spring. You are concerned about the interest on the HELOC, but have not addressed the issue of the money you are losing by overpaying your taxes. Sorry to be blunt, but if your DH doesn't trust himself to save money, and would rather pay the government to do it for him, I would hesitate to take on any extra debt.

Change your/his W-2 so that you are only paying what is necessary. Divide the expected refund by 12 (or 26 if he is paid every two weeks) and deposit that amount into savings with an automatic deposit. I'm sure your Dad is itching to help you make these changes.

Best wishes on your new venture.

Another thought which depends on your states insurance rules is that if the houses are not occupied in some states you must have a different type of insurance rather than homeowners. If you are only carrying homeowners on both if something happens your insurance company may not make a payment for the damages and can cancel your insurance because of misrepresentation. After all homeowners is suppose to cover the home you live in not the homes you own. Better to have a renter in the one you do not want to live in than to take that kind of loss.

Yes, typically, you can only get fire insurance for a non-owner-occupied dwelling.