Welcome back to the Pay for College with Real Estate series (101, 102, 103). Today is a good day because we will take advantage of low mortgage rates to refinance our house to pay for our kids’ or grandkids’ college.
Let’s do a quick refresher. We bought a home in Yuma, Arizona, for $538,000, and over 18 years, we plan for it to appreciate to $928,000. We also assumed a 15-year mortgage that we will pay off before our kids go to college.
We have almost $1 million in equity, and we need $150,000 for our child’s college. We have a ton of options. We decide to use a cash-out refinance vs. a home equity loan in this scenario. So, what is the difference between the two home equity products?
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The main differences are that we can take out more money with a cash-out refinance and pay back (amortize) the loan over 30 years. This will give us the lowest possible payments and take out the most cash for other investments.
With a cash-out refinance, we can take up to 78% loan to value from our house. Loan-to-value is the amount that we owe the bank versus what the home is worth. Put it this way; the bank wants to keep equity in your house. If something goes wrong with the loan, they want to have the option to sell your home at a profit. With that in mind, they will not loan you more money than the house is worth.
What does a 78% loan-to-value ratio mean for our $928,000 home? Using our maths skills, we will arrive at $723,840 of usable home equity. Obviously, we wouldn’t want to maximize this amount unless we had multiple kids in college or had a great investment to jump into.
Now, let’s talk about how we will pay back our loan—we need to run the numbers versus what we can collect for rents. First, we need to decide a good amount to take out, so let’s take out $500,000. This withdrawal is much more than our home equity loan. We will need to do big things with this money.
Our payment on a $500,000 mortgage at a 3% interest rate will be $2,500/month. For the other articles in the series, we concluded that we could charge $3,000/month. It is always good to have someone else pay back your loans.
Our kids could either live in the home, have roommates, and collect $3,000/month or rent out the house entirely. Being a young person, I would assume it would be cooler to have your own home with friends.
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The college costs will run us $150,000; what will we do with the remaining money? The most important thing is ensuring our money is working for us. The velocity of money states that the faster we get our money in and out of investments, the richer we become.
With $350,000 remaining, I would invest in a rental property in a small city, probably in the southern United States. I should still be able to find a decent property in Alabama, Mississippi, or western Florida.
Why would you buy another home? To keep the lifecycle of real estate going, each area we invest in becomes hyper-expensive, driving us to another location to make better profits. This cycle is how America keeps expanding.
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The big cities become so expensive that suburbs start to grow larger and larger. Then the suburbs become big cities of their own, causing people to move to entirely different states. We need to get into that growth as early as possible.
If our 18-year-old has a home in a small city, we have pretty much guaranteed his cash flow retirement system. Whether he sells this home during retirement or rents for the entirety of his life, he will be set.
Not a bad plan, plus his renters will be paying for the mortgage in Yuma. I believe making that colossal investment at age 18 will be the main difference between a cash-out refinance and a home equity loan.
We can use the $350,000 for many other ideas, but we will have to align our own goals, personalities, risk tolerance, and knowledge to find the best investments.
Some other options are to build a considerable dividend portfolio for our son. We can max out his Roth IRA and squeeze together a combination of index funds, blue-chip stocks, and high-yield products to build a fantastic dividend portfolio. I always aim for 4% growth and 4% dividend yield for the course of the lifespan of our portfolio.
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Without adding a single penny past our initial $350,000 investment, and with an 8% annual return (reinvesting dividends) over 40 years (my son turns 58), that portfolio will be $7.6 million. Not too shabby if you ask me.
We can also invest in expanding our home in Yuma for more rental income. For example, finishing an attic or converting the garage to an Airbnb. We can start a rental car business, which would be great for a college environment.
We can also use leverage. Leverage is why real estate is the I.D.E.A.L. investment. Instead of buying one home in Alabama outright, we can drop 20% down payments on multiple homes. With a home price of $200,000, we would need $40,000 down to get the ball rolling per home.
We could purchase at least 4-5 homes using leverage. The remaining money can be used as our protection for renters. Also, we could start our property management business with some of the remaining funds.
We can make many choices as long as we use our brains and calculators to make decisions. Emotions can sweep over us from time to time; however, the calculator never lies.
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Overall, this particular option path leads to college success and lifelong freedom because of investing the additional funds in robust investments. Our children will be lucky to have such great opportunities at age 18—with us supervising, of course.
Everything we have learned about a financial mindset, retirement planning, investing, cryptocurrencies, real estate, and business comes into play when we have excess cash. Whether we receive $4,000 or $400,000, we need to make that money work for us by using our knowledge and experience.
If you have no clue how to invest a lump sum of money, no matter the size, I implore you to start learning the ways of passive income. If we work hard and educate ourselves, we will find luck with money; however, it is our job to learn how to make our money work. Then, we have to continue to pay it forward by constantly teaching our children the same techniques.
I think I am partial to the cash-out refinance method thus far into the series. Having a considerable lump sum can assist our kids’ towards a significant cash flow retirement. Next time, we will talk about using rental income to pay for college. Enjoy and Happy Investing.
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Disclosure: I am not a financial advisor or money manager, and any knowledge is given as guidance and not direct actionable investment advice. I am an Amazon Affiliate. Please research any investment vehicles that are being considered. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
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