Sell or hold as rental?

Question

Hello BiggerPockets community!

I need a bit of help deciding if I should sell or hold one of my properties. This is a brand new manufactured home we are installing on a small lot about 10 minutes from our primary. The title will be eliminated on the home. We have done a few other similar deals prior to this and have sold all of them. We are interested in trying our hand at being landlords. This property seemed appealing as it is so close to our home.

We have about $250,000 in the property and could easily sell for $350,000. Alternatively we could finance the $250,000 on a 30 year loan at 3.85%. We should be able to get about $1800 per month in rent for this property.

My concern is Washington is pretty pro-tenant. I have heard rumors of a 2 year rent moratorium potentially happening here. On the flip side we have been having great appreciation in our area for years. We are also in an amazing seller's market.

Looking for opinions on what more experienced investors would recommend. Thank you!

Paul Balyoz · Answer

Hi Lisa, if you are able to finance everything you put into it ($250K), and assuming taxes & insurance on a monthly basis is around $150 total, then your PITI will be $1322. If you can rent it for $1800/month, that's pretty good, your cashflow is around $478/month (not counting other factors like repairs over time, portion of the year it's empty between tenants, etc.)  In my view, that's a pretty good cashflow.

Holding the property for at least 12 months before selling gives you a benefit -- if you do sell after that point, the tax you'll pay on the profit you made will be taxed at 15% tax rate ("capital gains") instead of your normal income-tax rate. At the end of the 12 months, you could also possibly re-finance the property since it will now appraise for at least $350K (hopefully) - you might be able to pull money out for other property deals, if doing so doesn't damage your cashflow too badly.

Since you put in $250K, and you're saying you can finance the full $250K, then you have "nothing in the property" - none of your own cash is locked in - which is great. Why not get some free monthly cash this way, it makes sense to do that. But if you had some cash locked in, let's say $50K because the bank would only finance 80% of the value, then you can measure your Return on Investment (ROI) as you receive cashflow - if you're clearing $478/month, that's $5736/year, which is 11% of of that $50K left in. This means in around 9 years you would get back all of your cash that was locked in. Over and over again, every 9 years or so. That's worth it.

Those are the two ways I measure whether it's "worth it" financially to keep a rental. how much cashflow (must be $300 or more), and how much ROI (10% or higher).  If you really can finance the entire $250K, then you have no cash locked in - that's Infinity ROI, can't get any better than that.  :)

Now, if you sell the property right away, it sounds like you will make $100K?  After paying taxes on that, closing costs etc., perhaps you're at 24% income tax rate, you'll clear approx $70K. Another question you can ask is, "what else can I buy and hold for $70K?" My answer is, there are properties in the mid west, such as Indiana, Ohio, and other states where you could buy the property outright for $70K -- no mortgage, so lower risk -- and get $800-1000/month rent. Now you're just paying taxes & insurance, so you're clearing maybe $700/month cashflow.  That's a better use of your money, however the "unknown" is management - it can be difficult to find a good management company, to operate a property far away from where you live. And that adds some cost to your cashflow that I didn't factor in here.

If you find a good management company, and research the areas, you may find a great area in which to buy a number of properties over time - all managed by the same company. That can make things simpler for you, when it works right. It sounds like you have a good system to generate cash & good rental properties, maybe now you need a system to find and hold properties that works for you.

It's a good idea to mentally separate the two halves of your work:  the "business" side: buy/fix/flip properties to generate cash, and "investing" side: buy and hold rental properties and other assets to build your cashflow.  In my opinion, separating your thinking this way helps you to not break the investing side with your business work - just let those rental hold properties keep generating cash, don't monkey with them too much, keep on working your business. The goal of the rental side is "keep the properties rented, in good shape, so the cashflow keeps flowing", while the business side is "buying and letting go of properties to generate cash" - two totally different ways of thinking. If you mix the two concepts, it can monkey with your cashflow pretty badly. (I learned this the hard way).

