One of the largest concerns with homeowners is whether to buy a home first, or sell first. If they sell first – will they be able to find a home to buy? You can understand with the low inventories currently available in most markets, a very strong argument can be made to purchase your replacement home first.
As a matter of fact, there are many advisors who would tell you to not sell at all. In their minds, keep your home for a rental investment and refinance it to pull out some cash for the down payment and closing costs for the new one.
For the most part, homeowners seem to recognize that their home has been an excellent investment for them. More than likely, homeowners understand the management and benefits of a single-family home far better than they understand stocks, mutual funds, annuities, or ETFs.
Similar to the issue of low inventories of homes for sale – there are also shortages of available single-family homes for rent. That’s quite evident by rent continuing to rise on a steady incline. It’s that factor of rising prices and rents that are contributing to the rates of return on rental properties.
Assuming that they have good credit, a homeowner can borrow the difference in their unpaid balance and 80% of the fair market value of their home. The proceeds are most likely not a taxable event and can be used to purchase the replacement home.
It is likely that the rent could cover the total payment on the refinanced former home. The seller, then, benefits from income, depreciation, equity build-up, appreciation, and leverage.
A window of opportunity can be possible for the homeowner to rent the home for a while – which would cover his payment, allow the home to appreciate, and then lead to selling and closing on the home within two years. The home would still be eligible for the section 121 exclusion of gain in a principal residence.
In some cases, sometimes in most cases, the investment is providing a better return than alternative investments and keep the rental beyond the two years. And, at a later date, if the homeowner decided to sell the property and purchase a more expensive rental, a section 1031 exchange may be available to avoid capital gains for a while longer.
There are many economists who feel the low inventory situation in most of the United States is going to be a long-term event due to over a decade of underbuilding and maturity of the millennial generation. This will continue to propel both home values and rents; both of which are good for investors.
Some advice: buy before you sell – but they don’t have to be at the same time! They can be years apart. Do a cash-out refinance on your current home for the proceeds to buy another home that meets your needs now. Then, convert your current home to a rental investment. Don’t wait because rising interest rates will increase your payments on not only the new home but the refinanced home also.
Talk to your real estate professional about what the fair market value of your current home is now, what you can expect to pull out of it and what it would rent for. Download our Rental Income Properties guide for more information.
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