Should I sell it or keep it?

November 16, 2007 3:45 PM

Looking for some financial advice re: real estate. Lengthy explanation inside

I will be seeing a real estate lawyer for transactions. I'm asking for advice, and will weigh it. I'd just like some help thinking it through. Even typing it up will help with that.

I own and occupy a 2 family house in a neighborhood that is increasingly commercial with more traffic, and less neighborhood feeling. Mortgage is down to <20% of the value, @ 10 years remaining, rate below 5%. Rental unit covers the mortgage, taxes, insurance. It's near schools, university, shopping, bus lines, major park/recreation. The interior has some real period charm. It's built on clay, and continues to settle and shift so the walls have cracks, and the doors are wonky. The structural engineer says, "It's not going to fall down. It will keep settling." Built in 1910, it always needs maintenance.

I am buying a small country house not too far away. It will need some repairs, the never-ending home maintenance, and it would be very nifty to renovate. The rental of the unit I now live in will contribute to the new mortgage, so it's affordable. The more I think about continuing to own rental property, the more discouraged I feel. A friend with good financial cred says I'm nuts to sell the 2 family house - to hang on to it. Real estate in my area is less unstable than most of the rest of the US.

Pros of Selling: It seems like it could be a good idea to sell now, before the market tanks completely.
No More maintenance, finding tenants, painting.
Frees up equity for new house renovations, and paying down mortgage. Living mortgage free is a goal.
Rents are softening.

Cons of Selling: If I sell, I have to pay capital gains tax. (15% of 1/2 the increase because 1/2 the house is considered commercial).
I might decide living in town is better than the country, and it's still a pretty nice place.
I'm @ 15 years from retiring. It would be paid off and would provide steady cash flow.

I recognize that I'm lucky as problems go, this is not so bad. Thanks for the advice.

posted by Mom to work & money (13 comments total)

Get a home inspection from a tough inspector and then decide. These homes CAN turn into money pits-on the other hand some of these older homes are built quite solidly and will do well with timely regular maintenance.

OTOH dealing with renters can be a royal pain in the patootie. I myself would rather give up that hassle even if I also gave up the cash flow. But that's just me. (I used to work in a rental department and oy do I have horror stories.)
posted by konolia at 4:18 PM on November 16, 2007

I have been a landlord in the past, and when it goes bad, it can be really bad--evicting my last tenants took months and cost me thousands, and they also took "revenge" by leaving the place in terrible condition.

I'm with konolia, that I cannot imagine any circumstance in which I would ever be willing to be landlord again. Of course, you are _already_ a landlord, so none of this is news for you.

But remember, too, that financial decisions are never just about the money--emotions and preferences play into them as well. You say that you feel discouraged at the thought of continuing to own rental property. You'll be in good financial shape no matter which choice you make. Sell.
posted by not that girl at 4:25 PM on November 16, 2007

i can't give you financial advice, but peace of mind is worth a heck of a lot. if this is going to become an albatross for you, sell.
posted by thinkingwoman at 4:32 PM on November 16, 2007

I would hire a management company and keep it. I own a multifamily that I live in and its been pretty awesome and if one unit covers your mortgage, then to me it seems that it would only make sense to keep it.

Are you sure that half is considered commercial? Mine isn't. I would look into whether or not you would really have to pay the capital gains portion.
posted by stormygrey at 5:06 PM on November 16, 2007

If you're going to list capital gains, you should probably also list the closing cost, escrow fees, RE commissions, etc., which can add up to a tidy sum.

I think a lot - maybe everything - depends on what price you could get for the place. You seem to have a number in mind, which helps. If the market hasn't tanked yet, that means you're in a relatively desirable market, "in town." I think that long-term, people need houses and the U.S. population is still growing (it's predicted to hit 400 million by 2050.) To me that means that houses will continue to be valuable. I think over the long run - not necessarily 2 years, but 10 or 20 or definitely 30 years - a property like this, that's already paying its own mortgage, taxes and maintainance, is a can't-lose proposition.

