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Is Renting an option to Selling?

I purchased a home in 1999 and lived in it for 10 years.  When my job promoted and relocated me to another city & state (2009), I turned it into a rental property and finally sold it in 2020.  I went through the gauntlet of a 1031 exchange and being that I couldn’t find a suitable property to complete the 1031 exchange, I decided to do the capital gains tax and, in the end, did very well.  If you want to discuss renting as an option, just give me a call, send me a text or email and I would be happy to help you…No charge for advice!

Where will you live next?

Excellent question!  You’ll need to develop a plan on where your next home will be and how that will work financially.  That’s a whole different conversation and something that is very unique for each family.  Let me know if you want to discuss this.  It could be that selling your property is the best next step for your family.

Let’s take a look at the basics to renting:

The Right Tenant

This one element is more important than most people give it credit.  A good tenant that pays in full, on time and takes proper care of your property can make your life so much better and easier.  A bad tenant can be stressful and costly.  There are ways to do background checks, credit checks and you can call past landlords to verify your potential tenant’s history.  After you’ve found a good candidate, it’s worth spending a few dollars to do these checks so you will be making an informed decision.

Cash Flow – Positive or Negative

You’ll want to investigate if renting your home will cash flow positive or negative.  Meaning will the monthly mortgage payments and expenses be less than the monthly rental income.  If the answer is yes, is that amount of positive cash flow acceptable to you and your family.  If not, you could still consider proceeding with the rental on several important presumptions:

  • Rents will probably increase, putting your rental in a positive cash flow position sometime in the future.
  • Your tenant will be paying off the majority (if not all) of your monthly mortgage and you will be supplementing the expenses with your own money.  Being that you could be enjoying the tax benefits on those expenses, you may still want to proceed with renting.
  • If your property increases in value, you also gain that equity in your portfolio.

Income

  • This part is easy – basically it’s the monthly rent you receive from the tenant.  You include the rent payments as income on your taxes.  Not to worry, you’ll have tax write offs to offset the income.
  • Most important, it’s also very cool to have your tenant paying your mortgage while you get the tax write offs and gain equity in the home.  Eventually, the property is paid for by tenants and you can re-fi and start another investment property or upgrade to a bigger house for your family to enjoy.
  • You’re probably asking, “What’s the fair market rental price on my home?”  Here’s the link to my website:  https://reno-sparks-realtor.com/reno-real-estate-investor/
    • At this time, 07/22/2022
      • The average 3 bedroom, 2 bath home is renting for $2,395/month.  Keep in mind that is an average for most of Reno, so based on your home’s locations, condition and upgrades, you could get more or less.
      • The average 4 bedroom is getting $2,800-$2,900/month.
  • Short Term Rental (STR) – that’s the term for an AirBnB or VRBO.  Basically, the owner furnishes the home and you rent it out by the day and can collect excellent rents overall.  Unfortunately, our HOA’s (Stonefield) doesn’t allow that type of rental and you could be subject to stiff fines if you go down this road.
    • Word of caution, don’t mess with the HOA, in the eyes of the state, HOA’s are at the top tier of priority.  If you were to default on your mortgage, have liens on your property from contractors and/or owe the HOA fines and back payments, when you sell your house, the HOA is always paid first.
  • Long Term Rentals is what you can do with properties here in Stonefield.  Once the long term lease is fulfilled, you can go forward with that same tenant on a month-to-month basis or have them sign a new lease.  If you choose to go to a month-to-month basis, it is based on the same terms and conditions of the most recently signed lease agreement.  Be sure your contract/lease states you can increase the rent at the discretion of the owner with __ days’ notice.  I’ve seen 60 days most often.

Expenses:

  • This is a big category, and you’ll need to keep exceptional records as there are lots of different expenses with varying tax benefits:
    • Mortgage Interest
    • PMI – Private Mortgage Insurance (hopefully you don’t have this anymore)
    • Home Hazard Insurance
    • Home Warranty Insurance – Generally, rental investors really like this service. I’m a bit indifferent on the subject.
    • Property Management (this is optional and a whole additional newsletter)
    • Property Taxes
    • HOA – Yep, if you’re paying the HOA fees, you can write off the HOA fees on your taxes
    • You’ll want to set aside a fund for vacancy periods (times when you’re in-between tenants and not getting any income).  Most investors will use a 3% rule of the monthly rent.
    • Repairs and capital improvements (I would recommend 3% to 5% of monthly rent) to be set aside each month.

Utilities/HOA:

  • Who pays for the utilities and HOA?  Basically, you can have your tenant pay for all utilities however, you need to be careful as some utilities will charge late fees and can place a lien on your property if the payments fall behind.   As the owner you can charge the tenant a fee for utilities and keep the services in your name.  Then you can adjust the tenant fee as needed, however, that’s a lot of work.  I suggest you keep it simple and write into your contract that the tenant is responsible for all utilities including…and if the tenant falls behind in payment of utilities, they are responsible for all late fees, penalties and can be subject to eviction.

