Sell rental to cash out equity or keep it long term

4 Replies

Hi there,

I need some help deciding if I should cash out of my primary home turned rental property (located in Orange County, California) before I am on the hook to pay taxes on capital gains, and pocket the equity or hold it long term with positive cash flow and possibly a retirement income. Our current rental was our primary home for over 6 years until September of 2017 when we decided to buy a bigger home. So, in short we have had our rental for last one year. Right now we are sitting on over $400k of equity on the rental along with over $750/month of positive cash flow. Here are the two major questions that I have been eagerly waiting to find answers to and need some expert opinion from all you experts out there:

  1. Cash out on equity on the rental property by selling it while market is high. Properties in the area for the like kind are going for over $700k but let's just say I am able to sell the rental for $700k. My purchase price on the property was $375k which means I have $325k of capital gains. My mortgage payoff balance is $295k at the moment. So, if I were to sell it by 2020 (within 3 years of turning it into rental), I pocket the entire capital gains on the property (roughly $65k) but I will instantly lose my $750/monthly cash flow from rent as well as depreciation I each year. Basically, after paying agent commissions and other miscellaneous cost (roughly 8%), along with paying of the mortgage balance, I would pocket close to $350k, tax free.
  2. Stick to the rental long term with a great cash flow of $750/month and take advantage of the depreciation, while the renters are paying off my rental slowly and eventually have a paid of real estate that can generate great income for me.

Investment from me for this rental is roughly $50k. Rest is all appreciation over last 6 years. So, to get $750/month is roughly a 18% return on $50k investment. I don't think I can find a better return on a rental today. There is a possibility I can cash out and re-invest the $350k from sales proceeds (possibly get 3 rental units with 20% down) to hopefully, get a higher return. 

Please note, I don't need money at the moment and don't have any other investment vehicles that will generate a guaranteed 8-10% growth to my investment. What would you guys do in this situation? Thanks in advance guys.

If you sell and pocket $350k and reinvest with a ROI of 7%, your annual return is $2k/mo which certainly beats your current $750/mo cash flow. If you enjoy real estate, you can partner with local investors to put your money to work.

But, if your goal isn’t to invest heavily in real estate, this is a great property to use as a long term investment and reap the benefits of real estate.

Originally posted by @Rohit S Bora :

Thank you Casey for your response. How can I guarantee a 7% return on investment? Also, what’s the best way to find the local investors?

 You are still in your window where you can sell the property and exclude it from federal and CA capital gains taxes as your primary residence.  Given the amount of equity you have in your home, your returns are actually much smaller than calculated as there is an opportunity cost to having all that equity sitting in the home doing nothing.  As I see it, your two best options are to refinance the property to pull out a significant portion of the equity and invest it elsewhere (but eventually pay capital gains when you sell the property), or to sell the property now and reinvest elsewhere. There are many options available that can get you 7+% return on average per year, one of them being investing passively in large apartment complexes with experienced operators.  An investment like that can typically yield 6-8% passive cash flow per year, with large returns in 5-7 years when the asset is sold (typically about 8-10% extra per year, paid at refinance or sale of the property).