Rental property as a means of wealth capture?

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ridebikeseveryday
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Rental property as a means of wealth capture?

Post by ridebikeseveryday » Sun Dec 23, 2018 1:48 pm

Hi folks,

I'm considering buying a rental home for my mother, primarily as a means of wealth capture, since she is currently renting from someone else. The facts are as follows:

1. She rents now (a condo at about $3k a month)
2. She estimates a place that she would like to live in would cost $650,000
3. I rent now; I have owned before and didn't enjoy dealing with maintenance, etc.
4. I am single, 31, and in the 35% tax bracket
5. We both live in the same area.
6. I have 20% of my portfolio in a money market fund right now from the recent sale of my condo, enough for a place that she would enjoy.
7. While I didn't enjoy owning, it seems prudent to have some exposure to my local real estate market. I plan to live in this area for a long time.
8. She has a good pension, no issue with paying $3k/month until she is unable to live by herself (probably another 25 years, based on the health of her parents).
9. She has almost no after tax assets, but a substantial 401k. So while she could take a big distribution and buy her own place, there'd be a large potentially unnecessary tax hit.
10. She is retired, but maintains her law license and still practices for "fun" on occasion. I keep telling her not to work any more, though she seems to enjoy it :)
11. I am her only heir.
12. It is a growth market in a M/HCOL area (front range Colorado, 5-10% a year)

The agreement would be something like the following: she would be responsible for all maintenance costs and actually interacting with any contractors and maintenance people, so I don't need to do anything. However, she is not really interested in paying any more than $3k a month for housing, and at my marginal tax rate, $3k is really $2k, and payments on a $520k mortgage are $3k. So I'd be paying $1000/month.

Obviously, her time in managing the property is worth something, but probably not $1000/month. However, she's currently paying the money to someone else, and we could capture it with an arrangement like this. There's also the 15,000/year gift allowance. She'd be willing to give this to me and still consider her rent $3k/month. But then there's the whole issue about renting the place at market value, etc.

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mhadden1
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Re: Rental property as a means of wealth capture?

Post by mhadden1 » Sun Dec 23, 2018 2:55 pm

Make sure you have all the exits covered. Like, if she dies? (I certainly hope not.) Remarries and moves? (As a romantic, that seems ok.) Remarries and doesn't move, then divorces and moves, leaving your new step parent in place? I guess you can always rent the property on the open market but that's not exactly your current intent.
Oh I can't, can I? That's what they said to Thomas Edison, mighty inventor, Thomas Lindberg, mighty flyer,and Thomas Shefsky, mighty like a rose.

Topic Author
ridebikeseveryday
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Re: Rental property as a means of wealth capture?

Post by ridebikeseveryday » Sun Dec 23, 2018 4:03 pm

mhadden1 wrote:
Sun Dec 23, 2018 2:55 pm
Make sure you have all the exits covered. Like, if she dies? (I certainly hope not.) Remarries and moves? (As a romantic, that seems ok.) Remarries and doesn't move, then divorces and moves, leaving your new step parent in place? I guess you can always rent the property on the open market but that's not exactly your current intent.
Yeah, I'd probably just sell it. She's been married several times and doesn't intend to again :)

Cycle
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Re: Rental property as a means of wealth capture?

Post by Cycle » Sun Dec 23, 2018 4:18 pm

If you want to be a landlord, be a landlord. Ignore the family aspect of this decision.

I frankly think the downside risk of involving family in business dealings isn't worth it. That's a generality tho, so ymmv.

In my experience excellent tennants can be found on the open market, no need to only rent to family.

Also, good luck ever evicting a lawyer Tennant :sharebeer
Never look back unless you are planning to go that way

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ResearchMed
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Re: Rental property as a means of wealth capture?

Post by ResearchMed » Sun Dec 23, 2018 4:43 pm

Cycle wrote:
Sun Dec 23, 2018 4:18 pm
If you want to be a landlord, be a landlord. Ignore the family aspect of this decision.

