Would you sell or would you hold?

[henceforth]

We are high-income, high spending family with two small children. I am 35, my spouse is 44. Our (as of April 2017) gross is $300k, our net will be about $190k. Our spending is about $120k a year. This year comes with a 70k net raise, which we plan to put into savings (will not see reflected until 2018). 

Our assets:
Principle residence - $1.3 million
Rental property - $920k
Retirement accounts - $140k
Non-retirement investments - $60k

Debts:
Principle residence mortgage - $670k
Rental property mortgage - $390k

My question: We live in one of the hottest real estate markets in the world. Our rental property, which we bought in 2009 for $310k, could sell for over $900k in probably less than 24 hours. We put over $100k into it a few years back (we lived in it for several years with the intention of staying), and the house is fairly up-to-date with only minor maintenance needed due to wear and tear. Our current tenants are leaving so we will be able to increase the monthly rent from $2400 to $2600. Our mortgage payments are $1700 a month. Our annual property taxes are $2800. Our property manager and ongoing maintenance costs come to about $4500 a year (we are looking into managing the property ourselves). We are netting about $12k annually on it.

If we sold, between fees and capital gains, we would be paying about $80k. That would leave us with about $450k to play with. I am leaning towards keeping the house - we would never be able to buy a detached home rental property in this city again - because the monthly rental income will be a good complement to a growing investment portfolio (we are buckling down on our spending).

However, the price that we can get for it is crazy, and it feels like this bubble needs to crash at some point.We would stick the money into index funds, and have some money accessible in case mortgage rates go up (we currently pay 2% on a variable rate, we are 2 years into a 5 year term).

Thoughts? Would you sell? Or would you hold? (Thank you to everyone reading and responding).

[patchyfacialhair]

$2600/month seems like really low rent for a property worth $900k.

You can probably make far more money putting the $450k proceeds in an index fund or continuing to invest in real estate in more attractive markets. I'd sell.

[fattest_foot]

Considering you're only netting $12k a year from the property and it's got a value of $450k to you, the 2.6% annual return on that is abysmal.

You'd be better off selling and doing almost anything else with that money.

[dandarc]

Yep.  Sell it.  If you don't you're actually betting on appreciation - the cash flow isn't much compared to the investment.

If this price-to-rent ratio (about 30) is typical in your market, you might even consider selling your primary residence and renting.

[NoStacheOhio]

Selling seems to make sense.

More generally, have you considered spending less?

[Enough]

Sell it.  That is a large portion of your net worth tied up in a single asset.  There are less risky ways to invest that money and make 2.6% returns (12k/450k).  TIPS come to mind, although most people here would say to just allocate and invest it in the market.

[JLee]

Selling seems to make sense.

More generally, have you considered spending less?

Both of these.

[scottish]

Diversify, diversify, diversify.   Sell and invest in something not related to real estate.

[redbirdfan]

What are your retirement plans?  Right now you can't use any losses the rental property could potentially generate due to the high combined income.  If you plan on retiring soon, the depreciation on a $900k property can offset a lot of income if you believe you'll be in a lower bracket and plan to retire sooner rather than later (assuming that was the FMV when you started renting it).  It can potentially allow you to move money from your 401(k) --> Traditional IRA --> Roth IRA without paying taxes.   

[JLee]

What are your retirement plans?  Right now you can't use any losses the rental property could potentially generate due to the high combined income.  If you plan on retiring soon, the depreciation on a $900k property can offset a lot of income if you believe you'll be in a lower bracket and plan to retire sooner rather than later (assuming that was the FMV when you started renting it).  It can potentially allow you to move money from your 401(k) --> Traditional IRA --> Roth IRA without paying taxes.

They bought it at $310k, so I expect that's what they're able to depreciate at.

[henceforth]

Thank you all for your responses, we are actively re-thinking what to do with the property. Selling seems like the smarter option after reading the replies.

Just as smart would be to reduce our spending I know. We like travel and wine and cheese a lot and that all adds up. I will work on a case study.

[henceforth]

What are your retirement plans?  Right now you can't use any losses the rental property could potentially generate due to the high combined income.  If you plan on retiring soon, the depreciation on a $900k property can offset a lot of income if you believe you'll be in a lower bracket and plan to retire sooner rather than later (assuming that was the FMV when you started renting it).  It can potentially allow you to move money from your 401(k) --> Traditional IRA --> Roth IRA without paying taxes.

I would like to retire by 50 and my spouse would want to retire at the same time - making him 59. So in 15 years. However, we are interested in taking a sabbatical in two years - at that point we would have no income for one year.

[Bateaux]

Sell.  Sell.  Sell now!  450k in VTSAX will bring 30k to 50k a year.  No maintenance.

[Victor]

I see posts like this and can't help to wonder how did I screw things up so badly.  20 years of busting my but in the military, never pass a net income of 60k, and the end I'll get a pension which after taxes will be about 22k a year.  We really need Personal Finance classes in High School...

[Lmoot]

I see posts like this and can't help to wonder how did I screw things up so badly.  20 years of busting my but in the military, never pass a net income of 60k, and the end I'll get a pension which after taxes will be about 22k a year.  We really need Personal Finance classes in High School...