One other thing to consider: Do you have kids, Mom? If you do, you're picking the pocket of their inheritance if you sell now. If you leave it to them, the capital gains basis is erased when they inherit.
posted by ikkyu2 at 5:07 PM on November 16, 2007

increasingly commercial with more traffic, and less neighborhood feeling.

To me, that says you may have gotten all the appreciation you're going to get, better to sell it now and reinvest.
The cap gains tax doesn't sound like that big a deal -- if your gain is 50% of the selling price it's under 4%. Technically you can avoid the tax if you find the right buyer and do a tax-free exchange. (Buyer purchases the property you want to reinvest in, then you swap.)
posted by beagle at 5:18 PM on November 16, 2007

If you plan to sell eventually, waiting means you will eventually pay capital gains on all of it.
posted by yohko at 5:43 PM on November 16, 2007

There is nothing magical about a real estate investment over any other kind of investment. There is no guarantee that it will perform better and there is a good chance it could perform worse. If you no longer want to be a landlord, sell the property and either invest it in mutual funds or use it to pay down your new mortgage. Mutual funds can generate just as much cash flow as property and with a lot less hassle. I wouldn't let a 7.5% capital gain stop me. The gain is only the amount above the original purchase price minus the selling expenses.
posted by JackFlash at 1:37 AM on November 17, 2007

There is nothing magical about a real estate investment over any other kind of investment. There is no guarantee that it will perform better and there is a good chance it could perform worse.

I don't agree. Let's look at an example. If you buy stock in a company with a highly speculative business model - say, a company trying to bring a new, untested technology to market - you can lose all the value of your investment. This doesn't happen with a desirable piece of real estate in a busy town. That piece of real estate's value will never drop to zero.

It is often said that the above scenario is equivalent to the situation where you buy a house for $400,000, take out a $320,000 mortgage, and then the value of the house drops to $300,000, leaving you in the hole. But this is not a good analogy for buying stock. The better analogy would be to buying stock on margin. Everyone admits that buying stock on margin is hugely risky. However, because of the nature of real estate and its historical excellent performance as an investment, buying real estate on margin is the accepted practice and this practice receives heavy government subsidy.

Until the government starts subsiziding buying stock on margin, I'll continue to endorse the idea that investment in real estate is "magical" compared to other kinds of investment. This point is particularly relevant to the original poster, whose mortgage payments and maintenance are being covered by the income from the property.
posted by ikkyu2 at 12:35 PM on November 17, 2007

Keep it. When you're old, you'll be able to rely on 2 big-ticket assets instead of just one.
posted by growabrain at 2:03 PM on November 17, 2007

ikkyu2: Until the government starts subsiziding buying stock on margin, I'll continue to endorse the idea that investment in real estate is "magical" compared to other kinds of investment.

But if you look at the OP question, the home is nearly paid off. There is little margin there. It is just illiquid equity. The home may appreciate at the rate of inflation. Even if they are lucky enough to net 5% of the home's value in rent, they would be better of in equities. Let alone the hassle factor, depending on how they value their time.

If you work through the numbers, there is little magic there. If real estate were such a sure thing, everyone would own two or three homes instead of mutual funds, like those guys in the Hawaiian shirts wearing all the bling on the late night infomercials. Some people do make money in real estate but it is hard work and not a sure thing. It's certainly not magic.

ikkyu2: If you buy stock in a company with a highly speculative business model - say, a company trying to bring a new, untested technology to market - you can lose all the value of your investment.

That's a bit of a strawman. What fool would do that? Margin interest is deductible the same as real estate investment interest. There's no magical subsidy there. I'm not convinced that borrowing on margin is any more risky than borrowing to buy investment real estate. You can easily get burned on both. Just talk to the folks in South Florida.
posted by JackFlash at 3:00 PM on November 17, 2007

Thanks, everyone. I'm still not sure what I'll do, but your answers have helped me see it more clearly. I got a fierce inspector for the new place, which was good, and I think I need to talk to somebody about the tax implications.
posted by Mom at 10:20 PM on November 18, 2007

I would talk to a 1031 exchange service before you sell. You could possibly save on those taxes.
posted by jonathanmartin at 11:56 AM on November 23, 2007