I got a call from a reader the other day who was trying to decide if she should pay off her investment property or pay off her primary residence.
It's a fair question, but I could tell from our conversation that she didn't really understand all of the tax benefits available to her as an owner of investment property, and consequently she couldn't compare her two options fully.
Her investment property is a 6-unit building on which she owes
She and her husband live in a single-family home that they bought for
My reader and her husband have managed to build up an emergency fund of
They're thinking of taking all the cash in their savings account to pay down the mortgage on their investment property, then taking out
They'd continue making their regular monthly payment in order to pay off the loan on the investment property in a few years. When they're done paying off the investment property, they'd turn their attention toward paying off their primary residence.
It's a good example of how you can take gold and make hay out of it. In other words, one bad decision leads to several other questionable decisions.
I pointed out to my reader that by paying off the investment property quickly, she was going to wind up paying more in income taxes at the end of the year. Why? She can write off her expenses for the investment property against the income. If she doesn't have any expenses, she'll pay income tax on the investment income at her marginal tax rate, which might be 25 percent or 35 percent or higher.
And what about her primary residence loan at 5.375 percent? Why pay off the lower interest rate loan first? This doesn't make much sense. You should always pay off the loan with the highest interest rate first.
I suggested that she and her husband start by refinancing their primary residence. Her current payment is
By cutting 10 years off of her loan term, she'll save roughly
Once she pays off her primary residence, she can use that
And what should she do with the
If she decides to keep the money in cash, she'll have an emergency fund that she can rely on in the future. And, these days, a sizeable reserve is a great thing to have.
Finally, I told her was that obtaining financing on an investment property is rather hard these days and her rate is a great rate for that building. If she were to want or need to finance the investment property in the future, she might not find a lender willing to give her the money. However, finding a lender to refinance her primary home should be much easier. I also told her to sit down with her accountant and go over the benefits and burdens that the investment property has on her federal income taxes before making a decision.
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Real Estate - Pay Off Investment Property or Pay Off Primary Residence?
(c) 2010 Ilyce Glink, Real Estate Matters