I am going to be moving out of my home soon and I’m trying to decide whether I should sell or rent. I would like to figure out what would be considered taxable, and about an estimate of what I would pay in taxes for the rental per year. From there I would like to put about 90% of the profit back into the home. For example
The current mortgage is only about 6 months old - starting at 99,000.
If I put 90% of the 3480 back into the home, that would add an additional monthly payment of 217.50 or so. So if I paid the additional payment, the home should be paid for by Aug. 2026.
The home is brand new. The value of the home is 120,000.
The total amount of your mortgage payment is not deductible for income tax purposes, only the interest portion. Assuming your interest is around $5,000. Your taxable rental income is going to be about $4,780. Assuming you’re in a 25% tax bracket, you will have to pay about $1,195 in income taxes on your net rental income, which will leave you with about $2,285 net cash flow.
How confident are you in the $1,100 per month rental rate? If that drops to $900 a month, your net cash flow drops to about $665 for the year. One maintenance hiccup and that eats away at any profit you have.
Yeah, you need to do a sanity check on your expected rent - your costs (mortgage, taxes, and insurance) are about $660. While a renter may not have the means to buy rather than rent right now, at some point in the next 15 years the banks will start lending again.
Also, if you do rent it out, adjust the rent up about 2-3% every year if rents overall are increasing. You don’t want to keep the same rent for several years and then need to make a huge correction as you’ll probably lose the tenant and have to find another.
On the tax issue, you need to talk to a good real estate accountant. Under some conditions you *can *take a tax deduction for capital depreciation. (If this were the same as your mortgage payment, that would be an interesting coincidence.) Sometimes this is a good idea, sometimes not. I won’t try to explain; you need an expert.
Also, whether you have a rental agent or not, renting is not a walk in the park. Sometimes tenants damage things beyond the security. Sometimes tenants have to be evicted.
There are a couple items I don’t see on your list. I’m not sure how they work when you convert from a personal home to a rental property though. I have a duplex and the apply to the half that I rent out.
Depreciation - You get to deduct the depreciation value of the property (I think mine works out to a 20 year schedule)
Any repairs you need to make will be able to be deducted.
Depreciation is 27.5 years for the structure (which works out to 3% most years except the first and last). 7 years for most appliances. Carpets are 5. There are some other ages for different kinds of improvements at 10 and 15 years as well.
Land is not depreciable at all and needs to be subtracted from the property value for figuring the other items.
For most people, high interest and depreciation at the beginning make for paper losses, even when they have positive cash flow. Later in the rental’s life, you’re much more likely to have paper profits.
One catch with rentals is that high-income taxpayers may have their losses suspended; suspended losses don’t become deductible except to offset future income (such as the sale of the property).
You have to be prepared for LONG periods without rent. Six months, at least. I’ve seen rentals go unoccupied for as long as 18 months. On one rental, they were down for five months while they fixed damaged caused by evicted tenants, who didn’t pay the last month’s rent. They had 9 months total without rent, and repair costs of $15,000. In theory, the evicted tenants are liable to pay that, but in reality? The owners won’t see a dime. So I wouldn’t plow the $3500 back into the mortgage until you get an operating reserve of, say, $40,000 (that’s six months of payments).
The industry metric for rentals is a 10% return on investment each year, assuming you manage it yourself and that you manage it well. About half of that is in cash each year, and about half is capital appreciation that you won’t see until you sell the rental. Based on the industry metric, then, you should expect $500/month in cash and $500/month in capital appreciation. You’re counting on $3500 in cash, which means you’re either 7 times better than professional property managers or that you’re using pie-in-the-sky numbers that will not actually bear out over time.
Do you know what he meant by ‘counting on’? If he meant “don’t be in a position where one month vacancy/delinquency will ruin you” then that’s great advice. If it means, basically, don’t buy an investment property except with cash, which is sort of implied by not counting on the rent to pay the mortgage, then I disagree.
As a former landlord let me advise that the decision to rent or not rent should not just be a financial one. When you take on tenants you are opening yourself to the life of a landlord. That means responding to tenant complaints, collecting rent, making repairs, filling vacancies, etc. Unless you can farm all this work out to someone else (which will cost you some money) be prepared for headaches. For me, the answer to your question was no, but I learned the hard way.
MY 2 cents as an investor with a house and a 4 plex.
By back tracking you numbers your payment is $525 a month and you hope to rent it out for $1100 a month? That seems a little high.
Researh you need to do. Check with the local apartment owners association and find out what the local vacancy rate is. Also check and see what the rents in your area are. That will tell you how hard it will be to find a renter and what kind of income.
On a new home I would expect your expences to be around 20% of the rents, so you misc maintenance is low.
My CPA will only let me use 70% of the value of the property for depreciation. that will give you a yearly depreciation of $3054. If you are in the 25% tax bracket that yeilds $763 a year of tax savings.
You will need to build up reserves. A good number would be at least 6 months rent.
Now look at your own finances. What happens if the house sits empty for a period of time how long can you make up the missing rents. Or a bad tenant causes large repairs? Are you ready.
One important thing to remember is that you have to put up with tenants to better your future. If I had it to do over I still would purchase rental property as an investment. But if you do not want to get discouraged you have to have your eyes open.
Another thing is that if you take depreciation as a tax deduction, and then later sell the property, you will then have to pay capital gains on the Sale Price minus the Original Price minus the Depreciation. At least that’s what happened to us. Like I said earlier, you really need to talk to someone who’s a professional in real estate and taxes.
Yep. Note that it’s (original price + any capital improvements - depreciation) = so if you added a garage, hardwood floors or a swimming pool, you’d have less of a profit.
You also lose the ability to exempt any profit on the sale of the house from being taxed. I assume you’ve lived in the house for 2 years or more (presuming that 6 month old mortgage is a refi; if it was just purchased 6 months ago ignore me) and you have a net gain in value, you can exclude the first 250,000 (single; married is 500,000) from your capital gains - no taxes due on the profit. That two years has to be within the past 5 years.
So, you could rent it out for just under 3 years, sell it for a profit, and exclude the profit. If you rent it out for over 3 years, then sell it: all of a sudden you no longer meet the 2 out of 5 years test, and all your profit is fully taxable.
Good point. I’ve heard of these from reading real estate columns (is this the same as a Starker exchange?). That, I think, just delays when the taxes come due if I understand things correctly, as the basis of the old property (purchase + improvements - depreciation) carries forward as the basis of the new, somehow.
It’s useful if you’re going to sell the old place and almost immediately buy a new rental property. Then supposedly you can later “convert” the rental to a residence. It’s all a bit over my head, however, and you’d want to talk to a tax specialist if you try that.