I frankly think the downside risk of involving family in business dealings isn't worth it.

In my experience excellent tennants can be found on the open market, no need to only rent to family.
This ^^

It could work well, but there are SO many ways it could end badly.

This is a long term commitment.

One difficulty that comes to mind quickly is what if you decide you don't like being a landlord, that it's too much trouble or concern, or you decide to relocate and you somehow *need* the money ... your mother would have to move.
This could be a biggie. Very big.

What if you and she end up with different ideas of what kind of maintenance, and she's not satisfied. After all, she is the one living there. This could be more of a struggle than with a "stranger" renter.

And if she has serial relationships (NOT passing judgement here at all, but I didn't like how that sort of fell out of the keyboard :shock: ), marriages or otherwise, then you are also dealing with the partner/spouse, who may have less patience with "you" as landlord or step-son type. And you can't just "not renew the lease".

Worst of all, you already experienced being a landlord and did not like it!
Some people enjoy it as a financial endeavor. Some don't.

Help your mother in some other way; find investments some other way, RE or otherwise.

RM
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euroswiss
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Re: Rental property as a means of wealth capture?

Post by euroswiss » Sun Dec 23, 2018 5:05 pm

Agree with others: this is a bad plan! Renting a 650k property out for 3k/mo is a terrible deal, even if she covers most maintenance. While there may be a history of strong appreciation in your market, it is pretty clear that we are getting closer to a real estate peak and you may be far from 5-10%/year over the next decade.
So, financially, this is not a good idea, but even worse are the potential family complications. Stay away from it and invest in some REIT if you need real estate exposure in your portfolio. Since you didn't like even owning your own place, chances are you will make a lousy landlord.

smitcat
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Re: Rental property as a means of wealth capture?

Post by smitcat » Sun Dec 23, 2018 5:50 pm

Cycle wrote:
Sun Dec 23, 2018 4:18 pm
If you want to be a landlord, be a landlord. Ignore the family aspect of this decision.

I frankly think the downside risk of involving family in business dealings isn't worth it. That's a generality tho, so ymmv.

In my experience excellent tennants can be found on the open market, no need to only rent to family.

Also, good luck ever evicting a lawyer Tennant :sharebeer
Great reply,I agree 100%...

dachshunddad
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Re: Rental property as a means of wealth capture?

Post by dachshunddad » Sun Dec 23, 2018 7:09 pm

my two cents of advice for what it is worth. I agree with above comments you should want to be a landlord first. Personally, i wouldn't buy a rental unless it would make a good rental property regardless of your mother (what if she wants to move to Florida for retirement next year). you make your money on real estate on the buy not on appreciation (ie you need to find a good deal). A good rule of thumb is rent 10% of cost. So 650K kicking off 65K/year rent.

Renting to family is completely specific to each person. I do it and it is great, no problems. But as others pointed out, it can be problematic. Good luck!

Xrayman69
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Re: Rental property as a means of wealth capture?

Post by Xrayman69 » Mon Dec 24, 2018 12:27 am

Mixing business with family and friends can potentially be a win win situation if many things goes right. It can be a lose lose proposition if only a few things go wrong or unexpectedly.

My opinion is if your not prepared to receive ZERO rent and consider it a “gift” than don’t do it. Just as you should presume a loan to a family member or friend is a gift, and if anything comes back - great, but otherwise just a shrug of the shoulder and lesson learned.

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Re: Rental property as a means of wealth capture?

Post by AlohaJoe » Mon Dec 24, 2018 1:01 am

euroswiss wrote:
Sun Dec 23, 2018 5:05 pm
Renting a 650k property out for 3k/mo is a terrible deal
This jumped out at me, too. Those are pretty terrible numbers for a landlord at a first glance. If you posted those numbers over at Bigger Pockets and left out the part about your mom, I'd be surprised if anyone there recommended buying it.

Then again, it all depends on the local market.

texasdiver
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Re: Rental property as a means of wealth capture?

