Keep your rental properties leveraged with full liquidity. In this episode,
I'm going to answer the question "Should I pay off the mortgage on my rental property?" Now,
generally speaking, my advice is, "I wouldn't if I were you."
Because I will share with you what it's costing you if you do that.
So, my name is Doug Andrew. And I've been a financial strategist for more than 46 years.
I've written 11 books and most of my books addresses this very concept in question.
And I've counseled thousands of clients with their CPAs. And I've said, "You know what? I
would not be in any hurry to pay off your rental properties. In fact, if I were you, I would be
refinancing them and separating the equity so that you can be fully leveraged with full
liquidity." Because leverage without liquidity in my opinion is stupidity. That's where most people
get into trouble and they pound the key. "Pay it off, pay it off, pay it off." Because they got
caught with owing a whole bunch of money and they had no liquidity because they kept leveraging
without liquidity. So, I'm going to start off by making sure you understand that the rate of return
on real estate equity is always zero. And if you don't understand that, I want you to search this
channel for my picture and my goblet, me pouring water back and forth hypothetically between
my cash, my assets, my liquid money and the property. And you'll understand it even better.
But let me explain it. So, if I have any piece of real estate whether it's a rental property or not,
it could be my house. That is an asset. Now, a piece of real estate is going to appreciate
or depreciate, go down in value in soft markets because about every 7 or 8 years, the stock market
goes through ups and downs on the average and so does the real estate market. Now, it's going to go
up or down in value regardless of how much equity is in the property, okay? But if I have my equity
separated and liquid, then I can protect my money when the house or the property goes down
in value. I have done this many, many, many years. I learned that lesson the hard way clear back in
1982. Because I've never paid a down payment for any piece of real estate I've acquired.
I've satisfied down payments but not with my cash. I leverage 100% but I stay liquid because
of this lesson I learned. See, I built a house. It was a 6-bedroom house 6,400 square feet on
an acre of property. And my heavens, it was our dream home with Cathedral being wood deck ceilings
and so forth clear back in 1978. And I thought I had the world by the tail because I built
the house for 150,000. The day we moved in and appraised for 305,000. It was worth double. Now,
I thought that was a good thing. Now, that appreciation or that equity didn't happen because
I put the money into it. It's because the house was worth double what I built it for. I thought,
"Wow, that's a good thing." Well, it wasn't because 4 years later, actually in just 2 years in
1980, if you remember, if you were old enough; we had an energy crisis. And down in Houston, Texas,
we had 16,000 homes get foreclosed on that year. Now, 16,000 homeowners didn't all of a
sudden become bad people. They just couldn't make their mortgage payments. Some of them
had been making extra principal payments to the mortgage company. "Here, here's an extra 100
bucks. Here's an extra 500 bucks a month. Put that against my mortgage. Don't pay me any interest on
that money. If I need it back, I'll borrow it back on your terms and prove there's a need why
I should have it." Sounds stupid when I say it that way, right? But that's what they were doing.
And then all of a sudden they found themselves without a job. They said, "Wow, I've calculated.
I'm probably nine months ahead of the game." No, your next mortgage payment is due. When you need
the money out of your property, the worst it's the hardest to get. So, don't paint yourself into that
corner. Many of them were got foreclosed on and they'd been paying extra principal payments to
the mortgage company. Hello? No. If you keep it separated, you'll actually get out of debt
quicker. And I have videos that explain that. You'll actually pay off your property 2 and a
half years faster by keeping your money liquid and safe compounding tax-free over here in this
pocket. These are my assets on my balance sheet. Over here on the left-hand side is my liabilities.
And if I'm borrowing on a rental property at 6% but I'm deducting the interest, which you should
be doing, most people are not paying 6% then they're only paying a net of maybe 4% in a 33
combined tax bracket between federal and state. And so, on a million dollars of rental property
mortgages, you're paying a net of 4%. That'd be 40,000. But the money that I didn't put into the
property to pay it off is sitting over here and I've been earning 8 to 10 percent. Let's just
use 8 because I've been earning 8.2% for over 46 years in my favorite vehicle which I call
the Laser Fund. And it's tax-free. So, I'm earning 8% compound interest tax-free versus a net of 4%,
simple interest, tax-deductible, okay? And how much more is 8 than 4? Don't say 4. It's 100%
more. Would you hire an employee for 40 grand that made you an extra 80 grand? See? And this
is compounding? So, I will prove to you, you can see that you'll end up with way more money by not
paying it off. In fact, when people hear this, I've had many clients refinance their properties,
their rental properties and they end up making a greater rate of return by separating that
lazy idle equity and putting it to work at at least double the net cost of the mortgage
on top of whatever the real estate appreciates anyway. Because it's going to do that regardless
of whether it's mortgage to the hill or free and clear. So, let me share some stories with you. So,
before I go into these stories, please understand that liquidity is king. You want to maintain full
liquidity. Any time i've met anybody that says, "Oh, no. I'm going to hurry and pay this off",
it's because they learned some lesson that when they were leveraged and they got into trouble
and the property went down in value and they got foreclosed on, it's because they had no liquidity.