Curtis Bidwell · Answer

@Lisa Fryer. Your correct about being unfriendly to housing providers.  The last 2 years have been incredibly damaging and the legislative session that started this week promises to be the worst yet ... Here what’s on the docket:

SB 5139 will prohibit a housing provider from increasing rent or other charges for the first 6 months after the end of the Governor’s emergency eviction ban.  ·     After the first 6 months expire, housing providers are then limited to only increasing rent by 3% over the previous year’s consumer price index, for a subsequent 6 months, based on the rental rate as it was on March 1, 2020.  SB 5139 would seek to aggressively limit rent increases in a period where lawmakers have decided to prevent the enforcement of rental payments. Small housing providers are faced with a total lack of protections for large increases in property taxes, utility costs, and potential devastation of their credit with lenders.

SB 5160 also mandates that housing providers renew any rental agreement or month-to-month tenancy for 2 years after the end of the emergency period ends, unless the property owner sells the unit, or moves into the unit themselves.  ·     SB 5160 will prevent any eviction for nonpayment of rent that occurred during the COVID emergency period

·     SB 5160 requires any debt that is outstanding during the emergency period can be pursued in through collection actions only if the housing provider has offered a payment plan as defined in the bill.

·     SB 5160 mandates that all tenants have access to state funded counsel in an unlawful detainer, automatically seals court records, and increases the filing fee for unlawful detainers

These two policies will have a devastating effect on small housing providers who are already strapped financially from increasing costs and missing income in 2020. Many small housing providers are desperately searching for a way to have their units create income to pay taxes, utilities, mortgages, and keep staff employed.

Even if you choose to sell your home, CONTACT YOUR REPRESENTATIVES and voice your concerns!

Lisa Fryer · Answer

Thanks Curtis. I have heard of these proposed bills and will be contacting my representative. I am more risk averse so I would prefer to take my money and run. But my husband wants to hold as we both see the large appreciation potential of our area.

Account Closed · Answer

We have seen some pretty serious blowback here in Salt Lake County, Utah. We had one unit where the tenants didn't pay rent for at least six months and have left now with more than 10,000 in debt and damage. Seems this covid forbearance has given these particular types impunity for not paying.

I don't know anything about your area but for us as managers, we have to be extra careful as we screen applicants now.

Bill Rance · Answer

@Chris Bidwell I personally am not a fan of landlording or renting.  I think there are better ways to make more money and keep your investment safer.  What I would recommend for you is sell your property on Land Contract, assuming that is legal in WA.  If Not, any real estate attorney can draw up a mortgage and you act as the bank.  Much like the non-prime lending days there are plenty of people who want to own who can not qualify.  Since you are the lender you can determine the terms.  Come up with a deal they can perform on and you are comfortable with.  The stop paying, foreclose.  With Land contract it is as simple as a changing the locks.  Also Lease option.  Same concept here only you take a substantial deposit $10K plus and it is non-refundable.  Be creative.

Lisa Fryer · Answer

Yes Chris it is stories like this that give me serious pause becoming a landlord. Our state was tenant friendly to begin with and seems to be getting more and more so. But then again I have friends that are landlords and haven't had any problem collecting rent. So it's definitely a risk you take as a landlord.

As this is my first time as a landlord I planned to get a property management company to help find the tenant. I know screening is the most important part. It's worth the extra money to me to make sure that process is followed as best as possible.

Not only that but I will plan to have large cash reserves as well just in case the worst happens.

Lisa Fryer · Answer

Thank you Paul! This is exactly the kind of analysis I was needing help with. I anticipate property taxes and insurance might be more around $250 a month but that still leaves me with decent cash flow. I don't anticipate any capital expenses anytime soon as it is a brand new home so that helps.

I'm sure I could get better return if I invested out of state but I don't feel confident enough in that yet. I like that this property is just 10 minutes from our primary so we can keep tabs on it that way.

That's a great idea to keep two different mindsets on the different sides of the business. We have gotten fairly comfortable with the business model we have developed to generate cash. Now to work on the rental side.

Thanks again for your response and assistance with the analysis. It was so very helpful!

Lisa Fryer · Answer

After quite a few phone calls I was able to find two banks that would do portfolio loans on a manufactured investment property. Both Key Bank and Timberland Bank will do them. Of course the rates are higher but not as bad as I would have expected.

Adrian Chu · Answer

Manufactured homes (even on their own land) can't qualify for conventional loans as an investment property. Do you have a portfolio lender who can do this?

Sell or hold as rental?

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