I lose $20k/year - help me w/ my strategy!

BiggerPockets Money Podcast Host · Longmont, CO · Member since 2014 · 7k+ posts · 10k+ votes

7y

@Laura Williams, many people have recommended a 1031 Exchange, however since you didn't purchase any of these properties with the intent to rent them out, a 1031 would not apply.

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3 Reply

Bryce Allen

Rental Property Investor · Milwaukee, WI · Member since 2016 · 62 posts · 28 votes

7y

@Joe Villeneuve that’s bad math, at best. Your line of thinking doesn’t account for a steady rise in rents. Moreover, what about the appreciation aspect? That amount of real estate surly appreciates over $20k in a year. I know my CA house is up 20% in two years.

I’m of the keep them mindset. The cost can be easily absorbed until market rents raise to meet the debt obligation and beyond. Unto each his own but the barrier to reentry in those markets is also a consideration.

0 Reply

Jason Ray Richardson

Rental Property Investor · Brookhaven, MS · Member since 2017 · 186 posts · 108 votes

7y

Sell them if they aren't underwater then live to invest another day.

0 Reply

Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

7y

Originally posted by @Bryce Allen:

@Joe Villeneuve that’s bad math, at best. Your line of thinking doesn’t account for a steady rise in rents. Moreover, what about the appreciation aspect? That amount of real estate surly appreciates over $20k in a year. I know my CA house is up 20% in two years.

I’m of the keep them mindset. The cost can be easily absorbed until market rents raise to meet the debt obligation and beyond. Unto each his own but the barrier to reentry in those markets is also a consideration.

It's great math. You're missing the compounding effect when cash is a verb instead of a noun.

1 Reply

Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

7y

Originally posted by @Michael Kiley:

Originally posted by @Joe Villeneuve:

Let's do the math.

$20k/year, over a 30 year period = $600k loss.

In 30 years his tenants will have bought these homes and with a 500k annual salary he will save almost that much in tax shelter. And of course there's 30 years of appreciation...

Now on the other hand, if he were to sell, he would immediately lose about 9% of the selling price to closing costs.

I'm personally not interested in investments that don't cash flow but given his circumstances and the fact that he can't go back in time, I think keeping these homes may be the best thing to do.

I would rather have my tenants buying my homes that cash flow. I can reinvest the cash flow, compounded, and make a lot more profit than waiting for the appreciation to catch up to the negative cash flow losses.

This situation is like a ladder going downhill. The person keeps stepping down, but the hill keeps moving away, faster than the person can step down.

2 Reply

Justin R.

Developer · San Diego, CA · Member since 2015 · 1k+ posts · 1k+ votes

7y

@Laura Williams It doesn't really matter whether these are good investments or not. What matters is whether, amongst the options available to you, they are the best investments available.

If your scope of available investments is narrow, maybe potential appreciation and rent increases make this the best option. I'd probably rather own these leveraged assets than an index fund, for example.

But, if you broaden your scope of available investments (read: hire an HNW financial advisor, familiarize yourself with private equity opportunities, or find talented real estate investors you trust to silently co-invest with), you'll find much better opportunities for this portion of your portfolio. I say this emphatically because that's what my capital is doing and has been doing for some time now.

2 Reply

David Dachtera

Rental Property Investor · Rockford, IL · Member since 2014 · 4k+ posts · 2k+ votes

7y

Originally posted by @Laura Williams:

Sooo I have three houses that are all former primary residences that are now rentals. None of the homes were bought with the intention to rent them out, so the sale price and mortgages weren't optimized to be rentals. The homes are in California and Texas and have very high property taxes.

Basically the math breaks down to:

Home 1:
6,800 in rent
6,928.40 in expenses

-128.4/mo

Home 2:

2325 in rent
3,206.57 in expenses

-881.57 / mo

(this one has a 15 year mortgage, so if we refi-ed to a 30 year expenses would of course be much lower)

Home 3

4,500 in rent

5,164 expenses

- 664 / mo

This all adds up to a loss of $1,673.97/month or $20,087.64/year.

I can easily afford the loss. I make $500k+/year (with a healthy amount invested/saved every year.)

I also make $30k/year in dividend income from my investments which I could use to cover the loss on the houses.

