If I have a rental property that’s just short of breaking even, given that I am forced to take depreciation, is it better to payoff part of the loan so that I can make it cash flow positive and keep the profits tax free? According to my calculation, for each 100K I pay down from my mortgage, my cash flow will increase by $500 per month. That’s 6% after tax return. Is my thinking right?
No need for this complexity. What’s the mortgage rate? Your mortgage rate is the your savings. In your case, your mortgage rate is your after tax return.
I think it is better to pay down primary home mortgage to below 750k.
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No. Keep the cash flow negative. Use the money instead to buy more properties and/or stocks.
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Yes, you can use your mortgage balance to “optimize” your cash flow and pay no taxes due to depreciation. However, you will have to give at least some of it back when you sell, due to higher capital gains taxes (lower cost basis due to years of depreciation)…
Right now, capital gains rates are lower than income taxes, so you will give back less than you are saving.
So technically, today, you are getting something between your mortgage rate and the 6%. When you sell, depending on tax rates, you will give some back, maybe all, maybe even more than what you saved… it depends on what capital gains tax rates will be… 
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@Rent_and_Vent, but the capital gains will be shielded forever if I pass it on to my kids, right? That’s the plan anyways.
Correct, your capital gains will not be passed on, they will get a new cost basis.
Of course, these laws are complicated enough that “the people” haven’t rebelled against them (yet). These things could change if politicians start explaining them…
Rental real estate is an area where the little guy can get some of the perks that corporations get… not bad…Of course, corporations get a lot more and many pay zero taxes
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Yes. When you die, and the property gets passed onto your kids, their cost basis gets stepped up. What that means is that if your kids sell the property the same day you die, their capital gain, and therefore capital gains tax liability, is zero.
Note that I am ignoring estate tax for the purposes of this scenario.
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oh yes, estate tax! forgot about THAT… get rich, but not too rich
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That limit is about $20M for me and my wife together. I am not worried about reaching that. 
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Don’t forget about inflation and principal pay down, you could be pleasantly surprised after several decades. The tax man would be happy for you too 
I find that this is a good, conservative technique to let assets grow over time (paid off property) while enjoying a nearly tax-free dividend in the form of rental income … mostly shielded from BOTH state and federal tax … until you die.
Over the long haul, the rental income should at least keep up with inflation if your property is not subject to rent control. As well, the capital appreciation on the property will at least keep up with inflation unless the legislature decides to do stupid things like repeal costa hawkins. In the meantime prop 13 limits the rate of increase in property tax.
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@zensri, You have not answered this rate and the term (30 fixed)?
If this is 30 or 15 fixed mortgage any rate less than equal to 5%, wuqijun is best and perfect answer.
Never bother about cash flow negative as the $100k value (you plan to pay now) is higher than $100 you pay after 20/30 years (Inflation 2% or 3% reduces the value every year).
Pay down just before you retire only if you can not sustain negative cash flow.
Use that money wisely to higher returns.
See Trump, he filed loss $900 Million so that he never pays any tax life term.
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Never ever pay down. Period. Enjoy the Obama Era low cost fixed mortgage ! With 100k you can do wonders. Buy another condo if you are not interested in stocks or use it for your retirement 401k maximization etc.
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Talking about condos, I heard that some HOAs won’t allow you to rent out your place. How do I make sure the one I am buying is fine for renting out? What are the things to watch out for?
That’s the first thing I ask when I look at condos. And read the HOA docs.
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2008-2009 sub-prime made this rule. If 50% condos are rented, lenders won’t give mortgage for any one in that condo-group.
Like harriet said, HOA knows and must be there in HOA docs. Above all, you need to contact HOA mgt team to ensure you are allowed to rent the condos.
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Condos that can be rented out are more expensive than those that can’t. Ideal for those who want to live in condo as the Primary. Bad for investment.
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to be clear, I was responding to his specific question (the return on money used to pay down the mortgage balance), it wasn’t about what the alternative investments might be.
Anyway, “risk-adjusted” never seems to be part of the conversation here… I guess that’s what a 10 year “everything bubble” does to people’s perceptions 
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No one can predict the future…that includes “everything bubble”. This is almost equal to what if I die tomorrow question. There is no end to fear and similarly for greediness.
Make some practical assumptions, have some data points justify the assumptions and move on. This is very wiser way than thinking on extreme.
By all means, 750k loan at 3.6% fixed rate, it is rare to see in future. Many in this blog have got lot of such fixed loans, reaping benefit.
It is too big a subject. If were in that situation (actually I am having even 4.375% fixed rate), I would not pay it, not even a cent.
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