Should I Pay Off My Rental Property?

Most real estate investors have asked the question, should I pay off my rental property? The alternative is to use those funds to buy more rental properties and scale your real estate portfolio. In this article, we’ll help you reach the right decision by running the numbers and weighing the pros and cons of each strategy!

Disclaimer: This article is for informational purposes only and should not be construed as financial or tax advice. Always consult a licensed financial advisor or CPA before making decisions about paying off or refinancing investment properties.

Summary:

• Some investors pay off rental properties when they’re done scaling their portfolios or approaching retirement.

• Paying off a rental property may not be the best move if you’re young, want to scale, or are depleting your cash reserves.

• You can often get higher returns (and a much higher return on equity) by using your funds to buy other investments, rather than paying off properties.

Why Investors Pay Off Their Rentals

Paying off your properties can free up some extra cash flow and give you more consistent rental income, but there’s also a psychological element to this decision. Here are a few reasons why investors choose to pay off rental properties early:

They Have Large Cash Cushions

Wealthy or seasoned investors who may have sold a business or properties, inherited money, or just saved (a ton), may want to tear off the mortgage band-aid. They may be able to afford this without giving up their ability to scale.

They’re Ready to “Prune”

Largely popularized by veteran investor Chad Carson, “pruning” is a phrase in real estate that means you’ve reached a point when it’s time to start selling headache rental properties to pay off the properties that have the highest returns. Essentially, you’re shifting your capital to better assets!

They Want to Be Debt-Free

Mortgage debt is largely considered “good” debt (compared to things like consumer debt), but some would rather not have any debt hanging over their heads. Paying those mortgages off reduces their liabilities, increases their net worth, and helps them sleep better at night!

They’re Done Scaling

Some investors are content with their portfolios as-is and don’t plan to buy any more properties. Rather than funneling money toward acquisitions, they can allocate that same money to paying off outstanding mortgages.

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Pros and Cons of Paying Off Your Rentals

Like any investment strategy, paying off a rental property has its own advantages and drawbacks!

Pros

Paying off a mortgage might be the right move if you want any of the following:

Higher Cash Flow

Debt service is usually your property’s largest expense. By eliminating your mortgage payment, you’ll be walking into more monthly cash flow!

Less Risk, Less Stress

Without a mortgage payment, you’ll have a much larger financial buffer. This allows your portfolio to weather economic headwinds, recessions, and downturns.

Retire Faster

A paid-off mortgage gives you more net income in retirement. Plus, you have the option to sell and turn all of that equity into cash you can live on.

Pass Down Debt-Free Assets

What’s better than passing down assets? Passing down debt-free assets! Paid-off properties will give your loved ones fewer headaches when they inherit them.

Cons

Carefully consider these disadvantages before paying off your rental property:

Scale Slower

In a perfect world, every investor would love their properties to be paid off. However, this strategy can prevent you from scaling your portfolio. If you put the same money toward acquiring properties, you’ll be able to accumulate assets much faster.

Return on Equity Will Be (Much) Lower

Paying off a mortgage dramatically increases your equity in a single investment. While this will free up cash flow, appreciation is unaffected, and there are actually fewer tax benefits (like interest write-offs), limiting your overall return. This means your money isn’t working as hard as it could!

Low Cash Reserves Risk

If you’re aggressively paying off your properties, you’ll have less money for other investments. You may not be able to pull the trigger when a great deal comes your way! Or, you could risk not having enough to cover large repairs like a roof or AC replacement.

Sacrifice a Great Rate

If you bought or refinanced before 2022, you may have a 3%-5% investment property mortgage rate, which is considered a very low borrowing cost today. Paying off one of these low-interest loans may be a mathematically worse decision than allocating that same money to other investments.

The Math: Paid-Off vs. Leveraged Rentals

This is a situation many investors are in!