It wasn't because they had a bunch of equity in the property. The equity, it doesn't mean anything
when you can't get to it. And so, I've always kept my properties leveraged kept the equity separated
over into a position of liquidity. You don't take that and tie it up unnecessarily in a
huge down payment on another piece of property. That's illiquid. I've never paid a down payment
for any piece of property that I've acquired. I've satisfied them but not with my own cash.
I keep all of my real estate equity liquid and it has saved me many many times. Clear back,
I learned that lesson and I will never let a bunch of money sit in a property idle and illiquid. So,
let's talk about a couple of stories of people who have done this. One client of mine he was age 70
and a half and his wife had just passed away. And he had several rental properties. I said,
"You know what? I'm going to show you how money really works and you decide. I'm going to teach
you the principles, you govern yourself." But when he saw that, he went, "Oh, my heavens."
And so, he stopped paying it off. See, he was killing his tax deductions by paying him off
and getting rid of that interest. And he thought interest was a bad thing. No, interest is the
best partner that a bank has. If they stopped paying interest they would wither up and die.
They pay 1% or 2% interest because they make 5 or 6 percent. Well, I can pay 3 or 4 percent
tax-deductible interest a net cost of 2 or 3. And I can keep making 8, 9 and 10 percent.
I make 3 times or 300% more than the cost of the mortgage. When he saw that, we resurrected his tax
deductions that he had been killing. Long story short, he was able to maintain some new mortgages
of several million dollars. Every million that he did on rental properties at a little higher rate
like 6% was only a net cost of 4. He earned on that equity that we separated an average
of a little over 10%. Would you do that? Oh, my heavens. He says, "Doug, I'm making so much more
money now on top of my rental income. Even with a higher mortgage this is unbelievable because I'm
earning so much more money than the cost of the mortgage." Well, guess what the byproduct was?
That created or resurrected new tax deductions that allowed him in 5 years to transfer $750,000
out of his IRAs or 401Ks with no tax. He pulled it out. He had to put it on his 1040 tax return.
But the IRA-401K withdrawal of 150 grand a year over 5 years was offset with 150,000 of new
tax-deductible interest on his rental properties. We got 750 grand out of his IRAs and 401Ks
tax-free. He's also earning an average of 10% on that. That's 75 grand a year tax-free on that. If
he had taken those IRAs or 401ks on a required minimum distribution, it was only 24,000 a year
and netting him 16,000 after tax. How much more 75 than 16? Now, if I'm going too fast, you ought to
read one of my books to actually see these stories in action and what it means. So, when people say,
"Should I pay off my rental properties?" My advice would be, if you understand how money
really works, you can pay simple interest on a declining balance if it's an advertised mortgage.
And it's only a net cost of 3 or 4? And you can keep earning 8, 9 or 10 tax-free. I would not be
in any hurry to pay off a rental property you will enhance your rate of return dramatically by not
doing that. So, another story: Husband and wife both school teachers. When they came to me as a
retirement planning specialist, they had about a quarter of a million dollars in their IRAs,
401Ks, 403Bs. And they realized that if they took money out of those that they would have to pay tax
on it. Their accountant says, "Oh, you want to wait until you're 70 and a half." Back then was
the rule. Now, it's age 72. "Take RMDs." I said, "No, no, no. We can get that money out tax-free."
And so, over a 5-year period, we actually withdrew 60,000 a year. That normally would have triggered
about 12,500 to 15,000 in annual tax on those ira 401K withdrawals. We took it out, we paid the tax.
They didn't spend the money. We repositioned it into a tax-free vehicle from that point forward
which I called the laser fund. But the point is this: Because they refinanced their house,
their cabin, and a rental duplex, we resurrected deductions that allowed them to take out that
$60,000 a year with no tax consequence. We were able to use the tax deductions from keeping their
rental properties and their own house and their second home cabin to be able to take money out
of their IRAs or 401Ks with no tax consequence. They were so grateful, at the end of 5 years,
they had an extra quarter of a million dollars that had accumulated and compounded.
Because that's how much they were going to shell out in tax if they continue to leave it there
compounding and stringing it out over the rest of their life expectancy. So, if you want to learn
more, I would implore you to maybe study some of the examples in my various books. My most recent
book is called The Laser Fund. And that happens to be my favorite vehicle where I keep my real
estate equity compounding tax free at average rates of return between 6 to 10 percent while I
pay simple interest tax-deductible at more like three to four percent on my rental properties.
So, if you would like to claim your free copy of this book, it's actually 300 pages containing
all kinds of charts and graphs and explanations. It's actually 2 books in 1. You turn it over and
there's 12 chapters here that contain 62 actual client stories that will help you understand
these concepts. So, this is how you can claim your free copy. You go to laserfund.com, LASERund.com.
You contribute $5.95 towards the shipping and handling, I'll cover the rest
and I'll pay for the book. There's also options there for ways you can listen and learn and watch
and learn. But this will be the beginning of you getting a-ha's insights into opportunities
like this and answering questions such as this. I would recommend you also watch this
episode to get some further understanding on how dynamic these strategies can be for you.