Consider Renting Our Primary Home

[Alex L.]

We are in the process of getting another personal residence and I'm considering renting the one we live in currently out. We did this with our first home which was a starter home and was more of a no-brainer. This was an upgraded home, currently valued at $750k or so. Is there a demand to rent at this price point? Comparative listings in terms of beds and baths are lower than what I would want to get, but those are starter homes at half the price of ours. Luxury apartments in our area are running $4000 - $6500. Would it be abnormal to charge 4k - 6k in rent? Is there a market for these types of rentals or should I just sell it?

[Alex L.]

Considering*

[Bill Brandt]

I have a $750k townhome on lake Mtka that brings in about $3600/mo and that’s only 2200sf. But $450 of that goes to Hoa for docks maintenance and such. So it’s not that the rent can be collected, and in fact these tenants are the best. I have only heard from mine 3 times in 6 years. 

BUT, this has to be a home that hasn’t appreciated since you bought it. Otherwise you’re going to create a at least a $20k tax bill out of thin air for every $100k it’s gone up in value. That will eat up most of your rental profit for years. But if you just bought it or prices in your neighborhood are bad/flat don’t let the value stop you. 

[Nathan Gesner]

Quote from @Alex L.:

We are in the process of getting another personal residence and I'm considering renting the one we live in currently out. We did this with our first home which was a starter home and was more of a no-brainer. This was an upgraded home, currently valued at $750k or so. Is there a demand to rent at this price point? Comparative listings in terms of beds and baths are lower than what I would want to get, but those are starter homes at half the price of ours. Luxury apartments in our area are running $4000 - $6500. Would it be abnormal to charge 4k - 6k in rent? Is there a market for these types of rentals or should I just sell it?

 You need to study your market and find out. My market is an average of $1,500 for a single-family home, but I rented a couple for over $3,000 last year in just a matter of days. If it's worth $4,000 a month, then you'll find someone.

[Alex L.]

Quote from @Bill Brandt:

I have a $750k townhome on lake Mtka that brings in about $3600/mo and that’s only 2200sf. But $450 of that goes to Hoa for docks maintenance and such. So it’s not that the rent can be collected, and in fact these tenants are the best. I have only heard from mine 3 times in 6 years. 

BUT, this has to be a home that hasn’t appreciated since you bought it. Otherwise you’re going to create a at least a $20k tax bill out of thin air for every $100k it’s gone up in value. That will eat up most of your rental profit for years. But if you just bought it or prices in your neighborhood are bad/flat don’t let the value stop you. 

 We purchased the property a few years ago, so its gone up like $100k, but nothing crazy like if we purchased it 5+ yrs ago. I'm not following the tax burden if the home has appreciated though. Could you explain that more? Thanks in advance!! 

[Luka Milicevic]

@Alex L.

If it's a true personal residence per IRS standards then I would sell, personally. 

Your cost basis is low and if you can get the favorable tax advantage then it seems it's better to sell and put your money somewhere else. 

I purchased a primary residence that I intended on moving out and keeping as a rental. It had doubled in price since I had bought it. My cost basis was so low so my depreciation each year would be low, and I would eventually lose the tax advantage of it being a primary if I kept it. It was a no brainer to sell. 

[Adam Venci]

Hey @Alex Lelchuk

My wife and I were in the same exact position last year. We never thought we’d be able to rent out our somewhat high end ~600k+ primary. We listed it on the high end of what we thought we could get and within a few days had a lease signed. They’re amazing tenants and take care of the property like it’s their own.

Like @Bill Brandt mentioned, the tax implications are a bit of a concern. Being that it’s in TX and it has increased by 50% in the last 2 years, that tax liability could increase significantly and take away from overall cash flow. That’s probably less of a concern if you’re not in a high property tax state like Tx.

[Bill Brandt]

@Adam Venci you are probably still way ahead of @Alex L.. Your property taxes might be double his, but he’s going to be hit with about an 8% state income tax if he waits to sell. 

Alex:  if you sold tomorrow and netted $100k more than you paid on your primary home there would be zero taxes due. If you rent it for more than 3 years and it’s still worth exactly the same you’d owe about $15k in federal capital gains tax plus about $8k in MN state income tax (unless this $100k added to your regular taxable income pushed you in to an even higher tax bracket.) so you’re going to create a $23k tax bill out of nowhere. Since it’s only $100k it’s not an insane amount, but pretend that amount amortized over holding period is an added expense and your rental probably doesn’t make sense. 

You would almost be better off selling the home and buying an identical one next door. You’d probably have less than 1/2 as much in closing fees as you save in taxes. If you wouldn’t consider doing that, then you definitely shouldn’t hold your current property with a higher cost. 

[Adam Venci]

@Bill Brandt Are we assuming he's lived in that house for 2 out of the last 5 years?   

If that's the case, another option would be to keep it as a rental for the next 2.5+ years, realize appreciation, cashflow, amortization, etc.  Then sell it just before he's ineligible for that capital gains exclusion. I'm curious if anyones ever intentionally done this and if they'd do it again if they could change anything. 

In our case, my wife and I only lived there 1 year, so we were less incentivised to sell. 