Contracts/Leases:

  • Another very important area.  I have access to a few versions of Nevada approved leases (as all realtors do) and can provide you with copies that can be edited. There is no law in Nevada that says you can’t manage your own rental property.  Yes, it does take some effort and you’ll need to learn the laws to be sure you’re not breaking any.  I had a Property Management (PM) company manage my rental for the first few years and then I self-managed the property there after.
  • The other option is to hire a PM Company.  Be ready to pay them 8-12% of the monthly rent and to sign a 1-year agreement.  Read the contract carefully, services will change with each company.
  • My personal experience with PM’s is that they are good and bad.
    • The good news – They provide the contracts, screening, and processing of monthly payments.  You’ll probably never have direct contact with the tenant.
    • The bad news – They aren’t always responsive to the tenants needs, i.e., non-working appliances or things in need of repair.  That can create an unhappy tenant and my theory has always been, a happy tenant will take better care of your property than an un-happy tenant.
  • One more note here – Deposits:
    • Deposits must be held in a non-bearing interest account
    • At this time, you can charge up to the equivalent of 3 months’ rent.  However,  a deposit of 1.5 to 2 months’ worth of rent is more appropriate today.
    • Landlord can charge a non-refundable pet deposit up to 2 months rent. Or you could have a no pet clause, however, that’s hard to enforce and it narrows the field of potential renters. The going rate is $500 per pet and the landlord can have a stipulation on the size of the pet(s).

Selling a Rental Property:

  • This in itself is a whole additional multi newsletter topic.  You can read a lot about this subject in a google search or you can also go to the biggest website on real estate investing:  www.biggerpockets.com. Fair warning my friends and neighbors, this website is huge and finding what you’re looking for can be difficult.  Use the search bar and keep the search down to a minimum number of words. What’s also great about this website is that it is filled with thousands of professionals that give free advise (in the forums and blogs) in hopes of winning your business.  With that thought, I can also be a resource for you as well…lol.
  • The basic overall, is that Uncle Sam want’s his share of any major profits you gain in an investment.  So be ready for taxes to take a bite out of your profits if you want to cash in on your rental investment.  With that being said, there are some exceptions:
  • If your spouse passes away and you are both on the title (classified as joint tenancy) of the property, the property is covered in a “Step-up in Basis” clause.  This applies to states that observe common law property (which Nevada is).  Basically, the property value is moved to the current market value when your spouse passes.  The new market value is considered what you purchased the property for, thereby eliminating or reducing your capital gains.
  • The second clause is when you and your spouse both pass, your children (or heirs) receive the property at the current market value when you both passes.  That can eliminate any capital gains tax for them.
  • The third option to silence capital gains tax (temporarily) is to do a 1031 exchange.  Basically, you have 45 days from the date you close on the sale of your property to designate up to 6 properties that you are considering to purchase to use all of the proceeds.  You then have 6 months to close on one or more of those properties.  If you succeed in the purchase and use all the proceeds from the sale of your property, you don’t pay any capital gains.  If you use a part of the proceeds the balance is subject to capital gains tax.  If you fail to make a purchase, you will be subject to capital gains on the appropriate amount.
  • Exceptions to the exceptions – Thank you IRS for the confusion.  A couple of things that can change the above:
    • Clauses in a Trust
    • Pre-nuptial, Premarital and Post marital Agreements
    • Tenancy classifications that would eliminate the above

A living Trust/Will and Last Testament

  • Whether you choose to do a rental investment or not, I highly recommend you establish an appropriate trust and will.  Not doing a trust or will is almost guaranteed to open a pandora’s box of arguments, legal battles and a large portion of your assets being lost to lawyers, court fees and in the end, not going to the person(s) that you want your hard-earned assets to go to.  I’ve witnessed this in person, too many times.

Disclaimer:

You should consult a real estate lawyer and tax professional that is licensed in our state.  I am not a real estate lawyer or tax professional and offer this advise on the basis of my personal experience and studies in these areas.  You should also be advised that real estate and tax laws do and will change through the years.  That is why hiring a licensed professional will help you to stay current on all laws and regulations.

Tax laws have changed in the last few years with the new increase in the standard deduction.  Each family’s tax position is different, so you’ll want to talk to a tax professional to discuss your present tax position and see how much a rental investment will be of benefit.

Also, real estate investing is like all investments, they carry a certain amount of risk and are vulnerable to economic changes.  There is no guarantee that a real estate investment will be successful.

Final Thoughts:

Let’s say you’re a couple just starting your lives together.  You have a baby that is now the center of your universe.  In one of the best real estate investing books, they advise that if you make a wise purchase of a rental property when you child is born, by the time your child is ready to go to college (18 years later), you will have amassed enough equity in the rental home that it could pay for your child’s complete college tuition.  Imagine that a tenant is paying for your child’s college tuition, or funding your retirement with their monthly rent payments, or being the first domino of a whole portfolio of rental properties.

One of my clients taught his young son the power of real estate rental investing and at age 25 he now owns over a lot of properties and is on track to buy 2 new properties every year.  Just to reduce his tax burden.

90% of all millionaires have real estate investments in their portfolio.  Like all investments, you must do your homework and make wise choices and if done properly, it can change the directly of your life and your family’s future.

Renting is a great option to Selling if you’re in the right position, willing to do the work and make wise choices.  I hope this article opens options to you and your family.  I’m available to answer your questions and help you with your real estate needs.

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