know when to hold em?
November 9, 2012 9:34 AM Subscribe
Ways to mitigate renting underwater property at a loss?
Bought a condo in NV during the bubble as our primary residence - currently owe let's say 150k, recently refi'd to below 4% (FHA). Nine years later, comps sell for $50k and the community has a 30% foreclosure rate and a high proportion of renters who make continuing to live in the condo undesirable.
Our monthly costs run around $1000 (not taking into account potential rental property insurance or other management costs). We could rent the place for $800 at the most. We are not at all eager to be landlords.
We do not have any hardships to justify a short sale. Have only very modest cash reserves, student loans and a small car loan but no substantial consumer debt.
Are there any tax benefits to renting for a loss? Are there other strategies that you would recommend? YANML and we intend to consult one. Thanks for any insight!
Bought a condo in NV during the bubble as our primary residence - currently owe let's say 150k, recently refi'd to below 4% (FHA). Nine years later, comps sell for $50k and the community has a 30% foreclosure rate and a high proportion of renters who make continuing to live in the condo undesirable.
Our monthly costs run around $1000 (not taking into account potential rental property insurance or other management costs). We could rent the place for $800 at the most. We are not at all eager to be landlords.
We do not have any hardships to justify a short sale. Have only very modest cash reserves, student loans and a small car loan but no substantial consumer debt.
Are there any tax benefits to renting for a loss? Are there other strategies that you would recommend? YANML and we intend to consult one. Thanks for any insight!
Have you talked to a real estate lawyer about a short sale? You'd be surprised at what can qualify as a hardship. (I could have written your question and I'll be interested in seeing the responses. I feel your pain.)
posted by PorcineWithMe at 9:49 AM on November 9, 2012
posted by PorcineWithMe at 9:49 AM on November 9, 2012
Best answer: According to the IRS, you can deduct real estate rental losses on properties in which you actively participate up to $25,000, depending on your filing status and adjusted gross income. More info here.
posted by kindall at 9:50 AM on November 9, 2012 [2 favorites]
posted by kindall at 9:50 AM on November 9, 2012 [2 favorites]
Would it pencil out better if you rented it to visitors via AirBnB (or equivalent) instead?
posted by carmicha at 9:52 AM on November 9, 2012
posted by carmicha at 9:52 AM on November 9, 2012
your rental costs will be at least $3,600 per year considering rental operating expenses (look up the 50% rule). If you chose to hold, your costs would go up to a minimum of $12,000.
I suggest that you look into swapping the property for a place that is more desirable for your family to live. Craigslist, Pennysaver ad, local paper, for-sale-by owner listings are all ways to find places and make an offer.
posted by parmanparman at 9:55 AM on November 9, 2012
I suggest that you look into swapping the property for a place that is more desirable for your family to live. Craigslist, Pennysaver ad, local paper, for-sale-by owner listings are all ways to find places and make an offer.
posted by parmanparman at 9:55 AM on November 9, 2012
You could get involved in the condo association in order to help raise standards so that it's a better place to live. Property value only matters when you sell.
posted by rhizome at 10:02 AM on November 9, 2012
posted by rhizome at 10:02 AM on November 9, 2012
As far as I know, federal only lets you take tax deductions if you're actively managing it (i.e. as a job). kindall's link probably has relevant info.
"Hardship" for short sale is probably easier to qualify than you think it is. I have a friend who was approved for short sale (though they haven't actually sold yet) even though they have enough to keep paying the mortgage.
Currently, there is a tax cut for people who make foreclosure/short sales in that the part of the loan that's forgiven (~$100k in your example) does not need to be taxed. This deduction might go away in 2013, and you'd need to pay tax on the "canceled debt" as if it were your income. So right now, you probably wouldn't be taxed, because of the "The Mortgage Forgiveness Debt Relief Act", but short sale takes so long that you may need to when the condo actually sells.
posted by ethidda at 10:06 AM on November 9, 2012
"Hardship" for short sale is probably easier to qualify than you think it is. I have a friend who was approved for short sale (though they haven't actually sold yet) even though they have enough to keep paying the mortgage.
