Best way to unload a rental property underwater

In My Humble Opinion
1

I’ve been trying to use the search function on this site to see if this has been discussed before, but all I get is a blank page. Regardless, I have a townhouse with renters who have been there for 3 years and their lease is coming up. They are good tenants, and the property has relatively new everything, so no major repairs expected. I’m underwater both on the rent and the mortgage value. The rent covers about 75% of the monthly cost (the rising HOA, though deductible, is the largest obstacle to profitability); and, I would need to bring at least $10k to break even (assuming no realtor fee) if I were to sell outright. I recently refinanced the house to get what I believe is the lowest rate possible, definitely the lowest of all my rental properties.

From what my accountant tells me (new Trump tax plan not factored in), I have a nice little write-off on the rental losses. However, I want a vacation/rental home in the near future near my in-laws. Also, I hate having a negative on the books.

My tenants have expressed buying the property. However, the wife, had a bankruptcy about 3 years ago. Also, they’ve expressed concern about me raising the rent. I haven’t – yet-- but comparable properties in my neighborhood are now going for upwards of $200 more a month (which would still make me 15% negative). Ideally, I would like to just sell to them at cost and be done with it so I can then start saving money for the down payment on a future vacation home.

Looking on the internet, it looks like the easiest thing for both parties is to sell the house “subject to” the existing mortgage, meaning that they just take over my mortgage payments. I’m assuming that they can’t get a loan, or can only get a loan with higher than what I have interest rates. (I’m also assuming that they don’t have enough for a down payment, but I am willing to give them back their $3k security deposit). Maybe a Lease to Own? That way I can raise my rent and have them build a down payment, but I would want to be out in a year or so because my in-laws area is starting to become a hot area. Is there some other more efficient option out there given my scenario? Thanks in advance.

2

I’m not a real estate professional, but presumably if they can’t get a loan, then the bank isn’t going to agree to let them take over your loan at the same rate. Which means that you are still going to be on the hook for payments if they don’t make them. That doesn’t seem like a great plan to me.

Does a Lease to Own agreement make any difference? If they don’t have a down payment, and can save up enough in the next year to have one, then they can do so regardless of this agreement, right? It’s not like a Lease to Own agreement creates any additional money. It does help ensure that they’re really serious about it, and gives you some extra money if they don’t go through with it, so it might be worth it for you, but I don’t know that it helps that much.

It seems to me that you might be too focused on selling to your current renters. Yes, they may want to buy it, and if they’re in a position to do so, great. It’s easy enough, and you know they like the place. But it doesn’t really sound like they are in a position to buy it.

I think you sell an underwater property the same way you sell any other property, you just bring a check with you at closing rather than getting one.

3

In my experience, it is rare for a mortgage to be “assumable” by a purchaser. They are generally due in full upon any transfer of ownership.

4

Realtor here, not your Realtor, not licensed in your state, etc.

FHA loans are available to Buyers who are at least two years from their bankruptcy Discharge, so this could be an option for them. If they are serious, have them contact a lender and just ask about getting a pre-approval. Most lenders are friendly and honest, and will work with them to answer questions and make sure all the information is accurate. I don’t know where you are, but if you or they need a referral, I can get you one. If you can, discourage them from going with a “Rocket Mortgage” or other such nationwide lender, and I wouldn’t go with a local bank either - both have issues with limited loan offerings. They should go to a local mortgage broker to make sure they have all their options.

In no circumstances would I recommend a Rent to Own set up. They work great for Buyers, but they have a high potential to screw the owner. They can walk away at almost any point in the contract, and you’re out your buyer, and all the lost income you’ve agreed to with your undermarket “rent” payment. If you must go Rent to Own, demand a 20% of more down payment, making sure they have skin in the game. That $3,000 won’t look like much in three years when they’re thinking of moving to Hawaii or whatever.

Next, talk to a local agent to see what your property is actually worth. You may be surprised to learn it’s worth more than you think - I don’t know where you’ve been getting your data, but Zillow and the tax assessor’s websites are notoriously lousy. They literally make up numbers in many cases. No matter what you do, you need to know what the house is actually worth compared to actual, recent closed sales of comparable properties. There may also be sales avenues you haven’t thought of, that a local realtor would know.

