All Forum Posts by: Andrew Crinnion

I agree with Greg San Martin, building an ADU on a property is a great opportunity. I am currently adding an ADU to my place in Walnut Creek and plan to rent it out short term (30 day minimum in my area) in part to try and avoid any potential long term tenant issues. My uncle has or had some rentals in the Oakland area and he always complained about them because of the rental laws and his inability to increase rent or remove tenants that were destroying the place.

I rented a place in San Francisco where the primary tenant was illegally subleasing out rooms and charging significantly more than he was paying to the home owner, all because it was a rent controlled unit. I understand the idea behind rent control and creating some stability for renters, but it seems like the laws in SF in particular aren't having their intended results. 

With that said if you're looking for a place to buy and build an ADU we should connect.

@Travis Moe

Sort of if you estimate your equity to be $650k right now, take out $60k for sales commission, and take out 24% (15% federal 9% state assuming CA) of your capital gain (sales price less your basis in the properties) assuming you don't do a 1031 exchange to defer the taxes due. Just for math I will assume taxes of $100k. So after you sell you would be left with $490k to redeploy elsewhere. So based on my approach of excluding commission and taxes your return on equity is 4.2%.

You can increase you return on equity if you take out more debt on your properties, because then you have less equity, your cash flow may decline aswell with the higher debt cost. You can use that debt to buy another property which will increase your cash flow. For me its all about balancing your goal, wealth appreciation (then you will want to maximize your leverage) or cash flow (reduce your debt load).

@Joe Villeneuve's examples illustrates the benefits of leverage. I think the same concept would work if rather than selling you refinance the property to bring your equity back down so you are maximizing your deployed equity into multiple cash flowing properties. 

If you are looking to sell that is great news. Just remember a 1031 is a deferral of taxes, while the homeowner exemption is an elimination of taxes. If you do the 1031 exchange it would need to be for another rental in which case you would lose your homeowner exemption. The only way to avoid taxes is death. 

I looked at Arizona for while for out of state rentals, but that was awhile ago so I forgot how the numbers looked. I also looked at Indianapolis, some of my friends invested heavily in that area and I believe they are doing well. Not that much appreciation in that market but had projected cash flow of $100-150 per month and cash on cash return of 7-10%. I eventually purchased a place in Portland Oregon, possible the second tenant friendliest laws but I am generating $500 cash flow a month. The current housing market in Portland is crazy, my place that I purchased at the end of 2019 for $390k is now worth $650k. If you are looking to invest locally maybe consider purchasing a place near you that is set up well to have an ADU added to it. I am having an an ADU built on my place in Walnut Creek, homes in my area are worth roughly $800 per sq ft and the budgeted cost of the ADU is $350 per sq ft. My plan is to do short term rentals (30 day minimum) to generate around $1k per month in cash flow.

I like your idea of doing an all cash purchase in these higher interest rate and volatile market times. 

@Kyle Nacci

I would look to sell. While the property manager can manage the day to day operations. Decisions about building maintenance will require both owners. What happens when one person wants to refinance, wants to replace the roof, the sewer lateral breaks (assuming just one for the building), etc. @Theresa Harris brought up a great point about how to allocate the value when you do eventually sell? 

Something else to consider is the complication when it comes time to file taxes as you will have to allocate expenses and depending on income levels an individual may be able to treat any resulting tax loss differently (higher income most likely has to defer any NOLs lower income might be able to utilize the NOL currently) which would impact the future capital gains calculation later. Again it could most likely all be spelled out in a contract and calculated but would be too much hassle for me. 

@Travis Moe

That math is correct. I like to take a look at my return on equity in combination with others (cash flow, return on cash invested, appreciation, etc.) to determine the health of my rental. I use my return on equity metric to determine if I am efficiently growing my investment, as a CPA I like to reduce my equity by taxes and closing cost because that is the amount of cash I would receive if you sold everything and deployed that cash somewhere else. You have to decide if 3.3% return on equity is sufficient for your investment goals, or could you sell everything and take the cash received and invest it elsewhere and earn a higher return.

