Refinance vs sell: the short answer
Refinance if you want to keep the building and need part of your equity; sell if you want all of it, want out of the management or the debt, or the building can’t support a bigger loan. A cash-out refinance doesn’t trigger tax, but it only taps a slice of your equity and leaves you with a larger payment. A sale gets you everything, minus costs and taxes.
There’s a third option. Selling with a 1031 exchange gets you all the equity and defers the tax, but the money has to go into a replacement property instead of your pocket.
How much cash can you take out of an apartment building?
The cash you can take out equals the new loan minus your old payoff and closing costs, and the new loan is the smallest amount that passes the lender’s loan-to-value, DSCR and debt yield tests. Our loan-to-value calculator and commercial mortgage calculator do the math; here’s how the tests usually bind.
LTV caps the loan as a share of appraised value, so the appraisal sets your ceiling. DSCR caps it by how much payment the NOI can carry at today’s rate. Debt yield, NOI divided by the loan, ignores the rate entirely and some lenders set a floor on it. When rates are high, DSCR usually binds before LTV, and the appraisal and rate lock matter more than the headline LTV.
What a cash-out refinance costs on a 5+ unit building
A commercial cash-out refinance costs more and takes more paperwork than a home refinance. Expect most of these items, paid at closing or out of the loan proceeds:
- Lender origination fee and any broker fee on the new loan.
- Lender’s legal fees, which the borrower usually pays.
- Third-party reports: appraisal, property condition report and Phase I environmental report.
- Title insurance on the new loan, survey updates and recording fees.
- Rate lock or application deposits on agency loans.
- Escrows the new lender requires for taxes, insurance and replacement reserves.
- The prepayment premium on your existing loan, if it isn’t in its open period.
The prepayment penalty on your current loan
The prepayment premium on your current loan hits a refinance and a sale the same way, because both pay off the old note. If you’re in a yield maintenance or defeasance period, that cost can eat up much of the benefit of refinancing early. Our defeasance and yield maintenance guide shows how to estimate it.
A sale has one option a refinance doesn’t: the buyer may be able to assume your loan, which avoids the premium. A refinance always prepays it. Check your note for the open period date before you choose a path.
Is a cash-out refinance taxable?
No, the cash from a refinance isn’t taxable income, because borrowing isn’t a sale. Courts settled this in Woodsam Associates v. Commissioner, which held that mortgaging a property for more than its basis doesn’t trigger gain. The tax is deferred, not forgiven. Under Commissioner v. Tufts, the debt counts in your amount realized when you later sell, so the gain shows up then.
How you use the cash affects your interest deduction. Treasury Regulation 1.163-8T allocates debt by how the proceeds are spent, and IRS Publication 527 says that when you refinance for more than the old balance, interest on the part not used for the rental generally can’t be deducted as a rental expense.
If the building is in a partnership, the new loan generally raises each partner’s basis under Section 752, and the cash distribution reduces it under Section 733. Gain is recognized under Section 731 only if the cash exceeds a partner’s basis. Qualified nonrecourse financing on real estate can count toward the at-risk amount under Section 465(b)(6). Have your CPA check basis before the distribution goes out.
What taxes you pay when you sell instead
When you sell, you pay tax on the gain: the amount realized minus your adjusted basis. The part equal to the depreciation you took is unrecaptured Section 1250 gain, taxed at up to 25%. The rest is long-term capital gain at up to 20%. High-income owners also pay the 3.8% net investment income tax, and most states add their own tax; see your state’s capital gains tax page.
A 1031 exchange defers all of that if you buy like-kind replacement property and reinvest the proceeds through a qualified intermediary. A sale at death works differently: heirs generally get a stepped-up basis, which is why some owners refinance and hold rather than sell.
Worked example: a $6 million, 30-unit building, refinance vs sell
A 30-unit building is worth $6,000,000 and earns $360,000 of NOI, a 6.0% cap rate. The owner owes $2,500,000 on a loan in its open period, so there’s no prepayment premium. The owner bought it 10 years ago for $3,500,000, with $700,000 allocated to land, and has taken $101,818 a year of depreciation, $1,018,180 in all. Adjusted basis is $2,481,820.
