I am 37 years old, married with four kids, and healthy. I bought an older 1970 Home in 2004 for $135K. I owe $85K currently on original conventional 5/1 ARM at 3% and Zillow has the home worth $175K, no HOA. I got married in 2005 and moved in. That home purchased in 1998 for $135K and was built in 1996. We owe $35K currently at 4% as conventional 15 year fixed. We are renting the 1970 home for $1200/month for 11 years and make about $7K profit annually from that. I refinished rental basement bathrooms in 2005 for about $10K. I replaced rental carpets in 2008 for about $2K. I renovated rental kitchen in 2013 for about $10K. The current rental tenants are moving out, rental has not been vacant for more than 3 months consecutively. The roof was new when I bought the rental. The only liabilities I have are two home loans. My income is $138K annual salary. I have $15K in checking, $5K in savings, investments of $280K in IRA, $25K in 401(K), $2K in a Roth IRA. My options are: refinance 1970 home/sell it and pay off $35K debt or continue as is.
There are a lot of numbers here, and for a complete financial picture, you might want to sit down with a fee-only financial planner in your area. However, to answer your specific question, “Refinance your rental, sell, or continue as is,” let’s look specifically at those numbers.
APR: 5/1 ARM at 3%
Things you should do regardless of your decision:
- Get a real estate agent’s expert. If you’re considering selling the home, you should get a true indication of the value from an agent, not Zillow. An agent should be able to pull comps and give you a true estimate.
- Do any needed repairs/projects. Every time you have a tenant move out, you should set aside some time for projects. What you ultimately do with regards to the project will depend on whether you’re prepping for sale or for another rental. For example, you might budget less to upgrade a bathroom for a rental than you would for a home you want to sell, so keep it in mind when you’re planning projects.
Let’s look at your options:
- Refinance: You can probably get a 30 year loan at around 4%. For a balance of $85K, you could expect to pay approx. $400 in P&I, in addition to your taxes & insurance. Not sure how this compares to your current monthly payment, but you should probably still be profitable. Also, if your 1970 home has been at $1200 per month for a long time, you might want to look at Rentometer to see if it’s time to raise rates. Keeping the house and locking in a low, long term mortgage is definitely a prudent choice, if you want to continue being a landlord.
- Continue as-is. As previously mentioned, your ARM will probably go up, and you may end up paying more than a 4% mortgage rate in the future, which might affect your cash-on-cash return. Least prudent option.
- Sell the rental. If you sell, you’ll probably want to see a tax professional to make sure you’re properly capturing the basis (total cost) and tax liability. Your improvements and any purchase closing costs could affect the basis, while any commissions & seller closing costs would lower the effective sales price. However, you’ll also want to account for any Section 1250 depreciation that you were eligible for over the past 11 years, since you’ll have to ‘recapture’ it and pay a flat 25% tax. However, if you sell anywhere near the $175K mark, and you’re tired of being a landlord, you should still make some money & be able to put it to use elsewhere.
Your decision on whether to refi or sell probably depends more upon your mindset than the strict cash-on-cash return. You should definitely sit down with a fee-only financial planner in your local area. A good planner will try to learn everything about your life, both financial & non-financial, then give you an objective opinion based upon what he or she thinks is in your best interest.
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