Sell and scale, or BRRRR?

Question

I purchased my first house last year, June 2021, for $270k in a hot market with TONS of new construction everywhere you look. This house is a brand new construction as well. Since then, it's appreciated quite significantly and is currently comping out to between $450-470k. I write this post because I'm seeking guidance on what I should do next.

I am currently house hacking: Mortgage is $1,400 and I’m collecting $1,500 in rent from my one roommate. Rents comp out to $2,500 if I were to fully rent out the house.

Here’s where I could use advice:

Do I sell the house and walk away with ~$130k (after realtor fees, closing costs, capital gains tax, etc.) to reinvest? If so, I’d use approx $20-30k on another primary residence down payment, and purchase 2 cheaper properties utilizing the remaining $100k as 20% down payments (provided they cash flow of course but given the market I’m in, is very feasible).

OR

Do I just buy another primary residence (and house hack that one too) and rent out my current house and cashflow $1,100 from it each month and let it further appreciate?

OR

Do a HELOC or cash out refi to purchase another property?

I don’t have much saved, so going with option 2 would eat up all of my savings. I’m also slightly experiencing FUD in the market dipping and me missing out on opportunity?

I’m in a position in my life where I have no kids yet, am young enough to bounce from property to property, and am a risk taker. My plan initially was to purchase a primary residence house each year, to take advantage of the low down payment requirements and maximize leverage. But if I’m sitting on considerable equity, I think doing nothing with it is wasted potential. What would you do?

Andrew Garcia · Answer

Hi Brian, it hinges on a few things. 1. Is the primary residence that you are going to buy if you were to sell your current house in the same price range, condition, neighborhood, etc? If you are buying a new home that is similar, it will have virtually the same appreciation. So, that takes the appreciation between option 1 and option 2 off the table. From there, it really just depends on whether you would get better cashflow and appreciation with your current property or with two cheaper properties. You also have to factor in the time and energy you will spend managing two properties vs. one.2. Interest rates. Your current house probably has a rate in the 2s or 3s. If you were to sell and buy 3 properties, your rate would likely be in the 5s and 6s, depending on a variety of factors. This will obviously factor into your monthly cashflow analysis. Furthermore, the HELOC vs. cash-out option needs to consider the interest rate as well. Rates are going up. The Fed is announcing a rate hike this week. If you are going to do a HELOC, it would be best if you paid it off in a short period of time. Otherwise, the rate will continue to increase past the rate of a cash-out. A cash-out will initially have a higher rate because it is a fixed-rate, not an ARM. However, if you plan on holding the property for an extended period of time, it could be worth it. The interest rate will be higher but if you are utilizing that leverage to generate a higher rate of return than the interest rate, you are making infinite ROI.In short, you need to do two things:1. Run a cash-flow analysis on buying 2 cheaper properties and compare it to the $1,100 cashflow from keeping your primary.2. Compare the HELOC or cash-out refinance proceeds to the other cashflow analyses. You cannot buy another primary now if you go this route and declare it as a primary residence to get the best pricing. However, if you declare it as an investment property, you can keep your current residence, buy another primary, and buy an investment property. I agree that not maximizing the leverage is wasted potential. Since the huge appreciation, we have seen over the past two years, a lot of investors are leveraging their equity to build a real estate empire.Hopefully, that was understandable and not too intricate. If you want me to run any mortgage payment scenarios for you so you can have more accurate numbers when running a cashflow analysis, let me know.Let me know if you have any questions.

Ryan Howell · Answer

@Brian Shand - my first thought is to consider where you think the market will be when you hit the 2 year mark of ownership?  At that point, you'll be able to avoid capital gains and save I'm guessing around $30k in taxes.  Unless you think the market will dip by that much, I'd probably at least wait until then to sell.

If you think the market is going to drop, then I might cash out, but since it sounds like you're going to reinvest in that market, then you need to look at it from an opportunity cost perspective....can you find a better deal or scale faster by selling?  If you're going to struggle to find a deal that's equivalent to what you have now, I might keep it.  If you have a house in the best area of town that is going to be a solid long term appreciation play and tough to beat, I'd tend to hold onto it.

Be aware your cash flow is not the rent minus the mortgage.  I don't know your taxes and insurance costs in your area, but by the time you budget repairs, maintenance, capex, vacancy, etc I suspect you're close to breaking even in the long run especially if you add in property management.

House hacking is best way to invest in your stage of life to minimize risk.  I would want to be sure if I sold, I could find an equivalent or better way to house hack...maybe get a larger property with more roommates, etc that helps you grow your cash flow and assets faster.

Dave Foster · Answer

@Brian Shand

As previously stated, if you continue to live in it until at least the 2 year mark and then decide to move out you would qualify for the primary residence exemption. But, if you move out after you hit the two year mark and then continue renting it out for at least a year and no more than three years you would be able to claim the primary residence exemption for the first $250k and then do a 1031 exchange to defer the tax on the rest of the sale.

Ricardo Hidalgo · Answer

@Ryan Howell

If you're at 2 years, I would recommend a 1031 exchange. Can buy multiple properties if the proceeds allow you too and tax deferment. Buy in a new market or near an expensive area that is expanding. The wealthy will continue to build, buy and sell regardless of interest rates.

Sell and scale, or BRRRR?

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