Author Topic: Another Case Study: Should we sell our rental market value at 550K  (Read 3481 times)

Luckie

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My husband and I thought this house was going to be our forever home. Pre-kids, we spent a lot of money fixing this house to how we wanted. He made a spare bedroom into my walk-in closet, he made a movie theater for himself in the basement, all pumbling, electrical, heat pump, roof, windows etc. etc were upgraded. We probably dropped about 75-100K into fixing this house on our own. Having kids made us realized we needed more space and converting a bedroom into a walk-in closet was a mistake, making the theater was a mistake, the house was getting smaller and smaller, so we went to buy another house in a better school district. Currently, that home is being rented at $2900. Home was bought at 505K, we put 75-100K into fixing the home and if we sold at our current market it would be 550K. I can't let that house go becasue we put so much money into it and if we sold it, paid a real estate agent, we can't really recoup our money. My husband thinks we should sell it after our rent agreemetn is up with the current tenants, but should we even consider having this home for retirement income. So here I am seeking opinions from smart Mustachians. If the consensus is to keep it, i'm going to work on paying the Heloc off.

Home Purchase was 505K with a 30 year term
Home can be sold in our current market at 550K
Rent recieved is $2900 and 3 years contract ending in May 2017, we are very confident that we will get this amount or more for rental and at least 2 years contract for each renter, and we can afford to be selective in our renters.
Mortgage includes taxes adn insurance at 401K (29 years left) which is $2378 per month @3.6%
Heloc 48K at $266 per month at 5.86%
HOA is $7 per month
Lawn service is $100 per month
we don't pay anything else.

HHI at 310K and we are not struggling by any means to keep the house, so expenses are not an issue.

Thanks in advance!
« Last Edit: July 07, 2014, 12:31:44 PM by Luckie »

123flip

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Re: Another Case Study: Should we sell our rental 505K home
« Reply #1 on: July 07, 2014, 12:37:02 PM »
Keep in mind that you're losing money every month on this house.  When you factor in maintenance and capex (among other things), you're probably losing a few hundred dollars per month long term (may not seem like it now, but when you have to replace a roof or an HVAC system and it costs you three months rent, you'll really understand).  Over the course of an average year (long-term), you're probably losing $2500-5000.  So, the longer you hold the property, the more you'll need to sell it for in order to account for the annual expense of keeping it to that point. 

A reasonable counter-argument to that point is that you're building equity as well, but depending on the timing of repairs and capex costs, the long term equity is going to be worth less than the out-of-pocket expenses (time value of money).  So, it's quite likely the costs are outweighing the equity build-up, even if the absolute values are the same.

I'm not saying to sell it or to hold onto it, but those are a couple additional things to consider...

waltworks

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Would you buy this house as a rental for $550,000? If not, sell it.

-W

johnhenry

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Would you buy this house as a rental for $550,000? If not, sell it.

+1   A money pit is still a money pit even if you can easily afford a money pit. 

Luckie

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Would you buy this house as a rental for $550,000? If not, sell it.

+1   A money pit is still a money pit even if you can easily afford a money pit.

Come on, I'm sure you can give me more input than one liners. The way we are looking at it, when considering inflation, at 3.6% interest the banks are practically paying us to have this house. I don't consider it a money pit, yes it was a bad choice to put so much money in, however, we thought it was a forever home, and my husband needed projects, otherwise he cannot live with himself. The house has been upgraded that all major items will not have to be replaced (if it lives it's normal life), for another 10-15 years. Also, I'm not sure if I would buy a rental for 550K, are you asking as a buyer or an investor point of view? Single family homes at 550K is considered average and not too costly around here.

Another Reader

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Why do you want to hold this property in your portfolio?  Do you expect the market value to go up significantly in the next few years?  Is there a severe shortage of rentals and rents are increasing more than 10 percent per year?  Or is the reason that you do not want to lose what you put into the improvements?

I personally would be inclined to sell.  If not today, I would follow the market closely and put it on the market once the value reached a target level.  Over time, you will likely be cash flow negative on this.  Taxes, insurance, lawn care, etc. will all go up.  Yes, you manage it yourself and you can make some of the repairs, but the return on this investment is pretty poor without big gains in rent and/or value.

Another way to look at this is to consider how you would redeploy the net proceeds of a sale.  You don't state the mortgage amount, but assuming you would net some amount from a sale, could you invest the money at a better rate of return elsewhere?  If the honest answer is yes, then I would consider selling. 

randymarsh

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Two quick things:

This rental does not meet the 1% rule.