I've learned not to compare myself to other...especially around here. Also keep in mind that they live in a HCOL area, so they automatically get paid more, and as you can see, they have more expenses.

At almost 33 I barely crack $50k (working 2 jobs + rental income). 30-something millionaires seem to be a norm in the PF scene. When I start to compare myself to others, I think about if I want to go through what they went through to make that money: probably lots of education in subjects I dislike/am terrible at, long hours, stressful job.
It calms me down...even if it isn't always true LOL.

Regarding the OP's post. Can you refi the rental for another 30 years? You'll have more cashflow which you can direct to other investments. Also I agree about seeing if you can raise that rent. It does seem kind of cheap for the value of the house. Raising the rent another to just under $3k, and refinancing would do wonders for the cashflow though. Track the average value of the last few years of the house to see if you could earn more by selling it down the line. HCOL areas tend to only go up in value, and can supercede market rates.

[henceforth]

Is it AT ALL feasible to move back into the rental?  If so I would:

1)  Move back into the rental and sell the 1.3 mill property that is currently your primary residence.  Pocket most of the capital gains because you qualify for the 500k cap gains exclusion for that

2)  At the point you are ready to take your sabbatical, decide whether you want to keep the rental to return to, or sell and pocket the cap gains on that.  Ideal situation would probably be to sign a 2-year lease, possibly with option to sell at the end of that. 

3)  At you near the end of the two year sabbatical decide whether you want to return to work in same town, and if so if you want to return to living in rental or move back up in house.   Either way, you will still qualify for the 500k cap gains exclusion on the rental if you sell it at that point, since you moved back in for two years pre-sabbatical.   And you will be in a comparatively low tax bracket for the rest of the gain, since you will not have your high work incomes.

The sale of these two properties with cap gains excluded might make it possible for your sabbatical to turn into full-time FIREdom, if you decide you don't need/want to stay in current HCOL area.

This is very good advice. The other benefit to the rental property is that the detached garage faces a laneway, and it looks like the building of laneway housing in our city is going to become allowed after proposed changes to city by-laws. We could move back into rental and eventually build a laneway house, either for kids/elderly parents, or as another rental income.

[henceforth]

Is it AT ALL feasible to move back into the rental?  If so I would:

1)  Move back into the rental and sell the 1.3 mill property that is currently your primary residence.  Pocket most of the capital gains because you qualify for the 500k cap gains exclusion for that

2)  At the point you are ready to take your sabbatical, decide whether you want to keep the rental to return to, or sell and pocket the cap gains on that.  Ideal situation would probably be to sign a 2-year lease, possibly with option to sell at the end of that. 

3)  At you near the end of the two year sabbatical decide whether you want to return to work in same town, and if so if you want to return to living in rental or move back up in house.   Either way, you will still qualify for the 500k cap gains exclusion on the rental if you sell it at that point, since you moved back in for two years pre-sabbatical.   And you will be in a comparatively low tax bracket for the rest of the gain, since you will not have your high work incomes.

The sale of these two properties with cap gains excluded might make it possible for your sabbatical to turn into full-time FIREdom, if you decide you don't need/want to stay in current HCOL area.

+1.  This is probably the best advice.  Sell the primary and move into rental.   Also, try to cut spending. 


Don't be fooled by your gains in real estate.  In all likelihood they are due primarily to the fact that you got lucky and bought into a market that had a good run, and you are using leverage (mortgage) boosting your return.  Markets cool off, and leverage can cut deeply in to other direction.

Yes, this. Real estate gains have been pure dumb luck, in that we bought our rental property (then primary and only residence) when there was brief downturn in the Toronto market in 2009. We had no idea that it would go up so considerably since then. We bought our second property through a private sale a friend told us about - at the top of the market, but there has still been considerable gains because things have gone crazy here. To be honest though, for us, real estate equity does not make us feel very rich - it is all a bit of an illusion. Lest anyone think we live in a mansion, our house is a 3-BR, 2-Bath, 1250 square foot house, which if we were to put for sale, would likely be bought as a tear-down.

[henceforth]

I see posts like this and can't help to wonder how did I screw things up so badly.  20 years of busting my but in the military, never pass a net income of 60k, and the end I'll get a pension which after taxes will be about 22k a year.  We really need Personal Finance classes in High School...

I've learned not to compare myself to other...especially around here. Also keep in mind that they live in a HCOL area, so they automatically get paid more, and as you can see, they have more expenses.

At almost 33 I barely crack $50k (working 2 jobs + rental income). 30-something millionaires seem to be a norm in the PF scene. When I start to compare myself to others, I think about if I want to go through what they went through to make that money: probably lots of education in subjects I dislike/am terrible at, long hours, stressful job.
It calms me down...even if it isn't always true LOL.

...

We are both lawyers by training, although I am non-practicing. We each work under 40 hours a week, but specifically took lower-paying jobs because we like our leisure time (if we worked corporate jobs we each would make $300k, but would need to work 60+ hours a week). I am highly paid due to a specialized skill set that my law degree provides legitimacy to, but is not necessary for my work.   

[trollwithamustache]

what does it cost you to operate the rental? your time? management fees? repairs? insurance?

it seems like you've lucked into a pretty big profit on paper, but its only a real profit if you actually sell.