Case Study

[gbmp]

We are thinking about moving closer to work (I currently have a 1hr commute each way) and considering whether to sell or rent (and/or possibly refinance?) our current house, would love to get some outside opinions:


Market Value: 150,000

Original Purchase price: 144,000

Original Mortgage Amount: 115,000

Interest Rate: 4.75

Mortgage Term: 30years

Term remaining: Home was purchased in 2010, though at current rate of extra principal payments, I think we would pay it off in about 9 more years

Amount remaining on mortgage: 99,000

Gross Rents: I would expect 1300-1400 should be plausible based on other rentals in the neighborhood.

Our monthly payment breaks down to ~200 principal ~400 interest, ~333 escrow which covers taxes and insurance, total monthly payment $933

We're currently paying an extra $700/month toward principal (after maxing my 401k, both rothIRAs, and putting about the same in taxable account)

HOA costs:0

[gradstudent]

There are people with a lot more experience than me (and much more strongly held rental real estate opinions), but I think renting your home makes marginal sense. It's not the greatest deal in the world, but it's not a terrible investment. My math shows:

$1,400 monthly rent
- 10% management fee of $140
=$1,260
- 10% vacancy/minor repairs of $140
=$1,120
- increased insurance/taxes for rental property ~ $100 (depends on your area how much, if any)
=$1,020.
-10% other repairs $140
=$880

When you take into account the $2,400 minimum principal payments each year plus the rental tax deductions, you are probably somewhere around $4-5,000 a year in cash flow. If the home is new or in good condition and in a desirable neighborhood, then my vacancy and repair numbers are high. Also, you might manage it yourself, but I personally find it a good expense to have a company handle all the problems and screen potential tenants.

I like the idea of diversifying my investments and think a rental home in a good neighborhood in good condition is a great way to do so. Others will disagree with that.

Refinancing to a 30 year (or maybe even a 15 year) for your current balance will almost certainly lower your rate. The 30 year payment would me lower, and your 15 year may even be lower. Just refinance before you move for the lower interest rate. That could be the game changer for cash flow. $98,000 at 4.25% for 30 years gives a P+I payment of $482. $98,000 for 30 years at 3.5% gives a P+I payment of $700.

If it was me, I would definitely move and probably rent it after I move.

[johnhenry]

This is not a stellar deal, but it may be worth keeping to see how it does, since it look like the cash flow will be positive by a good amount.  Plus if you decide to sell within the next couple years you could do so and meet the exclusion for capital gains tax on the sale.

It's sort of risk to refinance unless you are sure you want to hold it long enough to meet your payback point for your refinance fees.  But if you are pretty sure you want to give renting it a try for the longer term, now is the time to refinance, while you still live in the place.  You can get a better rate which will help your return and your cash flow.

[Bobberth]

With your current payment of $600 P and using the 50% Rule, you will be cash flowing $50/month at $1300 rent and $100/month at $1400 rent.  Since you are close, you could manage yourself and add an additional 8%-10% that you 'earn' instead of paying a manager.  That would be another $100-$140/month.  So it may not be a bad rental if you want to get started as a landlord.  Definitely refinance or obtain a HELOC on the property while it is your primary residence though.

Other things besides finances to consider are:
Can you sell the house?  If you can, DO IT!  This is my generic advice to this question as your numbers indicate that you have enough equity to cover selling commissions.  Although, can you buy another place and keep your equity in this one?  I have 2 uncles that have rentals in rural areas about 45-60min from Topeka, KS (not really any jobs between house & Topeka).  They are having a hard time keeping their houses rented because of the cost of gas.  If this is similar to your situation, SELL!  So consider what constitutes your commute and if others will continue making that commute.  Suburban to downtown, most likely there are jobs close or renters are willing to commute for schools.

Did you buy the house to live in or to rent out?  If it was to live in, SELL IT!  Rarely do houses you buy to live in make sense to rent out.  Your numbers are decent, but could you sell your house and buy an even better rental property that you bought specifically because of the numbers?

Do you WANT to be a landlord?  If you want to be a landlord, this is an easy way to start.  Although being a landlord is work.  Even if you have a manager, there are things you have to take care of and deal with-handling payments, vacancies, repairs, managing the manager etc.  Again, if you want to be a landlord, look at see if there are better ways to become one in your area.  Although being able to get a HELOC on this property can give you a boost to buying more rentals.

Maybe this was just my personal experience, but starting out landlording kinda sucked.  Not from bad tenants or the horror stories you may be thinking, but in the financial sense.  I diligently put all rents into a separate account and pay bills and repairs out of that account.  The account just didn't move with only 1 property.  It would start to rise, and then taxes were due.  Going up?  Nope, insurance this time.  It wasn't very exciting.  Yes you're paying down the mortgage, but the cash doesn't add up at first.  It wasn't until I hit #6 that I started to feel the needle was moving in a decent way.  Remember, you're looking at cash flowing $50-$100/month ($600-$1200/year).  Putting in work/effort and not getting anywhere was frustrating.

[gbmp]

Really appreciate the replies, to answer some questions:

We got this house largely because we didn't want "too much" house financially speaking and definitely not for our first home.  It is one of the smallest in its neighborhood at 1400 sq ft, single story, good condition, not new but built in 1991.  It is about 20 miles north of downtown Austin TX -- which is where I currently work, and about a 1hr commute :(  -- but there are a very large number of large businesses, technology companies, suburbs, etc located north of Austin within 1-10 miles (where I thought I'd be working), so I think it should be fairly easy to find renters.

I wouldn't say we bought it specifically to rent, but I have always wanted to attempt landlording at some point once reasonably financially stable (we have a small bit of FU money and pretty good income, so on the edge of whether now might be the right time) and eventually renting this place has been in the back of my mind as an option for quite a while.

My job is very likely moving west of downtown as parent company bought some land to build a campus on, meaning commute would stay the same time-wise but I can no longer take the train to downtown, if this happens it would be the trigger to decide to move close to work and possibly rent out current place.

[Bobberth]

Now that you mention Austin, personally I would hang on to it as long as you can purchase another property for yourself.  Being slightly positive in a growing market like Austin is great.  You could consider renting it for 3 years and then selling to take advantage of the exemption for personal residences (lived in 2 out of last 5 years).  Still make sure to get a HELOC on it while it is still your primary residence though.

[escolegrove]

What is your long term goal? Are you willing to be a landlord?

My husband is active duty so we move around a lot. We buy great houses and than rent them out when we leave. I self manage them as move around. The numbers are similar to yours which doesn't follow the 1%, 2% or 50% rule. Since they are aimed at young professionals I am able to to keep vacancy and repair costs to a mininium. Our aim is to be able to retire at 42 and 44 when my husband retires from the Navy. So we are in this for long term cash flow.