How much money you previously put into it is irrelevant. Sunk costs. All that matters is the best course of action going forward.

waltworks

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Well, it's pretty clear that you didn't do your research - reading any number of the other rent/sell threads would have clued you in to some stuff like the 1%/50% rules, how to figure out your rate of return, etc. So one liners is kind of what you should expect. You didn't even read the rent/buy case study sticky, there's a lot of info missing from your OP.

So consider this a friendly face punch: do some reading before you post next time.

Better late than never: go read a few other threads, or some of the good stuff over at Biggerpockets, and then you will most likely come to the same conclusion as I do - you have a horrible, money losing rental. Sure, you do a little better managing it yourself - but you have $310k income! WTF do you want to spend time managing/maintaining a rental property for little/no money for? Assuming you have some amount of equity, that money could be doing more work for you in any number of other ways without the hassle.

You have an emotional attachment - I understand that. But if you don't plan to live in the house again, you need to figure out how to let go.

-W



Would you buy this house as a rental for $550,000? If not, sell it.

+1   A money pit is still a money pit even if you can easily afford a money pit.

Come on, I'm sure you can give me more input than one liners. The way we are looking at it, when considering inflation, at 3.6% interest the banks are practically paying us to have this house. I don't consider it a money pit, yes it was a bad choice to put so much money in, however, we thought it was a forever home, and my husband needed projects, otherwise he cannot live with himself. The house has been upgraded that all major items will not have to be replaced (if it lives it's normal life), for another 10-15 years. Also, I'm not sure if I would buy a rental for 550K, are you asking as a buyer or an investor point of view? Single family homes at 550K is considered average and not too costly around here.

DoubleDown

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Can you share where this house is? The more specific, the better ("Southern California" is not useful at all, but "West Side of Los Angeles near the Veterans Cemetery" is helpful). Perhaps folks with experience in that region could help weigh in.

There is no reason to keep this house unless you have some really solid reasons to believe that it will appreciate at a rate that offsets all the losses you are incurring. And to be clear, that is speculation, so it's a bet you could lose.

I don't mean to cloud up the issue, because you likely should sell, but I'm holding a similarly valued house that I lose a little bit of money on every year. I'm doing so because it's in a very good real estate market (and yours may be too), and it is appreciating in value such that the gains far exceed the negative cash flow and opportunity costs of the equity I hold. When a $550k house goes up even 2-3%, that's a pretty healthy gain dollars-wise that easily offsets losing a couple of hundred dollars a month. At 10% annual appreciation, that amount of money equals a full time, middle class income and makes it a very winning investment. So, it might be worth doing some investigation into what you reasonably believe this house may sell for in a few years. Reasonably believe, not emotionally want to believe.

Good luck!

johnhenry

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Would you buy this house as a rental for $550,000? If not, sell it.

+1   A money pit is still a money pit even if you can easily afford a money pit.

Come on, I'm sure you can give me more input than one liners. The way we are looking at it, when considering inflation, at 3.6% interest the banks are practically paying us to have this house. I don't consider it a money pit, yes it was a bad choice to put so much money in, however, we thought it was a forever home, and my husband needed projects, otherwise he cannot live with himself. The house has been upgraded that all major items will not have to be replaced (if it lives it's normal life), for another 10-15 years. Also, I'm not sure if I would buy a rental for 550K, are you asking as a buyer or an investor point of view? Single family homes at 550K is considered average and not too costly around here.

OK, I gave a lazy response :)   But it was only because Walt really did tell you everything you need to know about this deal.  If you have already made the decision that you are comfortable investing in real estate (other than a residence), then you need to put in the due diligence to evaluate potential investment opportunities.  There's no reason to keep this place just because you've already got time and money tied up in it, as others have pointed out.

My comment about the place being a money pit wasn't intended to be as harsh as it sounded... honestly.  The place is not a "money pit" because you chose to put the money towards fixing it up when you planned to live there.  It's a money pit only because it's cash-flow-negative now.... it's costing you money each month to operate it as a rental.  It's understandable that you are attached to the house since it was once your residence.... and I think you are letting that get in the way of the best decision.  We have the luxury of analyzing the deal without emotional attachment.  And I'm not discounting the emotional/comfort when buying a home, but that ONLY applies if you live there now or plan to in the near future.  You've already made the decision to give up all those benefits you once received... there's no need to hang on to the payments and negative cash flow that come with them.  Get your equity out of that place and put it to work in a more efficient way.