So I'm of two minds in how to think of this. On the one hand, I'm getting three homes with a current valuation of $3m combined for 20k/year. That doesn't sound so bad. And since they all have fixed rate mortgages (theoretically! hopefully!) rents will continue to rise while my payments will stay the same. And one day of course I'll have the mortgages paid off and still be collecting rent.

BUT on the other hand . . . they are all money losers right now! I could sell some or all of the homes (they're all fairly recent, so no breathtaking appreciation, but no losses either) and just invest the money in index funds instead.

So . . . what do you think of my situation? What would you do?

I didn't read through the whole thread. It looks like there's some difference of opinion regarding hold or sell.

Selling right now might not be a good idea. Get CMAs from an agent and determine your position versus the market. The market is weakening; so, time is of the essence.

Really, your tax accountant / attorney would be a good resource. Do the losses provide any tax benefit?

You'll want to look into debt acceleration on those mortgages ... even the 15 year. Pay them off as soon as you can, if it makes tax / business sense to do so. That would also put you in a better position to sell, depending what your tax / financial professional(s) recommend.

My $0.02 ...

1 Reply

Account Closed

Member since 2018 · 1 post · 1 vote

7y

Personally, I would sell two. First one to sell is any property that you don't have to pay capital gains on. Then any that you expect to earn the least equity. I'd then take the proceeds to pay down the mortgage of the one that you have left. Once it's been paid down a bit, refinance it at the remaining balance to try and create a positive cash flow in that property. I'd do it this way because I feel that your money would be way better spent avoiding interest costs and letting the tenant pay for your future equity.

1 Reply

Aaron Gordy

Real Estate Broker · Austin, TX · Member since 2012 · 1k+ posts · 1k+ votes

7y

@Laura Williams I would keep them all or at least the one in Austin. Austin has been doing very very well for a long time. As a practicing broker I have sat at many closing tables and have seen hud settlement statements for long term buy and hold investors. Those folks had to sell due to necessity but the majority didn't want to sell. Experiences have formulated my strategy over time. Don't sell, if possible.

1 Reply

Sam Hopkins

OH (ohio) · Member since 2016 · 63 posts · 43 votes

7y

Originally posted by @Karen O.:

Originally posted by @Sam Hopkins:

@Laura Williams you’re paying $20k a year for $163k a year. That seems good to me. Where else does someone hand you $163k and you hand them $20k?

Can't think of it that way, @Sam Hopkins. Remember, the 20k is after the 163k rental income has been exhausted to pay for these properties.

Still not getting you. Sure there’s no cash flow, but they are making equity for their $20k. I’m not sure why everyone is hung up in cash flow? Sure in a perfect world it’d be nice to have equity and cash flow. The fact remains though, for every $1 they put in they make $8. But let’s say they need cash flow, how much in commissions and taxes are they going to lose selling $10m+ in properties?

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Warren Currier

Developer · Union Point, MA · Member since 2015 · 62 posts · 31 votes

7y

Hello Laura,

Similar to your story, I currently have four homes, all rented out, all with fixed-rate loans, all low maintenance with really good tenants, all solid in appreciation, situated in economically growing markets, that combined are worth about $3MM. Unlike your three, mine are not costing me $56 per day. They're somewhat better than breakeven, not sure how much. Don't really care. I enjoy a similar W2 income, $550-650K/yr.

Your Venice property costs about $231.00 per day and it's currently bring in about $226.66 per day. I'll suggest that this 'daily rate' can be increased given idea generation and or proper management.

From your words I'm going to guess that the falls into this sort of a description: "The bungalow is tucked in the quiet neighborhood on one of the nicest streets in Venice. It’s a short walk to Abbot Kinney's coffee shops, restaurants and shopping. Add on another few minutes to get to world-famous Venice Beach".

Knowing the Westside over forty years and specifically, knowing the heartbeat of Venice Beach daily and monthly rates, I'd be inclined to suggest you can find someone who's there, who can make it all work out for you. Someone who can exploit all of the advantages, resources, strengths of this property.

By increasing the income of that one property you'll eventually increase your equity, possibly assist a lender in calculating a better rate on a refi.

Whatever you decide to do I wish you well.

