Author Topic: Rent it out or sell it?  (Read 3187 times)

slush

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Rent it out or sell it?
« on: July 14, 2013, 03:29:15 PM »
Hello Mustachians. I could use your input!

My wife and I are considering a move from inland SoCal to Seattle within the next 3-12 months. We are very familiar with Seattle, as we visit the in-laws at least once a year. We love the area and know it would be a great move for quality of life, and perhaps even professionally. The problem? The dollars and cents! I want to optimize the financials of a potential move. I've run the numbers on state income tax, but housing is one I cannot quite decide on.

We bought our first home in May 2012. We spent MANY years waiting out the housing bubble. We paid $170k for the house. I believe we can sell it today for $230k based on comps, and perhaps even more. (Sweat equity!) We owe about $125k on the property. It's a fairly standard suburban home, 1800 sq ft, 3 bedrooms/2 baths, single story, built in 2000, on a very small lot. It is in the best part of town, however the city itself is generally considered undesirable. Rentals in the area seem semi-stable, as the population is not the best off financially. Just under 14 years remain on the note, with PITI at $1350.

If we sell the house, the pros/cons:
- Fairly nice lump-sum to use for down payment in a much more expensive Seattle metro area. Perhaps even some left over for investment. If we buy we are probably looking at $350k-$450k, minimum. It is however not "needed" for a new house purchase.
- No overhead debt. I like this.
- No longer tied to CA taxes, although giving up what could be a very long-term bottom price. With Prop 13 still in place, taxes should remain relatively low.
- If we leave before May 2014, we will have to pay a pro-rated portion of taxes to capital gains. Not a deal breaker, but certainly part of the equation.

If we rent the house out:
- Rental income is somewhat stable in the area, but like most areas is unpredictable. Reasonably expect a rent of $1600/mo. Perhaps even more.
- Landlord is expected to pay water and gardener in the area. ($150/mo.) I would also plan to hire a property management since we would be so far away. (10%)
- Because house is on an original 15-year loan, the ROI is miserable ... at least until it is paid off.
- We could refinance to improve the ROI, but I see little reason to roll in refi costs at this point in time. We don't need to show an income from it every month.
- There is the chance that our careers may pull us back to the area someday. It would be nice to have a property to return to. I don't think this can be quantified though.
- While many in the area scoff at the consideration, it is a mere mile or so from the San Andreas fault. A major earthquake could cause damage that we would be responsible for.

The raw numbers:
- $1600/mo rent, $1350/mo PITI, $210/mo upkeep (water/gardener/prop manager). Then factoring in maintenance and vacancies, it is likely we net very little or even take a loss.
- Fully paid off and producing rent around the time we hope to be FIRE.


Any thoughts/input? Generally I would look at the numbers and see a negative ROI and run, but these numbers are skewed due to the original 15-year loan. If on a 30-year loan, I think we would be positive cash flow ~$4-500/mo (nearly 20% ROI annually). In any case, I'm tempted to sell just in an effort to simplify life and the financial books. I've gone back and forth on this, but i'm strongly leaning towards selling. Having extra cash on hand for a new down payment and/or investments is extremely desirable.
« Last Edit: July 14, 2013, 03:42:08 PM by slush »

arebelspy

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Re: Rent it out or sell it?
« Reply #1 on: July 14, 2013, 03:44:28 PM »
I would sell.  You could leave your 100k equity there and get no return (negative cash flow cancelling out the tax and principal paydown benefits), or invest it elsewhere and get a return on your 100k.  Selling now also saves you the capital gains.

The 15 year amortization, on the surface, is what would confuse most people, not sure how to take it into account.

Here's one way to look at it.  Let's say it was paid off.  Worth 230k, renting for 1600.  50% to expenses, net 800/mo.  That's 9600/year out of 230k equity is about a 4% return on your money.

4%, which you can get elsewhere, is just not worth the hassles of real estate, IMO.  So if it doesn't make sense now (negative cash flow) and won't make sense in the future when it pays off (return to low), I'd default to selling.

It's not a terrible situation, like some are in, but it's not an optimal rental, IMO (1600 rent on 230k property).  Take your capital gains, skip the taxes due to owner occupied, and invest elsewhere.
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slush

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Re: Rent it out or sell it?
« Reply #2 on: July 14, 2013, 03:54:42 PM »
Thanks arebelspy. I was hoping you would reply. :)

I have a few questions. The capital gains tax we would not avoid if we move prior to May 2014, right? If we sell in say, November of this year, we'll be responsible for ~25% of the capital gains for tax purposes. (< 2years it's pro-rated.)

Have you found the 50% expenses to be valid in Las Vegas? We're in a similar very hot/dry desert climate. In my studies it seems that is more valid for houses with greater maintenance costs. Desert homes seem to stand up against the elements quite well.

You're right, 4% is pretty miserable considering the debt I have to take on to maintain. Just out curiousity, if the last 12 months hadn't seen a bump in the market and the house was still valued around $170k, what would you think? Even at 5.6% ROI I'm not impressed. At what house value would you consider the rental a good investment, assuming the constant $1600/mo rent?
« Last Edit: July 14, 2013, 03:56:20 PM by slush »

arebelspy

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Re: Rent it out or sell it?
« Reply #3 on: July 14, 2013, 04:10:52 PM »
I have a few questions. The capital gains tax we would not avoid if we move prior to May 2014, right? If we sell in say, November of this year, we'll be responsible for ~25% of the capital gains for tax purposes. (< 2years it's pro-rated.)

Yes, you need to have owned and lived there for two years.  Less than two years you'll likely be eligible for the reduced maximum exclusion.  IRS Publication 523.

Have you found the 50% expenses to be valid in Las Vegas? We're in a similar very hot/dry desert climate. In my studies it seems that is more valid for houses with greater maintenance costs. Desert homes seem to stand up against the elements quite well.

It's only a rule of thumb, but long term studies across many properties have borne it out.  I tend to come under a bit, but I wouldn't be surprised if it "catches up" to me, and I prepare for that.  Keep in mind HVAC issues will occur more in the hot climate.

You're right, 4% is pretty miserable considering the debt I have to take on to maintain. Just out curiousity, if the last 12 months hadn't seen a bump in the market and the house was still valued around $170k, what would you think? Even at 5.6% ROI I'm not impressed. At what house value would you consider the rental a good investment, assuming the constant $1600/mo rent?

Generally the rule of thumb is a MINIMUM of 1% of the purchase price in gross rents (during the last few low years often investors shot for 2%).  I personally aim a little higher, 1.3-1.5% or so.  But even at that minimum 1%, that means 1600 rent is worth about 160k purchase price, so even at that 170 it wouldn't be worth it, IMO.
I am a former teacher who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and am now settled with three kids.
If you want to know more about me, this Business Insider profile tells the story pretty well.
I (rarely) blog at AdventuringAlong.com. Check out the Now page to see what I'm up to currently.

 

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