In this article:
Real estate is one of the best investments a person can make these days, with an average return on investment of 8.6%. When it comes to building wealth, real estate is a huge boon. But very few people have the liquid capital to go out and buy multiple homes. That’s why, the question of whether to sell your home or rent it out and buy a second home (or find another housing option), is so challenging.
If you’re thinking about moving, whether due to a job relocation or wanting to upgrade or downsize, it’s worth exploring whether you should sell your house or rent it out.
As with most big decisions, there’s no obvious answer. Selling and renting both come with advantages and disadvantages that are unique to your situation. In this guide, we’ll help you weigh the pros and cons so you can decide whether to sell your house or rent it out.
What to consider when deciding to rent or sell your house
When you bought your first home, you probably didn’t consider its future rental potential. But now, here we are! Most homes can be rentals, but not all are financially worthwhile to rent. When deciding whether to rent or sell your house, consider the following.
Will renting out your home generate positive cash flow or will owning a second home while renting out your first drain your finances? You can determine this by adding up all the expenses of renting the home and subtracting them from the profit you’ll make and the tax breaks you’ll get from being a landlord.
While your local market will dictate the actual rental price you can charge, it’s easy enough to estimate a monthly rate based on comparable properties in the area. That monthly rate will cover your mortgage, taxes, insurance, and general maintenance in an ideal scenario. These are the most common expenses when renting out your home:
- Mortgage: Remember to calculate both the principal and interest.
- Insurance: Remember that insurance tends to rise every year.
- Repairs: You are responsible for any maintenance.
- Taxes: You are still responsible for property taxes.
- HOA fees: If applicable.
- Management fees: If you hire a property manager.
- Vacancies: You may end up between renters some months.
- Commission: If you pay a real estate agent to market the property.
- Advertising: If you are renting the property without an agent.
- Miscellaneous: Expenses like credit checks on tenants.
This list is a good reference of what to keep in mind, but you can calculate more specific numbers with a rental income calculator.
Consider long-term rent prices. In most parts of the country, rental prices have been going up, as have real estate values. You may be able to charge more in coming years while gaining equity in your home, but that will take some educated guesswork.
Codes and laws
Rental properties must adhere to strict code requirements that vary by state. To get your property up to code, it may require some additional, upfront investment.
To ensure your home is up to snuff, you may want to work with a real estate attorney, who can also assist you in drawing up a lease and other documents to protect you and your property.
Also, remember that you can be held liable for tenant or visitor injuries, so get landlord liability insurance and landlord property insurance.
If you’re earning positive cash flow from your rental property, that’s great! But don’t forget, like any income-producing asset, that rental income is taxable.
On the positive side, you can write off all the costs associated with renting your home. For example, if your gross rental income for the year is $50,000 but you incurred $40,000 in expenses, you’re only assessed tax on $10,000.
In addition to deducting rental expenses, you can also claim a deduction for depreciation on the property should the market take a turn or the property suffers damage. Furthermore, if you lose money on a rental, you may be able to use the loss to offset your taxable income if your adjusted gross income is less than $100,000. Always speak with a tax professional before claiming any losses or depreciation to understand your specific situation.
What does the future look like? What are your reasons for moving? Life plans play an important role in deciding whether to rent or sell. If you’re relocating, renting provides the security that you can always return to a home you love. If you know this next move is permanent and you could use the liquidity to buy a forever home, you may want to sell.
Do you want to be a landlord?
Finally, the biggest question of all. Being a landlord requires a lot of work and incurs a lot of risk. Rental ownership is stressful because you have so little control over what tenants do in your home. Finding tenants who pay on time and respect the property isn’t as easy as you might think, and requires looking into their finances and conducting state and federal background checks.
No matter how great your tenants are, properties require maintenance. Things will break. You’re responsible for fixing those things, which means answering tenant emails and getting maintenance workers over to the house. Hiring a property manager will make your life easier, but at an additional cost.
And when those great tenants move out, you’ll need to schedule a deep cleaning and probably some painting and carpet replacement too. Being a landlord is time-consuming. Do you want that responsibility?
When should you rent out your home?
Don’t believe all the news stories about rental prices plummeting around the country. Despite the rental market largely tanking in big cities in 2020, the market grew in mid-size cities. One survey found that nearly 66% of landlords, investors, and property managers are optimistic about the state of the rental market in 2021. So, when should you rent out your home?
Demand is high
As 2020 illustrated, rental demand varies from time to time due to a number of factors. You can’t plan for a pandemic, but you can predict spikes in rental demand in communities with booming job growth or new developments. After Amazon set up headquarters in Seattle in 2010, the median rental rate shot up 41.7% over the next seven years, compared to 17.6% in other cities during the same time frame.
Apartment List publishes market-specific reports for dozens of U.S. cities that can help you determine and predict rental demand. When demand is high, you can agree with your tenants on a more valuable lease.
Renting is a smart financial move if you can cover the home’s expenses and demand stays consistent. Every month, you’ll earn a little money while also gaining equity should the market continue to rise.
