To sell or not sell rental property in SF Bay Area

[Chris Meunier]

Hi BP! 

My wife and I are looking for some advice from the real estate community! My apologies if this is not the right place to ask (this is my first post). I'll start with our goal, which is to free up or access about 200k of cash for primary residence improvements and emergency savings. Here is the background:

• We own 3 homes in the SF Bay Area - our primary residence and 2 rental properties that were both former primary residences. 
• Rental A is worth about 550k and we owe 210k at ~3.6% for about 25 more years. It has about $600/month positive cash flow today.
• Rental B is worth about 1.4MM and we owe 550k at ~3.8% for about 27 more years. It has about $300/month positive cash flow. We have a 150k HELOC available to us, at about 5.2%, which we have not drawn on yet.
• We are in our early 30s and have solid jobs/incomes and retirement plans. We only have about 3-4 months of emergency savings at this time

Options we are evaluating: 

1. Continue as-is and use the HELOC to fund our primary residence improvements and any emergencies we have
2. Sell Rental B and collect about 700-800k in cash after taxes/fees. Keep 200-300k in cash and invest the rest in the market or other diversified areas. We are eligible for the 500k capital gains exclusion in this scenario. 
3. Cash-out refi on Rental B and access 150k cash, which would make cash flow go negative, about -$200/month. The reason to do this would be expectation of long term appreciation in the home and higher future rents that would hopefully cover the negative.

Perhaps there are other options we should consider too, but i'm curious to hear thoughts from the community specifically on option 1 vs 2. If I do an annual ROI calculation on our rental income against the equity in the house, it is extremely small (ie. 3600/750000=0.0048). Am I thinking about this the right way? Option 2 would easily give us everything we need and more, but we would lose out on future passive income of course, and a huge nest egg. We are also concerned that all 3 of our properties are in the Bay Area, and a huge natural disaster like an earthquake could wipe us out financially. Selling 1 would allow us to diversify our investments a bit more.

Thanks in advance for your opinions!

-Chris