Let’s say you have six rental properties that you’ve acquired over the past 10 years. To keep things simple, each property was bought at $200,000 with 20% down ($40,000), and you refinanced to a 3% rate during 2020-2022. They’re now all worth $375,000, with 20 years left on their mortgages.

Scenario A: Sell three to pay off three.

Scenario B: Keep all six and let their mortgages get paid off over time.

Scenario A:

Sell three properties for $375,000 each = $1,125,000

$1,125,000 - ~$380,000 (what’s owed to the lender from the three properties you’re selling) - $90,000 in closing costs and taxes (around 8%)

Net Proceeds: $655,000

Pay off the three rentals you keep: $655,000 - ~$380,000 = $275,000 left over.

Scenario B:

Keep all six rentals.

Here’s how both scenarios play out over time!

As you can see, even with mortgages, a larger portfolio (with a healthy loan-to-value ratio!) will make you millions richer in equity and give you more cash flow.

These numbers can vary drastically based on purchase price, interest rate, and other factors. So make sure you do the math for yourself!

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Scaling vs. Security: Which Is Worth It?

For those who get into real estate at a young age and want to chip away at the mortgages over time, scaling may make significantly more financial sense than buying one rental property and paying it off. This is especially true when you have access to loans like Rent to Retirement’s 5%-down new-build loans with interest rate buydowns and other incentives.

For those close to retirement, paying off rentals could help lower stress and increase retirement cash flow. Landlords with headache properties can also consider selling and doing a 1031 exchange into cash-flowing, low-headache turnkey rentals for higher rents and less maintenance. This delays the capital gains tax!

Should YOU Pay Off Your Rentals?

Now let’s look at you and your personal investing goals. Ask these crucial questions before throwing extra money at your mortgage debt:

Are You Close to Retirement?

If you’re approaching retirement, you may be looking to slow down—not ramp up! That means paying off your properties and maximizing your rental income in retirement (or selling!).

Will You Have Emergency Reserves Left Over?

Regardless of whether you have a mortgage, you should always have reserves. Tying up all or most of your cash in a rental property is risky, as you won’t have the funds to cover large expenses or emergencies.

Do You Want to Continue Scaling?

Are you content with your current portfolio, or do you want to add to it? You might be paying off a rental property at the expense of buying another property in the future.

Could Your Money Generate a Higher Return Elsewhere?

Paying $100,000 off a loan to get an extra $500 in monthly cash flow may not be worth it, as that $6,000 (annually) gives you a 6% return on $100,000. The stock market may outperform that (passively), and you could even buy a new turnkey rental with much less than $100,000 down!

Pay Off Rental Property or Buy More? Both Build Wealth!

Whether you pay off your mortgages early or buy more rentals, you’re still using real estate investing to build wealth and getting all of the benefits of owning rental properties! The right choice for you largely depends on your personal preferences, investment strategy, and risk tolerance.

If you want to maximize your investment potential, Rent to Retirement’s low-money financing allows you to buy multiple rental properties with 5% down. We have turnkey properties in some of the best places to buy rental properties, and they come with property management in place—making it easier to scale and keep your rental portfolio working hard in retirement!

Should I Pay Off My Rental Property FAQs

Does It Make Sense to Pay Off Investment Property?

It can make sense to pay off an investment property under certain conditions. If you feel overwhelmed by debt, do not plan on acquiring any more properties, or want more cash flow today, owning the property free and clear could be the right move for you!

What Are Two Cons for Paying Off Your Rental Mortgage Early?

The two biggest cons of paying off your rental property early are that it requires you to scale more slowly and hampers your long-term wealth-building potential. Appreciation alone in a growing market could surpass your down payment in a matter of years, giving you a far higher return on your money.

What is the 50% Rule in Rental Property?

The 50% rule states that your expenses make up roughly half of your gross rental income. It’s a general guideline some investors use to determine a rental property’s profitability. Before you buy an investment property, run the numbers with our free rental property calculator!