Selling my SFR or Continue Renting

[Marc Cass]

Hi y'all, this is my first BP post and is kind of a two-part question (i.e. sell vs rent and selling without RE agent). I'm trying to gauge what the BP community thinks regarding a sell vs rent scenario. I currently own a single family residence in San Diego that I've been renting out for the last two years at $2,150/month (market is $2,300). All in expense (PITI) is $1,600/month. I purchased the property for 305k in 2010 and I believe it's currently valued around 515K. The current tenants are interested in purchasing the property so there may be reduced transactions costs in terms of RE agents. I'm still within the 2 out of 5 years for "primary residence" therefore avoiding cap gains on 250K for singles so I need to make a decision on sell or turn into a long term rental. My concerns are where to put the profit and future tax implications. If I sell, does it make senses to sell by owner since the buyers have already been identified? Any thoughts/insights would be greatly appreciated.

[Dan H.]

No way I pay a full realtor commission if I already have a buyer that is willing to pay approximately retail. However, without the buyer, I believe you get the best price using a realtor mostly because of the value of the MLS.

San Diego is my RE market of choice.  So I am familiar with rents versus values, etc. 

Here are some thoughts:

• Rent minus PITI is a long ways from actual projected cash flow as there are numerous other expenses.
• The fact that you meet the primary residence qualification to avoid taxes on gains must weigh into any decision.
• Retail SFR in San Diego do not cash flow at purchase. Another way to look at it is that your rent to value ratio is 0.42%. In more modest rent locations the ratio should be very close to 1% to have positive cash flow when investor financed (75% LTV). I believe 0.7% cash flows fine with the rent values of San Diego. However, 0.42% is a long ways from 0.7%. 0.42% is not a bad SFR ratio for San Diego SFR but it does not produce a decent cash flow for its value. The reason your cash flow is there is because your equity position is so great (virtually anything will cash flow if nothing is owed). What this really means is that you need rent and/or market appreciation to achieve a solid return on the equity.
• The high equity position, which is the only reason the RE is not negative cash flow, implies a low amount of leverage.  This is a safe approach but it will be a long outlook to produce significant wealth using this approach.
• Small multiplex in San Diego have better cash flow outlook than SFR.
• As indicated the return on equity has to be achieved via appreciation.  How confident are you of continued market appreciation?  How confident are you of continued rent appreciation.

Those are all things to consider.  If it were me I would sell because of the primary residence advantage.   Having a potential buyer and saving some selling costs is bonus.   I would use the money to purchase another local RE that has a better return on equity.  If it were not for the gain advantage, I would still leverage the asset better than you have it leveraged.  I will paraphrase Rich Dad, Poor Dad and say I want my money to be like soldiers that better come back with more money.  I do not want them sitting dead in unnecessary equity in a RE.

• 95% LTV cash neutral RE has a 5% appreciation year implies 100% return for the year. Add in that rent appreciation has a correlation with property appreciation and it implies the property likely is now cash positive with even a small increase in the cash flow having a big influence on the return due to the low amount invested.
• 50% LTV (approximately your case) cash neutral RE has a 5% appreciation implies a return of 10%. The rent appreciation hardly affects the return due to it being so small compared to the investment amount.

The power of leverage.

Good luck