Proximity to amenities like shopping, dining, parks, schools, hospitals, and public transportation gives a rental property a big boost. Maybe you don’t take full advantage of these amenities, but they will make a property more appealing to renters. Likewise, cool property perks like a finished basement or a private backyard will entice renters to pay a little more each month for things they might only otherwise get if they purchased a home.
Other amenities that renters want according to a 2019 ApartmentGuide survey are pet-friendly homes, homes that are accessible for seniors or people with disabilities, and homes that are good for families. Nearby amenities may increase your home’s sale value, too, so you’ll have to weigh if the rent income each month is worth more than a one-time sale price. If your home checks a lot of these amenity boxes, you may be able to earn more over the long run by renting.
A personal attachment
Maybe you’re relocating due to a job transfer, family demands, or other unforeseen circumstances. If you really love your home, why remove it from your life? Forming a personal attachment to a house is natural and if you’re not ready to let it go, then don’t!
You have a good property manager
Being a landlord is a lot of work and can be a real headache. But a great property manager will alleviate a lot of stress. If you’re forced to relocate but you know someone personally who can take care of your home (or, better yet, live in it and pay you rent!) and tenants, it’s a weight off your shoulders.
Hiring a property manager may cost 8-12% of the monthly rental but it’s well worth the investment if you have someone great lined up.
You bought the home recently
Selling your home within two years of buying it will incur capital gains taxes on any profit you make. If you live in a home for more than two years within a five year period as your primary residence, you can write off up to $250,000 (or $500,000 for married couples) of the profits thanks to the Home Sale Tax Exclusion. As long as you live in the house for two years, you can rent it for another three without missing out on this tax benefit when it comes time to sell.
Additionally, unless property values have skyrocketed in the last 6-12 months, if you sell your home too soon you will not have reached the breakeven point on your initial home investment. That means you will not have gained enough equity in the home to avoid a financial loss from a sale.
When should you sell your home?
Renting might net you a small profit each month for a long time to come, but in some situations, it might make more financial and practical sense to sell a home — especially in times of uncertainty. If you’re in imminent need of cash, selling property frees up a lot of liquidity fast. There are a number of other reasons why you might prefer to sell, too.
You’re ready to move on
Sometimes, you’re just ready to move onto the next stage in your life. Whether you want to be closer to family, you’ve taken a new job, or you’ve just lived in one place long enough, there are myriad personal reasons to sell your home and be done with it.
Selling is stressful and requires work but, unlike renting, it’s stress and work that ends as soon as you sell.
You can make a profit
The real estate market is hot all over the country and if you bought your home more than a decade ago, there’s a good chance it has appreciated in value. Markets, however, are fickle and some experts speculate we may be in a housing bubble. If you’re concerned that equity you’ve gained in your home and its appreciated value will drop in coming years, selling now could ensure you turn a profit.
As mentioned before, selling turns a major asset into liquid funds fast so if you’re quite sure you’ll make more than you paid, it’s a great opportunity to make some money to fund the next stage of your life. (Plus, it avoids the consequences of a housing crash.)
Take advantage of current tax laws
As mentioned before, the Home Sale Tax Exclusion can help you avoid capital gains taxes on up to $250,000 for individuals or $500,000 for married couples. There are limitations depending on your tax bracket, but most homeowners can avoid a huge tax by selling now. The law isn’t in imminent danger, but tax codes change all the time, so why not take advantage?
If you’ve lived in your home for at least two of the last five years, you’re eligible for the exclusion. If you’ve gained enough equity and home values increased in your area, selling is a smart option.
One of the biggest reasons people sell instead of rent is that it provides a cash infusion to cover the down payment on their next house. If you’re ready to upgrade to something bigger in a more expensive area, the Home Sale Tax Exclusion could help you do it.
Maintenance is too expensive
Every home requires maintenance, especially older ones. When you’re a landlord, you’re responsible for that maintenance. If you’ve lived in your home long enough to know that there is always something that needs fixing, renting may not be worth the constant maintenance expenses.
In older homes, some of the original components, like the HVAC system, roof, and appliances may not have ever been replaced. There’s an increased likelihood that those become major expenses in the future that prevent you from charging rent while you fix up the house. You might be better off just selling.
You don’t want to be a landlord
A landlord has an obligation to keep a “warranty of habitability.” That means providing a property that is safe, clean, and habitable. At a minimum, habitability entails offering:
- Safe drinking water
- Hot water
- Functioning electricity
- Adequate ventilation
- Smoke and carbon monoxide detectors
- Functioning bathroom and toilet
- Sanitary premises, including rodent or insect removal
- Locking doors and windows
- Conformity to current building codes
Yes, those are all basic, but failure to maintain the warranty of habitability can result in legal consequences. Between expenses, legal risk, and the burden of communication with tenants, being a landlord isn’t for everybody.
Renting your house can be a great source of cash flow, but it comes with a price. Before you decide whether to rent or sell, weigh the pros and cons for your specific situation to decide what’s best for you.