Which mortgage should I overpay

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sceach

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I have a new build home (House 1) – value €350k, mortgage €180k svr 3.8% 25 years (full term) left.

I have former home rented out (House 2) - value €300k, mortgage €340k svr 3.8% 21 years remaining.


Do you think I would be better to overpay home mortgage or rented house?


Overpaying House 1 would save me more over the term but maybe it would be better to clear the negative equity on the house 2 in case I needed to sell. On the other hand I am getting rental tax relief on 75% of interest of House 2. This would reduce if the balance reduces (reduction would probably be negligible).


What are your thoughts?
 
Logically you would pay down the mortgage on House 1, ahead of the mortgage on House 2, as it carries a higher effective interest charge after you take income tax into account.

Having said that, I suspect House 2 is a poor investment at that financing rate - did you run the numbers before deciding to retain it as a rental?
 
I'd vote for house number 1 too. Are you planning on retaining house number 2 for the medium to long term or are you looking to offload it as soon as possible?
 
The first question you need to address is whether it is a good idea to retain your former home. I suspect that it is not a good investment and should be sold as soon as possible. As there is a mortgage shortfall of €40k, you may find it difficult to get the lender's permission to sell. So, if you do decide to sell it, you should pay down the mortgage shortfall as quickly as possible.

If you decide not to sell it...

sceach said:
Overpaying House 1 would save me more over the term
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It is meaningless to measure anything "over the term". If you decide to keep it, you should review the decision every year anyway.

€100k on your family home costs you €3,800 a year.

€100k on your investment property costs you
Interest €3,800
Tax relief€1,400 (€3,800 x 75% @50%)
Net cost €2,400

So if you are committed to keeping it, then you should pay down your family home mortgage first.

However...
I think you should pay down the €40k negative equity on the investment property first, anyway. It will cost you an extra €560 a year, but it will give you the flexibility to sell it if you change your mind.

The worst position to be in would be to want to sell your home urgently and then find that the bank makes it difficult because you can't pay the mortgage shortfall.

Another small consideration

I don't think it's relevant here and now, but it could be in the future. You have an LTV on your home of 51%. Would you get a lower rate on your entire mortgage if you brought it down to 50%?

Or would your buy to let lender give you a reduced rate for bringing it below 100% LTV?
 
Thank you very much for the feedback.


Sarenco, I put up a post a few months back to ask opinions on keeping or selling the house or keeping it to rent out.


Brendan, thanks for your assessment. I think from a cashflow perspective I’d be better off without the rental house. When people say that it’s better off to sell, even in NE can you explain why? If I sell the house in negative equity I still have to pay off the shortfall but once paid I have nothing to show for it. Isn’t it better to keep and at least have something at the end of the day or am I completely missing something?


Thanks.
 
sceach said:
When people say that it’s better off to sell, even in NE can you explain why? If I sell the house in negative equity I still have to pay off the shortfall but once paid I have nothing to show for it.
Click to expand...

Hi Sceach. I know that people say this, but it makes no sense at all. It makes such little sense, that it's hard to answer it.

The error stems from thinking that borrowing is in some way linked to the property. There might be a legal connection, but as all loans are fully recourse, there isn't really a financial link.

Consider the following scenarios:
1) You have a mortgage of €300k on a house worth €300k.
Would you sell it?

2) You have a mortgage of €300k on a house worth €300k and you have a student loan of €40k.
Would you sell the house?

3) You have a mortgage of €340k on a house worth €300k and you have savings of €100k.
Would you sell the house?

The decision on all three should be the same. Psychologically it might be easier to sell it when you won't have a shortfall. But that makes no financial sense.


Caveats on the above theory
If you have a home worth €200k and a mortgage of €300k, and no other assets, it might make sense to hold onto it as they only possible way you will become solvent is if house prices increase. If the house price falls to €150k, you don't really lose anything.

It might make sense holding onto a property in negative equity, because you can write off 75% of the interest paid against the rental income.
 
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