Sell or continue to rent my Washington, DC condo?

Question

Hey all - first time posting, but thought I'd seek advice on a condo that I own and rent out.  This studio/junior one bedroom used to be the primary residence for my wife and me, but with a baby now in the mix we moved and found a great tenant.  The lease term is coming to an end and the tenant is willing to either stay on or move out.

Property info:

700 sq ft studio/junior one bedroom with one full bath (has a dedicated sleeping area with translucent panels to provide some privacy from rest of unit), has a balcony, stainless steel appliances, exposed duct work, washer/dryer in unit

Located in U Street Corridor of Washington, DC

Finances:

Paid $348K in Feb 2011, current market value around $460K ($465K from Redfin, $485K from Zillow)

Mortgage balance of $249K; PITI + condo fee is $23K/year vs. $2,400/month or $28,800/year in rent.  Building is 10 years old and unit has original finishes.  No major repairs to date or anticipated.  After agent commission and transfer taxes, etc I estimate I could get net proceeds of $174K.

When we initially decided to rent it out, I wanted to sell but my wife wanted to rent to hopefully gain additional appreciation since the neighborhood is still improving with new buildings and restaurants opening each month.  I think it's only appreciated marginally in the past year that we've rented it out, and now would consider selling it with the potential tenant's move out.  DC has tenant-friendly rental laws (TOPA) and selling an empty unit is substantially easier than having a tenant in place.  Also, we are currently in DC so self-managing is easy, but are contemplating a move to another state which would make managing from a distance more challenging unless we went with a PM.

At the $348K purchase price and $8K closing costs with 20% down, I calculate a 6.7% CoC return.  Using the $460K market rate, it plummets to 2.8%.  Should I evaluate based on the purchase price or market rate?  I think the right answer is to sell to lock in the appreciation and then redeploy the funds in better rental return markets, but wanted to see if I'm missing anything.

Bill Exeter · Answer

Hi @Dan Bernstein,

I think you were probably referring to a Delaware Statutory Trust (DST) where the investor would sell his or her relinquished property and then 1031 Exchange into a beneficial interest in the DST, which would qualify as the purchase of real estate for 1031 Exchange purposes.  The DST can certainly help save a 1031 Exchange when an investor can not locate suitable replacement property.  In fact, I'm speaking at a DST seminar right now.

Dave Foster · Answer

@Dan Bernstein, if you mean 1031 into a land trust you're absolutely right.  But you can't forget that the trust will have to be set up to be a disregarded entity so that purchasing the beneficial interest of the trust is considered the same thing as taking title to the underlying real estate.

The 1031 must be a sale of real estate followed by a purchase of real estate.  But as a hedge in today's sellers market there are several passive products that can be used as place holders or alternatives.  Delaware Statutory trusts, Tenants In Common, NNN leases, and Land leases can all be used in 1031 situations.

Dan Bernstein · Answer

@Dominic Foster If you are planning on investing in real estate long term, I would sell and buy a multifamily with a 1031 exchange. Since properties sell super fast on U street, you could identify and tie up a multifamily with a longer study period and then 1031 exchange it into the new property.

Thats a lot of money to sit tied up in a one bedroom condo.

Dominic Foster · Answer

Wow, thanks for all the replies guys.  Much appreciated.  Couple follow ups:

@Russell Brazil - the unit is 4th floor, at corner of 14th & V.  It's FHA approved, 10 years old, $350/month condo fee.

@Matt Katsaris - my thought was $175K gets redeployed into lower price, but better yielding and lower appreciating properties.  Still contemplating which area of the country as I may be relocating before the end of the year.

@Dan Bernstein and @Dave Foster - I lived in this unit until a year ago, so I'm still in the capital gain exclusion window and wouldn't need to do a 1031.  Also, Dave - great last name.

I spoke with a Realtor who sells many units in my building and he indicated a $420K - $430K value.  Using $420K, I get a 3.5% CoC return.  I think the best use of cash is to sell it while empty and wait for some better yielding opportunities.

Dan Bernstein · Answer

@Bill Exeter and @Dave Foster Yes, the DST is a great fallback in case none of the properties you identify during the 1031 pan out.  In fact, we make sure to inform our clients of this option before the transaction.

Dan Bernstein · Answer

@Dave Foster Many people are unaware that they can also 1031 into a trust instead of a physical property... so in the event that the "like kind" property exchange is not going to go through, they can defer paying taxes by moving the taxable income into a trust.

Dave Foster · Answer

@Dan Bernstein, Thats a very wise recommendation.  Many folks feel pressured to find replacement properties in a sellers market given the tight time constraints of the 1031 calendar.  But what is sauce for the goose is sauce for the gander.

MF and commercial projects typically have longer due diligence windows.  And if @Dominic Foster (no relation, he's way more handsome) can take advantage of a sellers market for his sale and a long due diligence for a larger MF thats what  can greatly mitigate the risk factors of a 1031.

Matt K. · Answer

I'd look at it from the standpoint of what does that 175k do for you if you get rid of the condo? If you invested out of state you could likely get a better cashflow monthly and a more stable (but less) appreciation. You could also do a 1031 to defer taxes, but you'd have to take on additional debt....

Russell Brazil · Answer

Although I did just notice that you said the building is 10 years old, so that might be in the right range actually

Russell Brazil · Answer

I think your estimate of value is on the high end to be honest.  There are of course a lot of variables...layout, view, where exactly on the U St Corridor, condo fee, whether the property is VA or FHA approved that will impact the value....but even thinking optimally, I dont see that number unless its a newer construction building.

Sell or continue to rent my Washington, DC condo?

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