Currently, there is a tax cut for people who make foreclosure/short sales in that the part of the loan that's forgiven (~$100k in your example) does not need to be taxed. This deduction might go away in 2013, and you'd need to pay tax on the "canceled debt" as if it were your income. So right now, you probably wouldn't be taxed, because of the "The Mortgage Forgiveness Debt Relief Act", but short sale takes so long that you may need to when the condo actually sells.
posted by ethidda at 10:06 AM on November 9, 2012
One thing you should check into.
Many condos have an item in the covenant that says only a certain percentage of the condos can be rentals. So review your docs to see if there is such a restriction.
I'm with ethidda, don't rent it, ditch it if you can. What happens if the condo does an assessment?
Out is out.
posted by Ruthless Bunny at 11:13 AM on November 9, 2012
Many condos have an item in the covenant that says only a certain percentage of the condos can be rentals. So review your docs to see if there is such a restriction.
I'm with ethidda, don't rent it, ditch it if you can. What happens if the condo does an assessment?
Out is out.
posted by Ruthless Bunny at 11:13 AM on November 9, 2012
The only reason to rent it is if you think the selling price will rise later, meaning that you will lose some money in the short run but make money* in the long run.
You can't know the final selling price of course, but you can make some reasonable and even unreasonable guesses and determine for which scenarios it makes sense and for which it doesn't. But don't just guess, run the numbers and see how it actually works out.
Just for example, if it turns out be profitable for you to keep the condo for five years if it sells for $75K at that point, this is perhaps within the realm of plausibility. But if you're expecting/hoping for the condo to be $100K or $125K or $150K before you even turn an overall profit--we'll that may not be a wise expectation.
*And the value of the property is $50,000 (or whatever it's current, actual, saleable value is) and calculate any profit or loss from there, not from $150K. If you always have the $150K in mind as a 'target price' you're going to make bad decisions. Figure out what the actual value is now and figure out how you can maximize profit from now going forward and work from there. It's possible that real estate is at a low point and is an excellent buy right now, but it's also possible it would be better to take your $50K out and put it in the stock market. It's also possible that $50K in real estate would be an excellent investment right now, but $50K in your particular condo is not a good investment.
Any way around, think of it as an investment and what is the best way to maximize it, not How can I get my $150K back.
posted by flug at 12:47 PM on November 9, 2012 [3 favorites]
You can't know the final selling price of course, but you can make some reasonable and even unreasonable guesses and determine for which scenarios it makes sense and for which it doesn't. But don't just guess, run the numbers and see how it actually works out.
Just for example, if it turns out be profitable for you to keep the condo for five years if it sells for $75K at that point, this is perhaps within the realm of plausibility. But if you're expecting/hoping for the condo to be $100K or $125K or $150K before you even turn an overall profit--we'll that may not be a wise expectation.
*And the value of the property is $50,000 (or whatever it's current, actual, saleable value is) and calculate any profit or loss from there, not from $150K. If you always have the $150K in mind as a 'target price' you're going to make bad decisions. Figure out what the actual value is now and figure out how you can maximize profit from now going forward and work from there. It's possible that real estate is at a low point and is an excellent buy right now, but it's also possible it would be better to take your $50K out and put it in the stock market. It's also possible that $50K in real estate would be an excellent investment right now, but $50K in your particular condo is not a good investment.
Any way around, think of it as an investment and what is the best way to maximize it, not How can I get my $150K back.
posted by flug at 12:47 PM on November 9, 2012 [3 favorites]
Response by poster: Appreciate the reality check and suggestions very much, thanks! Looks like we need to work on reconciling the logical analysis with our civic values...
posted by sweet Annie Rich at 1:16 PM on November 9, 2012
posted by sweet Annie Rich at 1:16 PM on November 9, 2012
Best answer: federal only lets you take tax deductions if you're actively managing it (i.e. as a job)
Just the opposite, in fact -- this is very misleading. (Yes, I understand the problem most people have with getting the active/material/passive jargon right.) Most real estate investing is considered a passive investment activity. If real estate is your job -- as a broker, agent, or other professional -- you are potentially subject to the active participation rules. For passive investments, which is what the OP is presumably going to be classified as (the rules have been significantly relaxed after 1986), not only can you deduct the first $25K, anything over that is a carryover that you can add to your losses in the next year.