Post by texasdiver » Mon Dec 24, 2018 1:08 am

So you mother can afford a $650,000 home, she just doesn't want to take the tax hit on her 401(k) to come up with the down payment?

Rather than you buying the place for her, seems like the better solution would be to explore various options for her to make the purchase herself. There are a variety of options. You can look at loans less than 20% down and decide whether the cost of the PMI is less than the tax due on the 401(k). You can look at ways to loan her the down payment and determine if the tax burden is lower if she spreads it out for 4 or 5 years to pay you back rather than pulling the entire down payment out in one year. I'm sure there are other creative things you can explore.

basspond
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Re: Rental property as a means of wealth capture?

Post by basspond » Mon Dec 24, 2018 7:18 am

Seems very complicated and you doing something that you are not too thrilled with. Suggest she take half of the distribution in December and the other half in January.

Archimedes
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Re: Rental property as a means of wealth capture?

Post by Archimedes » Mon Dec 24, 2018 7:54 am

I have no idea if this is even possible, but could your mom buy a condo within her 401k, avoiding the tax hit she would take on a distribution to buy a condo? She could then pay rent to her 401k? Probably a crazy idea, probably not possible, but I thought I would ask because of all of the financial gurus on this site.

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ResearchMed
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Re: Rental property as a means of wealth capture?

Post by ResearchMed » Mon Dec 24, 2018 7:57 am

Archimedes wrote:
Mon Dec 24, 2018 7:54 am
I have no idea if this is even possible, but could your mom buy a condo within her 401k, avoiding the tax hit she would take on a distribution to buy a condo? She could then pay rent to her 401k? Probably a crazy idea, probably not possible, but I thought I would ask because of all of the financial gurus on this site.
She might need to roll over to an IRA.

But you cannot benefit personally from such a real estate holding.
You can't personally be involved at all, not even to make repairs.
She could rent to an unrelated party, but that would defeat the purpose you are suggesting.

RM
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letsgobobby
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Re: Rental property as a means of wealth capture?

Post by letsgobobby » Mon Dec 24, 2018 9:13 am

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desiderium
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Re: Rental property as a means of wealth capture?

Post by desiderium » Mon Dec 24, 2018 7:39 pm

I am in your situation and I respectfully disagree with much of the sentiment here.

While it is relevant to compare the financials with a market real estate rental, you are not doing this strictly to own an investment rental property.

The mixture of family and finances is not always bad. My parents paid for my graduate professional education and facilitated a great deal of human capital, which has set me up quite well.

Later in life, my income/NW was quite a bit higher than theirs and health circumstances made it so they had to live near me in a HCOL area. It made no sense for them to tie up their remaining capital in a home. It was easy enough and made sense for me to purchase a condo and rent at something that did not make a wonderful investment. It works and continues to work. There has been property appreciation and I will probably not lose in the long run.

The win for me is not strictly a financial calculation. Only you can properly value the arrangement.

JBTX
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Re: Rental property as a means of wealth capture?

Post by JBTX » Mon Dec 24, 2018 7:52 pm

ridebikeseveryday wrote:
Sun Dec 23, 2018 1:48 pm
Hi folks,

I'm considering buying a rental home for my mother, primarily as a means of wealth capture, since she is currently renting from someone else. The facts are as follows:

1. She rents now (a condo at about $3k a month)
2. She estimates a place that she would like to live in would cost $650,000
3. I rent now; I have owned before and didn't enjoy dealing with maintenance, etc.
4. I am single, 31, and in the 35% tax bracket
5. We both live in the same area.
6. I have 20% of my portfolio in a money market fund right now from the recent sale of my condo, enough for a place that she would enjoy.
7. While I didn't enjoy owning, it seems prudent to have some exposure to my local real estate market. I plan to live in this area for a long time.
8. She has a good pension, no issue with paying $3k/month until she is unable to live by herself (probably another 25 years, based on the health of her parents).
9. She has almost no after tax assets, but a substantial 401k. So while she could take a big distribution and buy her own place, there'd be a large potentially unnecessary tax hit.
10. She is retired, but maintains her law license and still practices for "fun" on occasion. I keep telling her not to work any more, though she seems to enjoy it :)
11. I am her only heir.
12. It is a growth market in a M/HCOL area (front range Colorado, 5-10% a year)

The agreement would be something like the following: she would be responsible for all maintenance costs and actually interacting with any contractors and maintenance people, so I don't need to do anything. However, she is not really interested in paying any more than $3k a month for housing, and at my marginal tax rate, $3k is really $2k, and payments on a $520k mortgage are $3k. So I'd be paying $1000/month.