As noted above, assumptions are rare. First, read your mortgage to see if it’s even possible - many contracts forbid it. If it is okay, then the buyers would have to pass the credit check, income verification, etc., just as they would with any other originated loan.

One note about selling on your own - if you can sell to your tenants, no muss no fuss, then you’ll probably be okay. If you decide to sell to a third party, please consider using an agent, with the fees and all. In addition to bringing specialized knowledge of the process, independent studies have shown that FSBO sales bring in about 7% less on average than a sale through a real estate agent. The math works out - even if you sell it on your own, in order to attract almost any real buyer, you’ll have to pay their agent 2.5-3% anyway. As a seller with an agent, any additional commission would be around 3%. So, if you realize an extra 7% on a sale, that more than covers all the commissions and gives you an extra 1-1.5% in your pocket (or less to bring to the closing table).

Good luck, and I can always get you a referral for an agent as well.

5

Rent normally goes up. See if you can meet them halfway with a rent increase.

6

How much longer until the remaining balance on the mortgage matches the current market price today? You might need to look at the amortization tables to figure that out. Basically, if the house can sell for $X today, at what point in the future is there only $X left on the mortgage?

7

Even if they raise it $200 (which they don’t think the renters can afford) it will only get them to 85% of the monthly costs (mortgage, HOA, property tax).

8

This seemed like a red flag to me: “the rising HOA, though deductible, is the largest obstacle to profitability”.

How fast is it going up? Significantly more than inflation? I’d be worried about a poorly managed HOA, one that might be skimping on maintenance or more likely to hit you with a big unscheduled assessment. If those concerns are valid I’d feel some pressure to get out while I still can. I’m reminded of a condo seller who was so desperate to unload his place that he offered to pay us seven years of HOA payments. The condo building was incredibly expensive to maintain and had cycled through lots of management teams and had a history of huge assessments in addition to the rapidly rising and hugely expensive HOA dues. Needless to say his offer was not enticing.

9

Land contract? This isn’t the same as “rent to own” (whatever that is), and is very easily foreclosable, at least in Michigan (check your jurisdiction).

10

I always pay a extra on interest bearing debt, and if the market in this area continues to rise I’ll be break even in 3 years, at conservative estimates. It’s hard to gauge as other homeowners here have told me that they are still a long ways off peak housing prices in 2006. My neighbor told me he dropped 33% from 2006 - 2007, and his value has only risen 1/3 of that drop based on a similar unit selling across the street.

11

Yeah, I have had several HOA properties and I refuse to live in them any more. This one isn’t the worst I’ve ever seen, I mean, at least they’re friendly. However, I’ve had the property a little over 4 years, and since then, we got hit with a one-time special assessment for the roofs, and then we got a rate increase because a retaining wall needed repair. To me, and many other neighbors, we all thought that this should have been covered already, but they cite past owners voting down rate increases.

12

Since Sateryn76 and others have given excellent advice, I’ll contribute to say I read the thread title as “Best way to unload rental property underwear.” The actual thread was much more mundane than I hoped.

13

I was wondering about rental property under water. “It’s beachfront!”

14

“Under Water” is a pretty common term for a house that is worth less than the outstanding mortgage.

if the renters can get a regular mortgage, that would be ideal. You might have to bring cash to closing to get out of it but at least you’re not hemorrhaging cash every month. Plus, depending on how you’ve depreciated the property, that would reduce the risk of your having a taxable gain on the property.

Believe it or not, I could see a scenario in which you have to bring money to closing AND have a taxable gain: say the place was bought for 150,000, you’ve deducted 35,000 so your basis is now 115,000, your mortgage is 140,000, and you sell it for 130,000. You have to pay that 10,000 to the mortgage company to sell it, yet you have a gain of 15,000 (130,000 - 115,000).

I wouldn’t go near a rent-to-own deal with a 10 foot pole. Any such agreement might well trigger a “due on sale” clause with your mortgage company, among other issues people have already raised.

If the tenants are concerned with being able to afford an increase in the rent, they can’t afford to buy the place - they’re already getting it below market, and the HOA dues are not going to go down.

15

Given the recent bankruptcy, they would likely not qualify for the loan, but are you willing to consider seller financing, where you maintain the loan & they pay you? They would also take over HOA fees/ insurance /property taxes & if they default, you have the home as collateral & would be no worse off.