2 Reply

Kevin Andrews

Real Estate Broker · Denver, CO · Member since 2015 · 24 posts · 5 votes

7y

Clearly you've proposed a polarizing question. One of the things that I love about real estate is there is no right way to accomplish your financial goals. That being said, true wealth is built when you have all the 'return factors' working for you. You're paying down existing leverage, good. Sounds like you've experienced a fair amount of appreciation, great! But you're missing one of the biggest components, cash flow. Cash flow is one of the biggest draws to owning real property in your portfolio. You can easily accomplish the first two I mentioned in a property that also gives you spendable income. You can optimize your returns by trading out of the aforementioned assets and into a new one (or multiple). Even after paying Uncle Sam, you should have a fair amount of ammo to acquire a high-quality asset(s) that will get you on the "right path"

2 Reply

Ross Leavitt

Real Estate Investor · Springfield, OR · Member since 2013 · 94 posts · 35 votes

7y

Unless you are planning on moving back into any of those properties, it would probably make sense to sell these homes and use the cash to buy basic houses in working-class neighborhoods. ROI is typically better with class B properties than class A+, which is apparently what you have now.

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Jack Martin

Lender · San Clemente, CA · Member since 2017 · 74 posts · 35 votes

7y

Hmmm, well, you have good tax right off's, and with your income you need them. The richest man in Orange County California has a philosophy; "never sell anything". Rents will always go up and with your income, you are losing very little. However, if you are like me, I hate losing money regardless. I sold a property here in California seeking better cash flow and found it in Cordova Tennessee. Now I have a nice office building generating 4X what I was getting in California. So, if you are impatient waiting for rents to catch up and we all know appreciation isn't going anywhere; sell and move on.

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Nanette Martineau

CA · Member since 2019 · 2 posts · 0 votes

7y

Sell ONE and pay off the mortgage of ALL.

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Michinori Kaneko

Rental Property Investor · NY · Member since 2018 · 571 posts · 332 votes

7y

How much would the property value increase annually? if the property value increase is greater than net loss from rent, potentially you can keep it (but no one can really predict where the real estate market is going). But then the surplus from value increase has to be greater than the returns you will get from an index fund. now is probably not a great time to get into stock market anyways. if there is no appreciation, no need for 1031 trade. I would probably sell the house, and invest the $ in some other property that cash flows. You can find plenty of properties that yields 10%+ Cash on cash return with all expenses (considering vacancy, repairs, maintenance, etc.). For a million $s you can go from -20K a year to +100k a year easily. why wouldn't you want to do that?

2 Reply

Sean Majewski

Minneapolis, MN · Member since 2017 · 5 posts · 4 votes

7y

At first glance, I thought -$20K/year...Whaaaaaaaaa???? But after reading thru all the posts and doing the math, that's like me having to pay $50/mo to keep a rental afloat. Being relatively new, I might take that hit knowing that I'm getting experience in the game, that I can raise rent, get the mortgage paid down, and likely get some appreciation to the point where my cash flow would be above water in a few years. So the numbers are all relative to your income, risk tolerance [if you will], and your end goals [gaining experience, moving back to one of these properties, the fact that these units generate very little drama bc of the price point - which cannot be understated!, you don't care to analyze and reinvest elsewhere, etc]...

Also, when we consider cash flow - anything positive makes for super easy math in relation to: debt paydown, appreciation, and overall return. If we're cash flowing, and properly accounting for vacancy, cap ex etc, we're coming out ahead because the expenses have been paid and cash flow is our profit...The debt paydown, appreciation, etc become just icing on the cake. But when we have negative cash flow, now we have to analyze the numbers closely:

-$20K cash flow sounds bad, but if your principle debt is being paid down at + $20K this year alone, you're really breaking even - I think the hard part is that many investors cannot easily make up that negative cash flow [whatever $# it is] because that's real money that has to come from somewhere [vs, say, money already invested in the stock market, that fluctuates up + down = this is just a loss/gain on paper].

The interesting question to me is - what does it cost you to sell vs maintaining the -$20K cash flow [regardless of the true net your making underneath this]. If you can sell and avoid capital gains taxes, and don't care to manage a deal with a particular property anymore, and don't care what it might or might not do for you in the future, then selling is a no brainer...use that money elsewhere! If that same property is going to cost you cash flow for a few years, but then it'll make money in the long run and you can put up with that for a bit...VS...right now, paying capital gains taxes + closing fees, and the potential of having to come to closing with hundreds of thousands of dollars - plus nothing to show for it in the future - then that's a harder [+ more emotionally driven] decision.