Obviously, her time in managing the property is worth something, but probably not $1000/month. However, she's currently paying the money to someone else, and we could capture it with an arrangement like this. There's also the 15,000/year gift allowance. She'd be willing to give this to me and still consider her rent $3k/month. But then there's the whole issue about renting the place at market value, etc.
The initial mortgage payment plus property tax would be about the same as your current $3k per month, plus whatever other costs you may be responsible for as a property owner. Of course, rental payments will increase going forward, mortgage payments won't. If you owned it, your return on total assets would be about 5% ($3000 a month avoided, less property taxes and any other incremental expenses)

From a financial perspective, it doesn't seem like a very good payoff. Whether there are non financial reasons to do it, I can't really judge that.

JGoneRiding
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Re: Rental property as a means of wealth capture?

Post by JGoneRiding » Tue Dec 25, 2018 11:33 pm

I Think you would be better off dca into the market.

I am a LL I wouldn't spend over 400k for 3k a month rent. Basically at 650k plus maintenance you are giving mom a heck of a deal. This only makes since if you want to support her.

How much do 650k condos go for on the open market? I would be hoping 5k in most hcol areas but I don't do high end rentals for a reason

AlphaLess
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Re: Rental property as a means of wealth capture?

Post by AlphaLess » Wed Dec 26, 2018 2:46 am

AlohaJoe wrote:
Mon Dec 24, 2018 1:01 am
euroswiss wrote:
Sun Dec 23, 2018 5:05 pm
Renting a 650k property out for 3k/mo is a terrible deal
This jumped out at me, too. Those are pretty terrible numbers for a landlord at a first glance. If you posted those numbers over at Bigger Pockets and left out the part about your mom, I'd be surprised if anyone there recommended buying it.

Then again, it all depends on the local market.
What is Biggest Pockets?

Do you live in Hawaii?
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Valuethinker
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Re: Rental property as a means of wealth capture?

Post by Valuethinker » Wed Dec 26, 2018 7:37 am

Cycle wrote:
Sun Dec 23, 2018 4:18 pm
If you want to be a landlord, be a landlord. Ignore the family aspect of this decision.

I frankly think the downside risk of involving family in business dealings isn't worth it. That's a generality tho, so ymmv.

In my experience excellent tennants can be found on the open market, no need to only rent to family.

Also, good luck ever evicting a lawyer Tennant :sharebeer
Good advice.

Avoid financial dealings w family members.

The best way to never see your brother in law again is to lend him money.

If OP has siblings this can get even more messy.

Yellowhouse
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Re: Rental property as a means of wealth capture?

Post by Yellowhouse » Wed Dec 26, 2018 8:44 am

Why does your mother need to live in a 650k home? She is single and lives alone, I just don't understand the need to live in such high digs. Could she not be happy living in a place worth 250k??

Regarding the rental aspects of this piece of property, it's difficult to make the numbers work in your favor when one, it's your dear mother, and two, it's a high priced piece of property. I'm in the rental game and my low end house spins off much more attractive profits than my house worth twice as much.

If you adhere to the above advice and shoot to capture a 10% return, you'll be charging $6,500/mo. It's hard to capture that kind of return, even in perfect circumstances. You are effectively cutting that in half by renting to your mother at 3k/mo.

The best scenario IMO, is to buy a place in the 200k-270k range and charge her 2k/mo. A single person living in a house approaching three quarters of a million dollars is hard to justify.

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