You make a good point about the favorable interest rate from the bank.  Unless you are investing in real estate as a cash buyer, you likely recognize how leverage can work in your favor and also serve as a hedge against inflation.  But that's a benefit you get whether you go out and find a cash-flow-positive investment, or stick with the poor cash-flow negative investment you "inherited".

Again, sorry about "money pit" comment if it seemed harsh:  it was kind-of directed at this part of your post
Quote
HHI at 310K and we are not struggling by any means to keep the house, so expenses are not an issue.

To me, that indicated you were looking at this "investment" through the wrong lens.  I wanted to point out that just because you can "afford" this investment doesn't mean it's the best use of your money.

TheHouseStache

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Re: Another Case Study: Should we sell our rental market value at 550K
« Reply #10 on: July 10, 2014, 03:43:36 PM »
As others have said, that depends on where the property is located.  Not sure if 550k is bottom or top of the market, or just run of the mill.  That will certainly affect your days on market and carrying costs.
My advice as an agent would be that since this property is not, and was not purchased as an investment (ie by the numbers), it is therefore a liability rather than a true asset, and based on that alone, I suggest you sell it. 
You didn't factor in agent fees for selling it though, so take another 5+% off for that unless you're going FSBO. 

BlueHouse

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Re: Another Case Study: Should we sell our rental market value at 550K
« Reply #11 on: July 10, 2014, 09:36:35 PM »
I'm in a similar situation (cash-flow negative) and I'm interested to hear what the responses would be if I just took a bunch of cash and paid off the balance of my rental.   I have a pretty hefty cash account because I'm always worried that I'll lose a job and need a massive emergency fund.  Realistically, I don't need anywhere near what I have in cash unless armageddon strikes.  So if I just paid off the house and those were sunk costs, would the advice to sell still be the same? 

Back to comments for the poster -- do you plan to live in this house again once your kids leave the home? 

waltworks

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Re: Another Case Study: Should we sell our rental market value at 550K
« Reply #12 on: July 10, 2014, 11:04:15 PM »
Yes, you should still sell, because paying off the house is just putting *more* money into a crappy investment. You'd be better off using that money to invest in something else (stocks, bonds, a cash-flow positive rental(s), whatever) with better returns, and extracting your equity/selling the house as well.

-W

I'm in a similar situation (cash-flow negative) and I'm interested to hear what the responses would be if I just took a bunch of cash and paid off the balance of my rental.   I have a pretty hefty cash account because I'm always worried that I'll lose a job and need a massive emergency fund.  Realistically, I don't need anywhere near what I have in cash unless armageddon strikes.  So if I just paid off the house and those were sunk costs, would the advice to sell still be the same? 

Back to comments for the poster -- do you plan to live in this house again once your kids leave the home?

arebelspy

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Re: Another Case Study: Should we sell our rental market value at 550K
« Reply #13 on: August 11, 2014, 08:51:02 AM »
Would you buy this house as a rental for $550,000? If not, sell it.

+1   A money pit is still a money pit even if you can easily afford a money pit.

Come on, I'm sure you can give me more input than one liners.

I don't see these as one liners, but a reasonable way to look at the situation.  Would you buy it for what you could net from the sale?
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monarda

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Re: Another Case Study: Should we sell our rental market value at 550K
« Reply #14 on: August 11, 2014, 09:30:42 AM »
By now I hope you're familiar with some of the material (1% rule, etc) that the others have mentioned regarding RE investing.  This isn't an investment, you just want to not eat all that you've put into this house.  Understandable, emotionally.

Lets look at the best possible case in the short term, with zero additional expenses.   You're netting $150 per month, or $1800 a year.  Your equity is at most $150K (~$550K market value minus ~$400K mortgage).  Take 5-6% realtor fees off of that, about $30K.  So you are making $1800 per year on $120K equity. That's 1.5% annually.
You know you can do much better than that in the future.  You can figure out how long it would take to make back the amount you've sunk with other investments.  You'll find that you are able to make that back much quicker in other ways.

If you know that the neighborhood is going to appreciate, then you've got some decent leverage, and that can be factored in to your decision for possible speculation.  That's why others were curious about the area.

If 1.5% is your best possible return, then I agree with the others, you should sell.