Speaking as a landlord, you will only know if the numbers work if you sit down with someone who can help you do the actual numbers. An actual negative cash flow is not a great thing to have on your shoulders -- but then neither is a short sale loss. The nice thing about real estate -- which is why it's a popular investment -- is that the losses can offset other income, e.g. if you have a small business or a salary in one of the higher tax brackets. You'll need to show someone your cards and just lay it all out and decide if the long-term burden is worth it.
Say you rent someplace else at $800, and rent this at $800. That should be slightly more than your mortgage. You'll have property taxes, condo assessments, and other expenses, so your total annual expenses might be around $15K, but net income (assuming almost all your mortgage payments in the first year or so is interest) will only be $10K, for a $5K overall loss. The kicker here is depreciation, which for rental real estate uses MACRS straight-line 27.5 year method. So you can additionally write off 3.6% of the $150K, or essentially $5K annually. That's $5K+$5K=$10K you get to shave off your household income, and figure a typical marginal tax of around 30%, so you'll save $3000 -- or roughly four months of what your own rental expenses (not counting utilities, etc.) will be. Is that worth it to you? Like I say, sit down and run the numbers.
To look at it another BOTE way, this mortgage will cost you probably $250K over 30 years, and you'll be able to realize $350K in rent (average annual increase of 2.5%) combined with $100K of life-of-loan interest write-off and $150K of depreciation, not to mention some $50-75K of tax savings against your regular income. It's potentially worth it in the long run, but you don't apparently want to be in it for the long run.
To look at it in the short run, say five years, you'll have reduced your loan principal by just $15K, and you'd have to hope that your condo's market value will at least come up by halfway to between $100-125K to really break even. If breaking even is important to you, that's the MINIMUM commitment to this arrangement you'd have to make.
There's one more consideration for tax purposes I can think of and that's the capital gains exclusion.
posted by dhartung at 4:30 PM on November 9, 2012 [1 favorite]
Just the opposite, in fact -- this is very misleading. (Yes, I understand the problem most people have with getting the active/material/passive jargon right.) Most real estate investing is considered a passive investment activity. If real estate is your job -- as a broker, agent, or other professional -- you are potentially subject to the active participation rules. For passive investments, which is what the OP is presumably going to be classified as (the rules have been significantly relaxed after 1986), not only can you deduct the first $25K, anything over that is a carryover that you can add to your losses in the next year.
Speaking as a landlord, you will only know if the numbers work if you sit down with someone who can help you do the actual numbers. An actual negative cash flow is not a great thing to have on your shoulders -- but then neither is a short sale loss. The nice thing about real estate -- which is why it's a popular investment -- is that the losses can offset other income, e.g. if you have a small business or a salary in one of the higher tax brackets. You'll need to show someone your cards and just lay it all out and decide if the long-term burden is worth it.
Say you rent someplace else at $800, and rent this at $800. That should be slightly more than your mortgage. You'll have property taxes, condo assessments, and other expenses, so your total annual expenses might be around $15K, but net income (assuming almost all your mortgage payments in the first year or so is interest) will only be $10K, for a $5K overall loss. The kicker here is depreciation, which for rental real estate uses MACRS straight-line 27.5 year method. So you can additionally write off 3.6% of the $150K, or essentially $5K annually. That's $5K+$5K=$10K you get to shave off your household income, and figure a typical marginal tax of around 30%, so you'll save $3000 -- or roughly four months of what your own rental expenses (not counting utilities, etc.) will be. Is that worth it to you? Like I say, sit down and run the numbers.
To look at it another BOTE way, this mortgage will cost you probably $250K over 30 years, and you'll be able to realize $350K in rent (average annual increase of 2.5%) combined with $100K of life-of-loan interest write-off and $150K of depreciation, not to mention some $50-75K of tax savings against your regular income. It's potentially worth it in the long run, but you don't apparently want to be in it for the long run.
To look at it in the short run, say five years, you'll have reduced your loan principal by just $15K, and you'd have to hope that your condo's market value will at least come up by halfway to between $100-125K to really break even. If breaking even is important to you, that's the MINIMUM commitment to this arrangement you'd have to make.
There's one more consideration for tax purposes I can think of and that's the capital gains exclusion.
posted by dhartung at 4:30 PM on November 9, 2012 [1 favorite]
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posted by parmanparman at 9:48 AM on November 9, 2012