Sell or rent our first home?

Question

Hey guys, looking for some analysis here. Bought our first house with a VA loan 2015, no money down and we're PCSing (moving under military orders) this July to another state. Purchased the house for 153k its now worth 185k, I owe 137k on it right now,  (appreciation and paydown). We listed the house for sale, but I'm having second thoughts.  Our current PITI is 950$ a month,  while rents in our neighborhood are 1300-1500$. I know insurance would go up and we have to account for management fees, but am I throwing away a good deal by selling or should I take the appreciation and run? There's no money down with the VA loan so the only money I have in this house is repairs I've done and loan pay down.  If there are any other numbers I'm not providing let me know and I'll add to it.

Jaysen Medhurst · Answer

@Lawrence Gillett, SELL. You're going to be cash flow negative on this property by ~($100) bucks if you get $1400 rent. I run my numbers a touch more conservatively than you, but not by much.

Take your $30-40k profit and invest in a MFR near your new home in NC.

@Chris Fincham, I was probably one of the folks that said you should sell! The problem I see with your property is that you're only getting a 4% Return On Equity (ROE). That stinks. You could do a lot better by redeploying that capital.

Stuart Grazier · Answer

@Lawrence Gillett I always lean towards keeping properties once I PCS if the numbers make sense, as holding real estate for long term will drastically increase your wealth over time. Here's how I run my numbers and feel it's very conservative. Let's just say you can get middle of the road rents at $1400 per month.

$1400 (rent)

- $950 (mortgage)

- $140 (property management at 10%)

- $98 (7% vacancy rate)

- $70 (5% maintenance)

- $70 (5% capex savings)

= $72 a month of positive income

My goal is at least $100 a month of positive income per door. You are close to this, and if you can save on any of these expenses (or increase the rent), you'll be there. The fact that you put zero money into it by using your VA loan is also a plus. The return on investment is infinite since you used zero of your own capital. My vote is to keep it and build your assets. Then go do it again at your next duty station. But this time, crunch the numbers like this before you buy so you can already make the decision ahead of time.

Hope that helps. Good luck!

Jaysen Medhurst · Answer

@Chris Fincham

ROE isn't the "end all be all" metric--no metric is. It's often overlooked because it isn't obvious. Also, in the beginning it's essentially the same as ROI and therefore conflated. But over time as you build equity through appreciation and mortgage pay down, your ROE goes down.

The purpose of periodically checking your ROE is to make sure your money is working as hard as it can for you.

I calculate ROE as Annual Cash flow divided by Total Equity. I don't take into account appreciation, depreciation, etc. I think Internal Rate of Return (IRR) is a better metric to consider when assessing total returns over time.

I am not a proponent of "holding just barely enough equity." I support responsible leveraging and being aware of the returns you get on your money to best inform decisions going forward.

There is no "magic number" for ROE. It depends on your current situation, investing strategy, market conditions, and alternate opportunities. For example, if you're only getting 4% ROE and the stock market returns 10% over time, then your money isn't working hard enough. At a minimum, I'd want my ROE to be beating the market average by a margin equal to or greater than inflation.

A primary residence is not an investment, so I don't think of it in terms of ROE. That being said, having access to the equity is important and useful. I would only refi when the rate differential made sense, to avoid an unfavorable rate adjustment, or to remove PMI (like with a FHA loan). Otherwise, I think a HELOC is a much better way to access equity at a lower cost and with less risk.

Chris Fincham · Answer

@Jaysen Medhurst

Chris Fincham · Answer

@Jaysen Medhurst, appreciate the perspective. I have some questions.

I'm interested in exploring more of this return on equity concept and why it should be considered the end-all-be-all as opposed to other metrics like ROI. My current ROI is 108%. I haven't been investing long enough to be a purist and enjoy the advantages that come along with owning a beach house I got for free. In all honesty, I'm holding out until I have a good 1031 plan. I'd like to be like you eventually and go 100% MFR for cash flow but I also need to find the balance between cashflow and building wealth.

I have seen a few methods for calculating ROE. Which one did you use to arrive at 4% for the property I referenced?

It seems like you're a proponent of holding just barely enough equity in a property so as to attain the highest possible ROE.

What is your advice to buy/hold folks and cash buyers who have paid off notes, millions in equity, enough cash flow to put their great grandkids through college... but an ROE that "stinks"? What's the magic number in which a cashflowing property turns into a waste of equity?

Would you also recommend a periodic cash-out refi on your principal residence because owning too much equity is not a good use of equity?

Chris Fincham · Answer

@Lawrence Gillett, I was at a similar decision point last year with numbers similar to yours.

I used the VA loan on a foreclosure after PCS'ing back to CONUS in '15. Bought a 2006 foreclosure for 141k at 3.25% and we lived there on the cheap, 7 minutes from the beach for 3 years. I EAS'd, took a job 1500 miles away, we had another baby, and a hurricane touched down on top of my neighborhood all in a 3 week time span. My situation called for a rushed decision so I decided to hang on to it even though we could have sold for 185k. I got a 25k insurance settlement which paid for a 30 year roof and a privacy fence covering almost half an acre. I have awesome tenants in a stable military market. A cash out refi wouldn't make a lot of sense considering my interest rate. Selling would result in a ~30k profit. CoC is 12%, cap rate is 8%, total ROI is 100%+... but it still only cash flows $100/mo on conservative margins.

Some would say this is a bad investment based on monthly cashflow but I think it depends on your personal tolerances and long term goals. I was advised to sell off the aforementioned property by someone on BP. I'm with @Stuart Grazier - run an analysis to determine if it could be a home run rental even if it isn't the most ideal monthly cashflow machine. I recommend you download a cash flow analyzer on BP's FilePlace and review your numbers a few years down the road.

Lawrence Gillett · Answer

@Theresa Harris The house in question is in south GA and we're moving to the middle of NC, about 7 hours away.  So too far to effectively self manage. Also there's an 81$ a month HOA as well, but atleast that includes lawn care.

Theresa Harris · Answer

How far away are you moving and how do you plan to manage the property?  If you have a good management plan, I'd be tempted to keep it if you don't need the money for your next place.

For insurance, call and get a quote. I know my insurance for rental properties is significantly less than my home insurance as you don't have to insure contents (other than appliances that come with the rental).

Lawrence Gillett · Answer

Only major capex is the HVAC, everything else is new,  hot water heater,  appliances,  house was build in 2002, tile floors, there is an HOA fee to factor in,  but that takes care of lawn care. Rent is anywhere from 1300-1500. The street I'm on all the horses are basically the same except furnishings and they currently rent between 1300 and 1500 based on the market when lease was established. At 1350 one neighbor has had 3 weeks vacancy in 3 years he's owned it.

Scott Passman · Answer

@Lawrence Gillett Your taxes will likely increase as well since it will no longer be owner occupied, but it depends on the state what kind of owner occupied exemption you get.  What kind of condition is the house in?  Do you foresee some major expenses in the near future such as roof, HVAC, siding etc?  You have an advantage of having lived in the house so you have a good idea on its overall condition and performance.  I would try to get a good analysis on what market rent would be, run the numbers, and then make a decision.

Sell or rent our first home?

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