Nice, you have a property to sell or rent. Most people are deciding whether to rent or buy. You’re ahead of the game. There are many reasons why you may want to keep your place, but let’s just do the straight math.
For the purposes of my example, let’s follow the numbers for my situation.
|Property Purchase Price||$265,000|
How Much Actual Value Is My Property
According to Zillow as of this writing, my property is worth $485,000. If I sell it with a 5% real estate commission, I would get $460,750.
Since this was my primary residence for at least 2 of the last 5 years, there is an exclusion of $250,000 for singles and $500,000 for married on the capital gains tax.
Normal you have to pay capital gains tax on the property value increase. Since I bought the property for $265k and selling for $461k (after commission) I technically gained $196k. With the primary residence exclusion up to $250k, I would owe nothing in capital gains!
We’re not done yet. I just received a check for $461k, but I have to pay off my $178k mortgage. That leaves me with $283k tax free. Awesome. That’s also how much what I will call “value” I have in my property.
Some Other Numbers to Use
I pulled these general numbers from google. You can modify the calculations yourself if you feel strongly about it.
|Property Annual Appreciation||3%|
|S&P Historical Rate of Return (Stocks)||10%|
|Diversified Conservative Rate of Return (Stocks and Bonds)||7%|
Rate of Return On Renting
In a previous entry, I calculated how much my rental property would generate. It would generate me about $10,209 a year after taxes. That is a value that fluctuates over time, but also relies upon no vacancy and no repairs.
Properties generally appreciate at 3% a year. That means every year I gain 3% so I gained 3% * $485k = $14,550 in 1 year. But the true amount I gain is less 5% real estate commission when it’s time to realize those gains. For now i’ll consider capital gains at 0% as well. So if I sell my property in 1 year and pay 5% realtor commission, the gains for the property would be (1 – 5%) * $14,550 = $13,822
So ($10,209 rental profit + $13,822 appreciation) / $283k = 8.49% the first year. Of course depending on which tax bracket you are in, actual real estate conditions, whether or not you have to pay capital gains tax, and assuming zero vacancy and repairs will play a big factor into this number.
Rate of Return Investing In The Market
Rather if I invest $283k that I got from selling my property in the market, I can make between 7%-10% depending on how much risk to take investing your money. Also that 7-10% is cut down to 6 – 8.5% when you factor in paying capital gains which would make this a more fair comparison.
So What Should I Do?
So I think the “smart” thing to do in my current situation as a non real estate professional would be to sell the place and make an “easy” 7%. Putting money in the market is easy and requires very little maintenance. Also the real estate returns rely on no vacancies, no repairs, tax rates, and lots of maintenance (hoa, property tax, insurance, property manager). If it’s strictly a financial decision. You should sell your place.
What I didn’t qualify for the $250k exclusion?
I would owe 25% of the $196k gains I’ve made which comes out to $49k. That means, my total profit after selling comes out to $283k – $49k = $234k
Rental appreciation would be: $485k * 3% appreciation * (1 – 5% commission) * (1 – 25% capital gains) = $10,367.
Rental Rate of Return would then be: ($10,209 + $10,367) / $234k = 8.8% since it’s divided now by $234 actual cash in hand.
So Am I Selling?
As you may have guessed from my previous post where I mention I rented out my property, I chose NOT to sell. I know, I know i’m contradicting myself, but I just couldn’t make the rational decision and here’s my flimsy reasons why:
- Sentimental value of it being my first condo
- I also got it for such a great price it isn’t much of a strain on finances
- It is net cash flow positive and provides a somewhat steady income during this time of my life where i’m taking a sabbatical from professional work
- I like thinking/knowing I have a place as a last resort to go live in
- I think depending how I play my tax cards I could wrangle up some other tax benefits such as traveling back to the us for landlord duties.