My wife and I are moving to a house. We have taken a mortgage out for $872,000 at 4.125% with a PITI payment of $5,625.11. We also currently own a townhome with $442,000 at 3.625% left on the mortgage and PITI payments of about $2,800. The townhome (according to redfin) is currently estimated at $1,009,000.
We have been debating renting out the townhouse since it is relatively cheap. We could probably get around $3,300-$3,500/mo if we listed it as a rental. On the other hand, we would start to lose our $500,000 exemption (we are currently at about $422,000 in profit using the redfin estimate). We have been living in the house for 3 years 7 months.
I'm not sure what to do here. Take the possibly $400k+ and run or turn the townhouse into a rental and deal with the taxes. Any advice/insight would be greatly appreciated. Thanks!
First, to qualify for the Section 121 exclusion of taxes on sale of a residence, you must live in the property two of the previous five years ending on the date of the sale. So, you could rent the townhouse, sell it in two years, and pay no tax. Second, when you put the townhouse into service as an income property your basis must be the lesser of fair market value or cost. In your case it appears that cost is lesser which means you'll be paying capital gains on at least $400k +/- in the future assuming values hold. IMHO sell the townhouse now, deploy the gain into a few income properties. For example, 2 or 3 bread and butter 3bd/2ba SFR can easily be purchased with $400k and will generate more cash flow than the townhouse. Good luck.