Need help with a sell vs rent decision

[Billy Bey]

We're looking to upsize current home and buy in a neighborhood closer to kids school. Debating whether to sell our current primary or rent it out. Have pre-approval from bank on new home purchase without a sale contingency so have the option to go either way. 

Here are some facts:

Current home value (SoCal) = $1.8-1.9M with $680k mortgage. Would net ~$1M with sale after fees/expenses. Original purchase price + cost improvements is around $1.2M, so most of the capital gains would be wiped out by $500k primary home exclusion. Mortgage is 30-year at 2.375% (refi'd in 2019). All-in PITIA is about $4,300/month, anticipated rent is $5,500 (4BD/3.5BA,2,600 sq ft). Home is in a nice neighborhood with great HOA amenities (parks, pools, etc.), built in 2015. It's not the most expensive home in the community (some have gone in upper $2Ms), but it's higher than average.

I've been wanting to get into rentals, but it's been extremely hard to find cash flowing properties in my area and I don't have a desire to own something far away. Due to the great fixed mortgage rate and (relatively) low property taxes ($1k/month), this property will cash flow nicely out of the gate with the ability to grow over time as rents increase. I like the idea of maximizing my low fixed cost base on this property, but the $500k tax free gain and being able to use proceeds from the sale to minimize a higher mortgage cost on whatever we purchase is also appealing. We're looking at homes in the low $2M range and a mortgage rate around 4% +/- 0.25%. We'd put 20% down if we use current home as a rental, probably double that if we sell.

My gut tells me to take advantage of the current market and sell before it cools...I recognize there are signs it's already cooling. I'm also not sure netting $1,200/month on a rental (~$14k/year) makes sense if I can take home around $1M after fees and taxes. Is this a 1.4% cash/cash return which will require me to have a higher mortgage costing me ~4%? If that's the analysis, this seems like a no brainer to sell especially since the numbers exclude maintenance, vacancy, etc. 

How would you experts run these numbers and think about the decision?

[Scott E.]

Before I finished reading your post, I was getting prepared to respond with exactly what you have identified in your final paragraph.

I'd sell this house for sure and redeploy the capital into something else that can generate 7-8%+ cash on cash returns.

Some might argue that SoCal is more of an appreciation play and that your appreciation will outpace your cashflow in any other market. But I've spent a lot of time in SoCal over my lifetime (was born in Burbank and still have family out there) ... and I don't buy into it continuing to appreciate like it has been all these years.

Lock in those gains.