A friend of mine is having a dilemma about what to do with one of his rental properties. He asked me for advice, and I thought I should float the question to all of you.
Here’s his situation:
In 2001, he purchased a single-family residence in a middle-class suburb of Denver for $180,000, with a $40,000 down payment. He refinanced the property one year later, locking in a fixed 30-year interest rate of 6.25 percent. The mortgage (PITI) comes to roughly $1,000 per month, and he collects rent of $1,200 per month.
As most of you can already see, this is not a good investment. He’s aware of that, too. He’s learned a lot since 2001.
He’s received two independent opinions of the value of his home from respected people involved in the real estate industry within that specific neighborhood. Both of them believe that the house is worth roughly the same amount that he paid for it. In other words, he probably wouldn’t make any (or much) capital gains by selling the house, but he probably wouldn’t take a loss, either. (He may or may not take a loss due to commissions and fees — after all, there has to be some margin of error). For the sake of this example, let’s assume he’ll “break even.”
The house is in good condition and does not have deferred maintenance issues. He has a long-term tenant in the house, but he’s not sure how much longer that tenant will stay.
Alternate Uses for That Money
His risk profile is conservative. He absolutely WON’T buy another rental house (or do any other type of real estate investing) for at least the next three years. He doesn’t mind holding this house, but he does not want to accumulate any more.
He says that if he could liquefy his $40,000 down payment, plus pull out whatever other limited equity he has in the house (if any), he would ideally like to use that money to accelerate the mortgage pay-down on his primary residence, which is currently in its earliest years of amortization.
So … should he sell the house or not?
Benefits of Selling:
#1: Although he probably wouldn’t make any gains, he would have access to his down payment money of around $40,000. (He does not want to borrow against his equity to pull the cash out).
#2: He would not have to deal with any management or maintenance issues on the house. While he has not had to deal with many issues, he’d prefer to deal with zero, particularly because he now understands that this house is a marginal rental deal.
#3: The only reason that this house is supposedly “cash-flow positive” is because he manages the property himself (and does not pay himself for his time), and his occupancy rate has been 100 percent for the past several years. A series of misfortunes could “turn the cash flow tides,” as it were. Perhaps he should unload the property before that happens.
Related: Don’t Sell Your Real Estate Holdings Just Yet…
Benefits of Holding for 1-3 More Years:
#1: There’s a chance that if he holds the property for another 1-3 years, home values in Denver will rise, and he will be able to make gains on this property. This is his strongest reason for holding onto the property, thinking that perhaps he might sell it in 2014 or 2015 instead. (On the other hand, of course, no one knows what the future holds).
#2: He’s not motivated to sell because the pain of holding the house is not yet uncomfortable enough. There are no tenant issues, no major maintenance issues. So why should he bother?
#3: He’s already held the property through the first 10 years of ammortization, when most of his payments have gone towards interest. Now a greater percentage of his mortgage payments are going towards principal pay-down. Is there an argument to be made for holding the property for a few more years and building greater equity before selling?
So …. that’s the situation. What do you think he should do? Sound off in the comments!