Rent or sell: need advice?

Question

I have a classic dilemma: rent or sell?

Grade: a solid B. House needs some work, but will fetch a good price on the MLS.
Good neighborhood, not huge upward potential, but in a state (and area) that is currently seeing explosive growth.

Likely sale price: Anywhere from $340k -- $370k.
Rent: $1800 -- 2k / mo. Mid-market for the neighborhood / area.
Mortgage: $180k left on a $200k note 15-year fixed at 2.6%.

PITI: $1620 / mo.

Other: we have about $30k additional in a heloc (mostly used to improve another property, which we are now moving into).

Analysis: cap rate is 6.4% -- not horrible but not great. With the 15-year mortgage, this property nets $15k/yr, paying down the mortgage every year (increasing slightly over time).Cash flow is roughly break-even in short term; but long-term major repairs may be an issue.

(Reverse) cash-on-cash return: We'd net around $100k -- $120k on the sale. From that perspective, keeping this home is a 12--15% annual cash-on-cash return -- not bad!

Other factors: (+ = sell, - = rent)

+ we are moving into a grade A home that we picked up for a steal, for which $25k of work but could gain $100k or more in value. We need the cash to eliminate debt and improve this new property.

+ improvements to this property would at best break even, and in the long term this neighborhood seems "safe" but not clearly on the upswing.

+ we have occupied the home for >2 years (after having previously rented it out), therefore it would qualify for capital gains exclusion.

+ the home requires some repairs. Nothing major in the short term, but in the long term landscaping, retaining walls, etc. It would be a great home for a homeowner, less so for a long-term landlord.

+ renting out is stressful. Vacancy hurts.
+ from a tax perspective, we'd have to pay taxes on roughly $9k/yr of income, which would increase our tax bracket and liability (likely by around $3k/yr).
- in an uncertain long-term employment situation, I could boot out a tenant and return to this grade B property if we kept it, while selling the grade A home (likely for a significant profit, even in a down market).

- We previously rented this home out for 6 years as absentee landlords. Handling it as local landlords might not be so bad.

- "better the devil you know" -- we know the major risks and limitations of this home, which make it a better investment than a property we do not know (excluding, perhaps, a turn-key condo).

- After 13 years, the mortgage would be paid in full and we'd have a $400k+ asset free and clear.

- I hate selling.

Any recommendations? Rants are welcome. Thanks!

Leslie Pappas · Answer

Hi @Aaron Knoll, couple questions.

Do you still want to manage property?  Do you want or need more cash flow, or is appreciation your main goal?

Aaron Knoll · Answer

Hi Leslie, thanks for your question. My main goal is having someone else pay off my mortgage -- i.e. forced savings. Cash flow is positive, but marginal for this property -- but note I have a 15-year mortgage on it (cash flow would be substantial with a 30-year). Appreciation will be nice but I never count on it. In the next 10 years this neighborhood could do well -- it's in a good location, is solidly middle-class but has not yet "gentrified" (though its surrounding areas have). But saying it's going to appreciate XXX is crazy. More likely there will be a bubble or recession in the interim, and selling during that time would be a mistake. I don't mind managing property (though dealing with vacancy is very stressful) -- and I'm prepared to be a landlord. Also in this RE environment, good investment opportunities are not exactly falling from the sky. The advantage of cashing out is that it's a good time to do it. The disadvantage is that I know I'd blow through that cash, i.e. it's great short-term to get out of debt but bad long-term. I think of the question as "do I cash out to get out of debt?" or "do I preserve my RE assets"?Thanks, - Aaron

Aaron Knoll · Answer

I rented out this particular property for 6 years and expenses never came close to 50% of rent... that's insane. Granted, things age, I had to put on a new roof, a new furnace, etc. But even with all that, expenses were maybe 20% at worst.

Also I'm not sure what the "opportunity value" represents... investment vehicles with 10% ROI aren't just falling from the sky in my neck of the woods. And any RE venture entails either risk, sweat equity or both. I do agree that the cap rate / CoC return are marginal, and I could take the $100k cash from the sale and invest that in a more profitable venture.

Thomas S. · Answer

If your rent is 2K, expenses on a SFH will average 50%, your mortgage is $1620/month and your equity of nearly 200k is costing you 1600/month (based on a 10% opportunity value).

Your true cash flow long term based on my numbers (from a investors perspective) is .... - $2200/month.

Not great is a tiny understatement.

Aaron Knoll · Answer

Thanks. It's not great cash flow, for sure.

Thomas S. · Answer

Your post is difficult to follow clearly buy as I see it......

Property B is a terrible investment income property. Sell it.

Rent at $1800 on a 370K property will never produce positive cash flow. It's a money pit.

Rent or sell: need advice?

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