Mortgage Insider News
February 1, 2007
For this exciting project, we chose a loan that offered the lowest cost to originate since this was a non-owner occupied purchase and Tim was not going to hold the property for a long period of time. Also, we chose a loan product that offered the lowest payment Without having "negative amortization" or a pre-payment penalty. Another important feature we considered was future investments.
We wanted to make sure that if Tim decided to 1031 exchange his gain into a new property that he not be held hostage by the "debt relief" rule under 1031. We did not include his taxes and insurance with his payment as this would just needlessly tie up his working capital.
In choosing any loan product you must consider costs. Non-owner occupied financing is more expensive than owner occupied financing since the lender has a greater risk of default. Typically a lender may add up to 1.5% points to the cost of obtaining a non-owner occupied loan. In Tim's case, we financed that fee into his interest rate. In other words, Tim will pay a higher interest rate rather than pay the 1.5% up front.
Generally if you are going to hold a property for a long period of time, you may want to consider lowering your interest rate by pre-paying interest in the form of points. In this scenario, you pay up-front for the benefit of a long term lower interest rate. This does not make sense if you are going to keep the property for less that the break-even point which is more often than not around the five year mark. Therefore, Tim chose a loan with no points.
While Tim has chosen loans with negative amortization in the past and understands the benefits/risks of those loans, most of those loans have a minimum of a one year pre-payment penalty. Since Tim's plans are to sell the property before a year, we chose an interest only loan with no pre-payment penalty. The interest only loan allows Tim to make a lower payment than the traditional fully amortized loan. We chose the 10 year interest only product because surprisingly enough it was better priced than the shorter terms of 3 or 5 years.
Debt relief occurs when a mortgage or loan is paid off at the sale of the old property. For the IRS, this is considered taxable unless 1) the exchanger can replace the old debt with an equal or larger new loan OR 2) the exchanger increases the amount of cash invested in the new property by the amount of debt relief. Since lenders look for higher down payments on non-owner occupied properties and charge a hefty price for secondary financing to increase- the- loan to value above 80%, it made sense for Tim to put 20% down on this purchase. The result was two-fold. Tim kept his loan costs down and minimized the chance of getting into a debt relief situation on future purchases.
Taxes and insurance can be included with the loan payment or paid separately. If one chooses to include them in their payment, their cost of closing increases dramatically. Since this is a short term hold, there was no reason to needlessly tie up working capital for impounds.
In summary, Tim purchased his latest "flip" property utilizing an interest only loan product with no pre-payment penalty and he paid no points for the loan. His loan is fixed for 10 years and his interest rate is 7.25%.
For more information on this or other loan programs, please contact:
Hilda Hensley
Mortgage Solutions Inc.
Office: 707-259-5272
Mobile: 707-529-8377
Fax: 707-252-9578
Email: hilda@msinapa.com
Website: More Information