5 Tips to Turn Your Residence in to a Rental and Buy Another
If the house you live in has plenty of equity and your neighborhood appeals to renters, then renting your home while living in another house may make financial sense. Learn the factors that will make the venture successful.
Knowing your reason for making the move is mission-critical. Your residence may be too large or small, or you want to delve into real estate investing using the equity in your existing home.
Understanding how to make it work so you can cover expenses and realize financial profit is the dollars and cents step. Strong emotional ties may connect you to your current address and you want to keep it in the family. Or you can let it appreciate and then sell it to cover future money needs. But if the cost of owning two homes cannot work then it is best to not move forward.
Know Your Why
Welcome to the world of real estate entrepreneurship. Renting out your existing home while buying a new one is both a personal financial decision and a business decision. You become a landlord, even if you’re renting to someone you know.
In Southern California, renting out a single family home in most neighborhoods from San Diego to Los Angeles can generate from $2,200 a month to nearly $4,000 a month. That’s a substantial part-time income using an existing asset.
There are ups and downs in any business and your Why must be strong enough to handle a potential major repair, missed rental payments, and the cost of cleaning again when the tenants move out. Know your goal and stay focused on it.
Know Your Financial Position
Real estate as a homeowner and investor requires capital. Will the money you need come from a build-up of equity in your existing home, an inheritance, personal savings or all of the above?
Relying on high-interest debt like credit cards for on-going expenses can be a financial no-no and pathway to trouble.
Here are various cash requirements needed:
· down payment on the second home
· upgrades to plumbing, roof, furnace in one or both homes
· maintenance costs for rental
· vacancy when tenants move out
· easy access to savings for fixing up
Review the following table of expenses since all single-family homes and townhomes require maintenance, upgrades, and repairs. It is based on making a lateral move in San Gabriel, CA from a 3-bedroom 1.5 bath primary residence to a 3-bedroom 1 bath residence with both valued $650,000.
EXPENSES FOR BUYING HOME AND RENTING CURRENT ONE
In this scenario, the rental income has negative cash flow of $150 per month. The cash flow situation may be more favorable depending on the amount of repairs, maintenance and once moving costs to the new home have been covered.
Cash flow is the lifeblood of any business and having cash on hand sustains the dips until revenue increases. A slight negative cash flow may not be a problem if appreciation occurs and you plan on selling in the near-term like 3 years.
A primary residence with a large amount of equity that is in good shape is more likely to have a positive cash flow.
Know Your Partners
Mortgage Brokers — If you have a home buying plan that doesn’t neatly fit the checkboxes of a bank, then speak with a mortgage broker. They have an array of loans in a portfolio that can service different credit scores and financial goals.
Real Estate Agents — A good agent will make home buying efficient. Same-day showings, dialogue with sellers, and allowing you to submit an offer within minutes are the benefits. Use the power of the Internet to research homes that make sense for you.
Property Management — handling one property with tenants may seem easy, but a property management professional is equipped to screen tenants, collect rent and trouble shoot issues. A typical management fee is 10% to 15% of the monthly rent.
Handyman — even if you can do fix-ups around the house, your schedule may not allow you to respond quickly to requests. A handyman who knows plumbing, basic wiring, in addition to painting and carpentry adds to your peace of mind.
Know Your Tax Implications
Rental property has many tax advantages that a personal residence does not have. The Internal Revenue Service (IRS) carefully distinguishes between these two types of real estate.
When you convert your current residence to a rental property after the beginning of your tax year, then the IRS requires you divide yearly expenses like taxes and insurance between personal and rental use.
The basis for depreciation will be what is the lessor between the fair market value of the home or the adjusted basis if you made permanent improvements such as room additions. See IRS.gov Property Changed to Rental Use for complete information.
Know Your Exit Plan
Both the home you plan to purchase and your residence-turned-rental may ideal for holding long-term. Many circumstances may impact a decision to alter your decision in the next three to five years. Being a landlord can get old, the market soars and you can
sell high, or you decide to sell one of the two properties and use that money to purchase more.
The more you know, the better able you are to make an informed decision. Your home is an asset that’s served you well. By reflecting on your goals and running the numbers, you’ll have a good perspective on how it can serve you in the future.