Great question @Laura Williams that really got me thinking...Good luck!!!

1 Reply

Storm S.

Real Estate Agent · Santa Barbara, CA · Member since 2016 · 518 posts · 283 votes

7y

@Joe Villeneuve this math is wrong it doesn’t account for debt pay down appreciation, rental price growth. It also doesn’t consider the opportunity cost of his time. If he meets the real estate professional status these properties could be great tax shelters.

0 Reply

Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

7y

Debt pay down is the same money as if it was in the bank...just in a different location, and the appreciation isn't based on equity...it's based on value, which is the same no matter how much equity there is.

What does opportunity cost of time have to do with this? What time are you speaking of.

Tax savings, in the form of deductions, are not equal to the money spent to achieve them. Tax credits are. There are no tax credits here...just deductions. If you spend money to get a deduction in taxable income, the return is a percentage of what you spent. If you keep the money it's 100% of the money you didn't spend...but that money spent or not spent, is the exact same money.

2 Reply

Storm S.

Real Estate Agent · Santa Barbara, CA · Member since 2016 · 518 posts · 283 votes

7y

@Laura Williams if you have equity trying pay down some principle and asking for the bank to recast your loan to lower your monthly payment

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Scott S.

Tacoma, WA · Member since 2014 · 77 posts · 92 votes

7y

Is most of the $500k in yearly income all from a job? If so, there is huge risk in that part of the equation. What if something negative happens to the employer and they can't afford that salary? Can you easily find another $500k salary to replace it? Life events happen as well. I have a friend who was hit head-on by a careless driver. Now they are unable to work.

Unless that $500k yr income stream is guaranteed income, there is heavy debt involved with the current losses that you might find yourself in a very tight spot if circumstances go south.

1 Reply

Eric Parrow

Rental Property Investor · Member since 2019 · 18 posts · 9 votes

7y

I skimmed this topic, so if this was already asked/answered, I apologize.

What kind of house is valued at ~$1mil, and rents for $566 / month? There is something incredibly wrong with this picture. Either NOBODY is renting, your rent price is way off, or your house isn't truly a $1m house.

If the valuation is correct, SELL, and buy in a market where you can pick up 60-80k homes that rent for $900-1000/month with annual taxes and insurance in the 1200/yr range (each).

If your rent price is off, bump it up, or even AIRBnB the unit for a proper cashflow.

If nobody is renting, which is driving rent prices down, go back to step 1 and SELL.

Those rent prices around here would get you into a 1bed shack, or maybe a room rental in a 3bed house with roommates.

0 Reply

Yuttana Chawengsub

Rental Property Investor · Topeka, KS · Member since 2014 · 21 posts · 7 votes

7y

@Laura Williams I think 20K/year loss in your situation is probably IRRELEVANT.

High income earner with Tax write off from the loss. Tennent paying off your Mortgages.

1 Reply

Eric Parrow

Rental Property Investor · Member since 2019 · 18 posts · 9 votes

7y

Originally posted by @Yuttana Chawengsub:

@Laura Williams I think 20K/year loss in your situation is probably IRRELEVANT.

High income earner with Tax write off from the loss. Tennent paying off your Mortgages.

Hes writing off losses of interest and depreciation, insurance, etc... but not writing off the principal.

I'm wondering how much of the 3M valuation of the house is equity above and beyond his original purchase price? If its 50% over, then hes only depreciating $54,545/yr.

If he sold, re-invested all 3M, depreciation alone would double ($109,090), he could likely be into 37 individual ($80k) SFH, cashflowing about $24,000 per MONTH (simple math, but it paints a picture).

So he could be $240K to 290K positive cashflow, with a paper depreciation of about 109k, insurance write off of about 45k, taxes paid about 45k, etc etc... basically, write off 200k and make 240-290k. While its a small paper gain, its a massive amount of increased income.

1 Reply

Shanna Ford

Member since 2018 · 12 posts · 4 votes

7y

I think that with the income you bring in....theres no reason you’re not investing in apartment buildings and multi units with high cash flow...especially now with the opportunity zones and tax benefits they offer. I help people every day with this.

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I lose $20k/year - help me w/ my strategy!

I lose $20k/year - help me w/ my strategy!

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