[Bill Brandt]

@Adam Venci

Yes, he said “a few years ago”. He could rent out for a couple, years. But if it’s a barely profitable rental and he has to replace everything that looks worn then (carpet/paint/appliances) he would need the appreciation to break even. And if the market turns, he has to sell anyway because of tax reasons. He’s already in a neighborhood that’s not appreciating quickly (15% from $650-$750k) in a few years is less than 5% yoy. My MN townhome went from $450 to $750k (66% in 5 years, 13% yoy) and my vegas properties have probably doubled in the last 4-5 years. (20-25% yoy). A CHANCE to earn 5% and NEED it doesn’t excite me. 

Like I said he could sell tax free and buying a nearly identical neighboring house if he was excited about the entail and appreciation prospects< but it doesn’t sound like it. 

[Adam Venci]

@Bill Brandt Ahh I missed the "few years" part. Thanks for the explanation, that makes perfect sense. 

[Alex L.]

We purchased it in 2019, so 3yrs in... I guess doesn't the whole rent the house for 15 or 20 years and have someone pay your mortgage component not apply while it cash flows? Is it only because we have it as a primary first and it happens to have this added bonus of tax-free appreciation if sold within the first 5 years or lived in for the first 2 or whatever the rule is? My appreciation is small because I bought it as the appreciation was already kicking up vs a year or two before. The general area is appreciating in pace with other hot areas of the Twin Cities/Metro. Also, at the moment I would be trading money from the market to real estate and vice versa...

Numbers: 

- $3,000 mortgage includes taxes & insurance

- Likely rentable at $4,000, maybe more, $3,500 worst-case scenario, but currently renting a $400k(purchases for $260) house down the street(our first house) which is 70yrs older and a starter home for $2,595, so hard for me to believe this doesn't pull towards the top, but that's why I was looking to see how "higher rent" properties fair. 

[Nathan Atkinson]

What city is this home in? Is there high demand for a higher end rental in that city? I would also recommend doing an analysis to see what all of your options would be between buying and selling. If you sell maybe you end up with $100k and if you rent maybe you'll cashflow 1k a month after expenses (I'm really just guestimating these numbers, but the exact numbers arent as important right now). You then have to decide what fits your investing style and lifestyle more, you could sell and use the money to brrrr, or buy a turnkey investment or you can keep it and use the cashflow for other things. Shoot me a message if you want to talk more about this, I'm from MN as well.

[Basit Siddiqi]

The amount that you can charge for your property depends on several factors - Size, Location and condition.

You can try to run comps on your property via research via Zillow / looking at Property Management Statements.
You can also hire an agent to find out  how much your property can rent for. I would also use that agent to rent your home if you decide to rent it out.

Best of luck

[Andrew Frowiss]

Hi @Alex L. these are just my thoughts. If I was in your situation I would probably 1031 your funds into a larger multi family property in your area or out of state (if your area isn't the best for this). Alternatively you could sell the property and buy a bunch of single family properties in a market with cash flow, decent appreciation, and lower purchase prices (I recommend Killeen TX as it checks all those boxes).

I prefer to scale. Either way make sure to run your numbers and make an informed decision. If you had several single family rentals then you would bank on the appreciation on all of them (and cash flow/loan pay down of course). That's my mindset anyway! 

Best of luck!

[Tom Fontoura-Sutliff]

I'm glad @Andrew Frowiss mentioned 1031 because that is a great future option. 

This a really a preference question and a lot of valid points in this post. You might be able to optimize by selling and investing in more properties but if you're more interested on taking a more relaxed approach to RE investing then renting your current home is fine.

[Adam Tafel]

@Alex L. where in the metro is this located? If you are in a nice burb in a good school district you might consider holding. There is a high demand for nice corporate rentals, especially in the western burbs. 

Other questions/thoughts: 1. return on your equity? 2. what would you do with proceeds if you sold, and how would the return compare? 3. these tenants will likely be high-maintenance, do you have the time? 4. vacancy will be higher than market average 5. do you plan on holding for more than 3-5 years? 

I've run mo/mo corporate rentals in St. Paul for the past few years, we get a lot of leads looking for nice big SF homes in the burbs. 

[Cal Martin]

Hey Alex, hope your day is going well!

It probably just depends on what your current situation is financially. If your'e just starting out and cash flow is more important for your personal finances than it might be best to sell and look for some higher cash flow properties. The more likely situation is that you are have a decent paying job that enabled you to purchase that house in the first place. In that case it might be the best idea to keep as a rental and while it might not pay you super high cash flow, you are producing $40,000-$60,000 that goes towards principal pay down and significantly increases your wealth. As long as you get a high quality tenant in there I think holding as a rental would be a low hassle way to hold a property that it only going to appreciate in value.

[Alex L.]

Thanks for the great insights everyone! @Adam Tafel this is in the South Minneapolis(by Lake Harriet)), 50th & France area, etc, so highly desirable, same reaosn why we originally bought the place.  I listed it for $5,000 per month, have gotten a few hits. I have a smaller rental not too far away, but different price point. If I sold it, I feel like I don't have anywhere to put it. I have been looking for something else in our market for the past year and it was tough to find something that made sense, altenrative markets seem appealing, @Andrew Frowiss but not a ninja yet so not sure I get that game 100% yet. I guess the Real Estate market seemed like it was too expensive for me to enter this last year and now, so I have figured keep this, cash flow it and then see what happens in the future of moving it into a larger Multi-Fam property via 1031 in the future. 

[Drew Sygit]

@Alex Lelchuk

The challenge with higher valued properties is values go up faster than rents.

So, where a $200k property may rent for $2,000, a $400k property won't rent for $4,000.

Apply this to your market to see if it makes sense to rent or sell.