Keep Primary as First Rental?

Question

Hi everyone,

My wife and I are both 32 with 2 kids, 3 & 1. We make about $250k per year(before taxes) and have outgrown our first home we bought at beginning of 2020. It’s a 3/2 at about 1560 sqft in the north hills of Pittsburgh. We bought it for $225k with a 3.125% mortgage and 1) are interested in keeping it as our first rental. 2) We are thinking about using some of the equity (maybe $50k or less as a HELOC to combine with existing cash for our next home down payment that we can convert to a HELOAN through our credit union). We would plan on paying that back off pretty quickly in about 1-2years. Thoughts on this? I estimate we should be able to cash flow ~$400 per month after 10% for Cap Ex, vacancies etc set aside.

Bryan Montross · Answer

One other thing to keep in mind and consider is taxes. You might consider turning the house into a rental for up to 3 years and then selling the property and buying a new rental. This will allow you to take advantage of the Section 121 exclusion and you could do a 1031 exchange into the new property. This will minimize the tax burden of the gain you currently have and defers any other gain through the 1031 giving you more buying power going into the future.

Nathan Gesner · Answer

If I read this correctly, your current home would cash flow around $400/month. However, that's before you cash out equity. If you borrow against the equity, you'll need to include that payment in your calculation, as well.

You make 3x the average income for Pennsylvania at the age of 32. Why can't you save $50 - $100,000 per year for investing?

I don't like the idea of borrowing money from your equity to borrow money for a new investment. It creates over-leverage and the performance of one property is dependent on the other. I think your income easily justifies a common-sense, time-proven method: increase earnings, reduce expenses, save, and invest.

Elise Bickel Tauber · Answer

I agree with Jeremey Taggart. I would keep it as a rental and when you have enough equity to do a HELOC I'd go that route. The rental market in the mid to higher price range is a bit lacking so having a rental in that range should go quickly. I would consult a real estate agent or property manager on the price for the rental even if you plan to self rent and manage. You can also use sites like rentometer to help confirm your rent price. You may be under or over as the market continues to shift!

Brent Hindman · Answer

Very true and we were kind of thinking about that 3 year time span as well. Probably not much better time to try out the rental game and if it doesn’t work well, or we don’t like it we can still sell and keep the capital gains exemption. Thanks for that!

Brent Hindman · Answer

Thanks for your insight Elise! That’s good to hear about mid to higher end rentals as that was partly a concern of mine. I am familiar with rentometer and that is where I got my approximate rent numbers from. I am trying to be as realistic and conservative as possible

Brent Hindman · Answer

Current rates make the next home tough even at our income with two kids etc. We aren’t aiming for anything top of the line or updated but we need bigger and more bedrooms etc. so our next home we are looking $450kish and not much more. Monthly payments at that still add a squeeze in trying not to become “house poor” so I’d rather have a little more leverage up front and just be able to pay it down quickly

Brent Hindman · Answer

Yes Nathan thank you I do agree with you and have that same mindset as well. We do currently have around $50k set aside for our next downpayment as well (that’s in addition to a $25k emergency fund). We are currently continuing to save towards that monthly and my thoughts are we would only use the HELOC in the smallest amount necessary depending on how much we need to fill the gap of the next down payment. So more time goes on and more cash we have, the less HELOC we use. The most I would see is using is $50k and we would convert that to HELOAN after closing on the next house and aim to pay that off in a year or so (ASAP). We have two kids in daycare etc so our savings rate is still good, but we both work from home and the nursery is a shared office as we outgrew this current house faster than expected so we are trying to move by the end of 2025 at the latest. Could be sooner permitting what comes on the market that would best suit us therefore this is where the HELOC would mainly help.

Brent Hindman · Answer

Thanks for your insight Jeremy! That makes sense to me and I greatly appreciate you taking the time to answer!

Jeremy Taggart · Answer

@Brent Hindman If you aren't looking to grow the rental portfolio quickly or build it to be large, then I'd probably just get a HELOC on it and keep it as a rental. You might not get as much cash flow with that equity as you would get if you sold and put it into say an apartment building, but with the low mortgage rate you are likely getting some pretty good principle paydown each month and it's in an area that will see good appreciation/rent growth long term.

Brent Hindman · Answer

Our plan is to upgrade and buy a more forever home type scenario. Keep this current home as our first rental, maybe slowly accumulate some others after being in our next home and having the first one run smoothly for a year or two I would say

Keep Primary as First Rental?

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