Refinance: a 70% LTV loan is $4,200,000. At 5.50% on a 30-year amortization, the payment is $23,847.14 a month, or $286,165.66 a year. DSCR is about 1.26x and debt yield is 8.57%, so the loan passes a 1.25x test. After paying off $2,500,000 and an assumed $84,000 of closing costs, 2% of the loan, the owner nets $1,616,000 tax-free, keeps $1,800,000 of equity in the building, and has $73,834 of cash flow left after debt service.
Sell: with 3% selling costs of $180,000, the amount realized is $5,820,000 and the gain is $3,338,180. In the top federal brackets, ignoring state tax, the tax is $254,545 on the $1,018,180 of recapture at 25%, $464,000 on the other $2,320,000 at 20%, and $126,851 of net investment income tax at 3.8%, for $845,396 in all. Pre-tax cash is $3,320,000 and after-tax cash is $2,474,604.
Now suppose the owner refinances and sells a few years later at the same price. The sale nets $1,620,000 before tax, because the bigger loan gets paid off, and the tax is still about $845,396, plus recapture on any added depreciation. Add the $1,616,000 from the refinance and the total is about $2,390,604, roughly $84,000 less than selling now: the cost of the refinance. A refinance only delays the tax; it doesn’t eliminate it.
| Cash-out refinance (70% LTV) | Sell now | Sell with 1031 exchange | |
|---|---|---|---|
| Cash at closing before tax | $1,616,000 | $3,320,000 | $0 to you; $3,320,000 reinvested |
| Federal tax due now | $0 | $845,396 | Deferred |
| Cash after federal tax | $1,616,000 | $2,474,604 | None until you sell the replacement |
| Equity left in this building | $1,800,000 | $0 | $0 |
| Debt | $4,200,000 at 5.50% | None | Whatever the replacement needs |
| Annual cash flow after debt service | $73,834 | Not applicable | Depends on the replacement |
What if rates are higher? When DSCR limits the refinance
If rates are higher, DSCR can shrink the loan below the LTV limit. On the same building at 6.25%, a $4,200,000 loan costs $310,321.47 a year and DSCR falls to about 1.16x. At a 1.25x minimum, the most the $360,000 NOI supports is about $3,897,893, roughly 65% LTV.
That cuts the cash-out from $1,616,000 to about $1,397,893 before costs on the smaller loan. Before you pay for an appraisal and reports, run your NOI through the DSCR and commercial mortgage calculators at a realistic rate.
Refinance vs sell vs 1031 exchange
The right choice depends on what you want the money for and whether you still want to own this building. The table sums up the trade-offs.
| Question | Cash-out refinance | Sell | 1031 exchange |
|---|---|---|---|
| Tax now | None | Capital gains, recapture, NIIT, state | Deferred if fully reinvested |
| Share of equity you get | Part, set by LTV and DSCR | All, minus costs and tax | All, but it must be reinvested |
| You keep | This building and a bigger loan | Cash only | A replacement property |
| Prepayment premium on old loan | Paid | Paid unless the buyer assumes | Paid unless the buyer assumes |
| Works best when | NOI is strong and rates are workable | You want out or the building needs work | You want a different or larger property |
How this works for a 5+ unit apartment building
On a 5+ unit building, the refinance decision usually comes down to NOI, rates and your plans for the next five to ten years. A strong, stabilized building with good management can carry a bigger loan and keep paying you. A building with deferred maintenance, rising expenses or a loan maturity coming due often can’t, and the appraisal and DSCR test will show it.
Selling makes more sense when you’re tired of managing, the building needs major capital, or you’d rather move into something truly passive. If you want income without a lump-sum tax bill, seller financing and an installment sale can spread the gain while the buyer pays you over time.
Selling your apartment building to Skyline
Skyline Capital Investments buys 5+ unit apartment buildings nationwide as a direct buyer. If the refinance numbers don’t work, we can make an offer on the building as-is, and we can work with a 1031 timeline or offer seller-carry terms.
Send us the address and unit count through the form on this page, or call (469) 660-2977. We typically respond within 48 hours, and you can weigh our offer against your refinance quote before deciding.
