When you apply for a mortgage, one of the key criteria is meeting the lender’s debt ratios. (see my related blog) Your debt ratio includes all your liabilities such as credit cards, lines of credit, car payments and mortgage payments for your existing properties. The ratio is expressed as a percentage of your income (acceptable as per the lender’s policies). Sometimes when you apply for subsequent mortgages for investment properties, your existing liabilities are simply too high based on the income you are applying with. However, there is a way to fix it.
When you are starting out as an investor you have to acknowledge that you will need to make some sacrifices. For many, it is realizing that structuring your primary residence mortgage with accelerated paydown, by way of shortening the amortization or by increasing the payment frequency may be preventing you from qualifying for subsequent mortgages. Why is that? Well, if you accelerate the paydown, on paper, your monthly payments increase. That higher monthly payment is what needs to be used for debt ratio calculations. This takes away from the debt room for the investment mortgage you are applying for.
The remedy for this would be to change your mortgage structure: increase your amortization and reduce your payment frequency. You want to see the lowest monthly payment on paper. Most lenders have decent prepayment policies, so you can always pay more if you’d like, it would just be more manual, but then at least you are better positioned for your investment property mortgage. Many times remedying the liabilities is a combination of things and chances are a refinance of your primary residence is the clean slate needed maximize your mortgage-ability.
For example, monthly car payments can be quite significant and seriously eat into your liabilities. If you have equity in your home, rolling that debt into the mortgage makes a huge difference, as the loan is essentially spread out over long amortization like 30 years, rather than let’s say a 5 year car loan term. Even if your car loan is ‘0% financing’ you have to realize that it may be preventing you from qualifying for future mortgages. Outstanding credit card balances and unsecured lines of credit are most definitely more expensive than a mortgage, the obligatory payments also can crush your debt ratio. Secured lines of credit are not as costly, however, it may make sense to shift it over to a mortgage.
On a side note here, it is very beneficial to reconfigure your primary residence mortgage early on into your real estate investment journey, before you start accumulating multiple mortgages. If you have equity in your home and/or it has gone up in value, consider applying for a Home Equity Line of Credit or re-advanceable mortgage (see my related blog ). Sometimes getting the maximum equity capacity is a small window of time, get it done while your liabilities are limited.
Absolutely, there are benefits to paying down your primary residence mortgage, at the end of the day, the goal should be to live free and clear in your castle. However, most starting in real estate investing realize they have limitations if they want to build their real estate empire. It is at that point you have to ask yourself what is your priority? There is no one right answer, it is what you are comfortable with.