Hi @Brian Cassanego

As Logan mentioned your return on equity is pretty low; however, there are ways to improve that without having to sell if you want to keep your SF condo and the passive cash flow going. I recently worked with PNC to take out a second mortgage on the equity in my home, I pulled out 85% LTV and locked in a 30 year fixed rate at 4.94%. I was in a similar situation as you, my primary mortgage is 2.5% fixed so I didn't want to lose that. As far as generating better cash flow, I am not sure you will find a place that generates more than $1k a month in cash flow.

You would need to take a look at the numbers to decide the balance between improving your return on equity and keeping the cash flow. I have helped my clients with similar analysis when they are deciding to rent out or sell their homes when they look to move to a lower cost of living area. Let me know if you would like to connect on this. 

If I was in your shoes, I would look to sell the SF condo. Renting in San Francisco makes me nervous given the tenant favorable rental laws and the potential for HOA special assessments and yearly increases outpacing rental increases could eat into future cash flow. 1031 is a great way to defer capital gains; however, depending on your basis in the property and whether or not you meet the requirements (have you lived in the property 2 out of the last 5 years?) you may be able to avoid paying capital gains tax on $500k of appreciation.

Hi Steve,

I do not believe it would be possible to leverage both options (deferral of capital gains and retaining property tax basis) because in order to qualify for a 1031 exchange the property must be held for productive use in a trade, business or investment. To quality the property must be owned by the taxpayer for at least 24 months immediately before and after the exchange and in each of the four 12 month periods, the property is rented to another person or persons at a fair rental for 14 days or more. So I believe you would need to rent the current home for 24 months and then complete the 1031 transfer and rent the second home for 24 months. However, in order to transfer your property tax basis the replacement primary residence must be purchased within two years of the sale of the original primary residence – either before or after the sale. 

I am sure there are more technical aspects that would go into both options but on its face it looks like a 1031 requires to hold the home for investment for two years but the transfer of property tax needs to be completed within two years. This article referenced an example of someone who converted a 1031 into a primary residence within 7 months, https://atlas1031.com/blog/hol... however, I couldn't find the case description. (Reesink v. Commissioner, TC Memo 2012-118 (April 23, 2012))

I would focus on avoiding the capital gains tax because that will be a much larger cost than the incremental property taxes on a newly purchased property. Maybe you use the rental from the primary residence to pay/offset the rental of a larger house? 

Hi Casey, 

Depending on the amount there would not be a tax impact. For 2022 the gift tax exemption is $16,000 per person; however, if the amount is above that don't worry there is still most likely not tax impact as the lifetime limit is $12m. Your lender might require a letter from your parents to document the funds as a gift otherwise they might not consider those funds when determining your ability to qualify on the loan. I did a similar thing when I purchased my home. 

This article does a great job explaining gift tax limits and implications, https://www.nerdwallet.com/art...

Hi Chris, 

I am a CPA (but don't practice individual returns) and based on my experience it would be hard to find that individual CPA practitioner that would be an expert in both fields. My mother has her own practice but doesn't like handling real estate returns because of the complexity. However, she does work with stock options and recently help a friend of mine when he exercised his options. I would focus on working with a CPA to help with planning around the potential IPO and understanding the potential tax liabilities that will arise, as that would most likely be the bigger dollars. Going to an accounting firm like a Baker Tilly would be the best bet to get the combination but would be expensive. I can connect you with someone a Baker Tilly if you are interested. 

In terms of real estate tax planning I would be happy to speak with you and provide some high level items to consider as you enter into the real estate investing market.

Hi Daniel, 

I was running into a similar issue when trying to finance my ADU in Walnut Creek. The options I discovered were;

1) Refinance my existing mortgage. Which wasn't an option because our primary mortgage is at 2.5% fixed. However, if you're willing to refinance, there are some ADU grant programs that will help cover up to $40k of the pre-construction cost (permits, utilities, etc.) for an ADU. Happy to connect and discuss further.

2) Second mortgage, I was pleasantly surprised by the rates offered by PNC for a second mortgage under 5.0% when we locked in, they call it a SHELOC. They had three options were we could pull out up to 80%, 85%, or all the way to 95% of the home appraised value. Discover also offers a second mortgage, there appraisal process was aggressively conservative. 

I have also heard of various construction loan options but I didn't look to far into this option as the second mortgage worked well for us.