How Much Should I Put Down, Given Current Interest Rates?
Unless you have been living under a rock, you probably know that interest rates have gone up sharply in the last year. It’s now more expensive to take out the same mortgage … which makes positive cash flow harder to achieve with leveraged real estate investing. So the question is: How Much Should I Put Down when buying my rental property?
One consequence of higher interest rates is downward pressure on market value. In other words, some attractive prices are appearing on the market. But with interest rates higher, many buyers are considering taking out smaller loans … which means bigger down payments. Instead of 80% or 75% LTV, they’re considering 70%, 50%, even all cash.
Is this a good idea? How much should you put down in this interest rate environment?
Interest Rates Are Actually Closer to Normal
First things first — the past decade of bargain-basement interest rates is not the norm. What we’re seeing now is closer to the norm. We’re actually still below the sixty-year median for interest rates.
This means they have not only been higher on average, but there were periods of time when they were much higher. In 1983, the average mortgage interest rate tipped the scales at over 16%!
So while mortgages seem like a worse deal now than they were last year, they’re still a good deal historically speaking.
Should You Make a Bigger Down Payment to Achieve Higher Cash Flow?
What about the buyers considering a bigger down payment to achieve positive cash flow? Remember, positive cash flow is the key building block of financial freedom. If it takes a little more skin in the game to achieve it, why not?
I understand that temptation … but let’s not lose our heads completely. At MartelTurnkey we believe in the 75% Rule — if you can’t achieve positive cash flow with 75% LTV, regardless of the interest rate environment you happen to find yourself in, it’s probably not a good-enough deal. Something is out of whack, and it’s probably a pass.
As such, whatever down payment you ultimately intend to make — even if you intend to buy all-cash! — I strongly recommend underwriting 75% LTV with a 25% down payment, and just seeing how the numbers fall.
Should You Buy All Cash and Refi Later?
Many buyers are bitter about the higher interest rates … but tempted by those compressed prices. Federal monetary policy is expected (well, hoped) to result in declining interest rates over the next year or two. If you have the disposable cash, would it be wise to snap up some of those properties with all-cash purchases and refinance them later?
There’s nothing wrong with this strategy (as long as the property passes the 75% rule). Why take on a big mortgage at a higher interest rate?
Yes, you could make a bigger down payment, take out a smaller loan, and still refi later … but then you will face two application and underwriting fees. Plus, you might face a prepayment penalty on the first loan. As a rule of thumb, we recommend either maximal leverage 75% – 80% (assuming the deal passes muster), or no leverage.
The most important thing to do in an environment of rising interest rates is to not panic. Interest rates have been higher — much higher, in fact — and odds are they will come down again. Just keep your head and keep looking for positive-cash-flow deals.
MartelTurnkey is here to help with that. We built our business on supplying our select buyer list with real assets that cash-flow from Day One, and that hasn’t changed. Click here to view our inventory of renovated, rented, ready-to-go investment properties just waiting for your deposit!