Cash out, then 1031 exchange or hold?

Question

I own two condo out right that I am currently renting. Both units rent for $900. My fixed  monthly expenses are, HOA $350, taxes and insurance $125, totaling $475. I bought them as REO's for $39,000 & $50,000 in 2011. They booth sold for $120,000 in 2006 and the tax assessed value was $90,00 at the time. I recently had a CMA done on the units and they both were valued at $82,000. Unit # 1 appreciated 53%, and unit #2 40% in 2 years.

My dilemma is at what point do I implement an exit strategy. To me the next step is to todo a cash out refinance, pull my money out. But after that I'm a bit unsure. I don't like the HOA's and assessment associated with condo. But on the flip side  there located in a area that is up and coming and is easy to rent. There close to down town, bus lines an art school, restaurants its a popular area.

Would the best move after the refinance, to hold them until they reach the $120,000 value, then do a 1031 and move on to something different? Right now when I  pull the money the properties will still cash flow but anything after this the rents will not not support keeping them cash flow wise. As well as I don't believe they will appreciate any more than what they reached in 2006.

If they were single family home I would just keep them after I pulled my money out, but as a condo I feel like I should get out and do a 1031 at that $120,00 value. If any one has any thoughts it would be much appreciated..

Daniel Coleman · Answer

@ Chris M,

The HOA is a lot to deal with, but the catch re the numbers you can get huge deals with cash purchases. I'm stuck on my next move. Like you I really would like to move into a 4-plex, financing is a problem for me. I may try and find a condo deal with this refinace money.

Daniel Coleman · Answer

@Dave T

I agree about keeping them as a cash flow. I'm in the final steps with a cash out refinance and will be able to take out 16k more than my initial investment. Im very happy about that, theses deals are working out as I planned them to.

Chris M. · Answer

This sounds similar to what I was facing at the beginning of 2013. I had two condos bought for 33k and 38k in 2010 which were renting for 900 and 1k respectively. HOA was 327 and taxes/insurance came to 81/mth. Both were bought vacant so I tenant proofed things before moving anyone in so I never had any issues.

I sold one earlier this year for 80k and took the proceeds and put down on a quadplex in a busy area in SFL. I was doing a 1031 but ran into a time wasting seller when their property didn't appraise and that ended up failing. The quad was a purchase after the holding period of funds had expired.

My motivation for moving on from the condos were the volatility of the association and deferred maintenance during the recession gave me the feeling that I was in for assessments pretty soon. Also, the lenders that would give me a cash out refi on a condo in SFL were few and far between so the terms were not as favorable as I would have wanted.

The quad is renting under market now, but the cash flow is over what I got with a single unit. I'm planning to speak with my CPA and put the other unit for sale (realtor has said it could sell for 90k due to a water view) and get into another quad in 2014. The increased cash flow will aid in my goal of investing in more properties quicker while paying down some non RE debt.

Dave Toelkes · Answer

@Daniel Coleman

Depends upon your goals.

If your investment strategy is to buy and hold for rental income, then cash out refinance to recover your initial investment would give you cash in hand to buy another cash flowing property.  Meanwhile, your condos are still self-supporting.  Essentially, after the refinance, you have have two properties that are essentially free (you don't have any of your own money in the properties any more), and your tenants are paying off the refinance loan.  Rent increases will keep you in a positive cash flow position and after your loan is paid off, you own these properties free and clear.

Rental property owners don't buy a property to rent, they are buying the cash flow the property will generate.  Two properties with 100% financing (none of your own money invested) that cash flow can be a nice income stream in the future.

If a 1031 exchange will get you into one or more properties that will increase your cash flow, then go for it.  As long as your tenants are buying the property for you and you have a positive cash flow, a 1031 exchange makes sense.

I would not refinance your properties now if you are going to do a 1031 exchange within the next year or two.  There is no need to wait for your current properties to reach a certain value before you open a 1031 exchange.  Remember, while you are waiting for your property to appreciate (if it ever does), the replacement properties you could acquire are also appreciating.  Waiting for your properties to apreciate to $120K may cost you more in the long run.

Just my 2¢

Steven Hamilton II · Answer

1031 to something else.  That is what I would do.