Can We afford second home ?

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Topic Author
boxerbali
Posts: 92
Joined: Wed Oct 14, 2015 12:48 am

Can We afford second home ?

Post by boxerbali » Mon Mar 04, 2019 12:56 am

Back ground -

Current House : ~ 700K value ( about 200K left with low interest, around 7 years left. This is virtually 0% loan, now that interest rates have gone up)
Planning to rent this out. Rent will cover the mortgage + will make some change as cash flow

Reasons for Change :
Commute, better school( kid would go to school this year) , easy access to library ,park etc.
Price range for potential house 1 to 1.2 M

Finance :
We make about 400 to 450K in combined income. Full fund our 401K, ROTH, 529 .
Current investments are about 1.1M ( excludes primary home) .About 50% of it is in taxable accounts.

Looking for different perspectives or way to think about this.

abonder
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Joined: Sat Nov 03, 2012 10:52 am

Re: Can We afford second home ?

Post by abonder » Mon Mar 04, 2019 4:28 am

I think we lack full information to help you assess. I’ll make a few quick points.

You should decide if keeping your current home is a “good investment” - that is actually run the number. Many times the returns are not great when you consider residential real estate so you might be better off selling and be using the capital to pay down next home etc. maybe you want to keep the home for a specific reason - that could change things.

1-1.2 on 450k salary is a little more aggressive than many Bogleheads would advocate but not crazy, especially given that you have signifant equity in current home and over 1 million in investable assets. I could definitely see it being worthwhile for better schools, commute etc.

Hope more folks will weigh in.

malabargold
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Re: Can We afford second home ?

Post by malabargold » Mon Mar 04, 2019 5:46 am

Sell the first place.

Rus In Urbe
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Re: Can We afford second home ?

Post by Rus In Urbe » Mon Mar 04, 2019 7:16 am

malabargold »
Sell the first place.
+1 Relative to income, your cash stash is not huge and if renters didn't show up, or something else went awry, you're very financially vulnerable, with a little too much locked up in real estate at that point. At least, for my degree of risk tolerance anyway.
I'd like to live as a poor man with lots of money. ~Pablo Picasso

chipperd
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Re: Can We afford second home ?

Post by chipperd » Mon Mar 04, 2019 7:21 am

Based on info here, sell that first home.

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Watty
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Re: Can We afford second home ?

Post by Watty » Mon Mar 04, 2019 10:35 am

boxerbali wrote:
Mon Mar 04, 2019 12:56 am
Current House : ~ 700K value ( about 200K left with low interest, around 7 years left. This is virtually 0% loan, now that interest rates have gone up)
Planning to rent this out. Rent will cover the mortgage + will make some change as cash flow
When the question about keeping a home you have lived in as a rental comes up it almost never makes sense, especially if you will use a property management company. You can post more of the specifics about your house and what it would rent for if you want people to pick apart the details but some of the main points are;

1) You will likely lose the homeowners capital gains exemption of $250K($500k for a couple) and then have to pay capital gains taxes on that if you ever sell the house.

2) Even if you use a property management company you still have to keep an eye on them and manage them. Some companies will rip off owners, or just be incompetent. You will periodically have to find a new property management company. Even if you have a find good one whoever runs it will eventually retire, die, or change jobs. Finding a new company will not be easy when you are 80 and may be less capable. You need to have an exit strategy.

3) If you keep it you will have the better part of $2 million in residential real estate in the same city. Unless you have an 8 figure net worth that will be a diversification problem.

4) You may be comfortable with doing what needs to be done to manage a rental but you die or get disabled then your spouse(if you have one) will have to manage the property and they may be less capable. When you die your heirs will not be able to sell the house until the current lease expires so it could cause it to take several years to settle your estate. Your heirs may be forced to sell the house in a bad real estate market which could force them to greatly discount the price of the house to sell it fast. If you have an even number of heirs(like two kids) then they have disagreements about the details of selling the house and that can cause hard feeling. It is also likely that the work that goes into selling the house will all fall on one kid and that can also cause some resentment.

5) One problem that people overlook is that the things that make a home a good home to live in are often different than things that make a house a good rental property. It varies by market but finding good renters for a $700K house may be a problem too since people with good credit could buy a $500k house or condo instead so the same price. People that have a special situation where it makes sense to rent a $700K house will likely also move in a year or two when their situation changes.

6) When you apply for a new mortage lenders will mostly or totally disregard the rental income since there is not several years of rental history. You will also need to sell enough of your taxable investments to have a 20% down payment on the next house and that can generate a lot of capital gains taxes. They will also count your old mortage and mortage payment against you in your loan application so you may not qualify for a second mortage.

7) When you convert a home you lived in to a rental property the way the depreciation works is tricky and likely a lot lower than if you just bought an investment property. This may result in most of the rental income being taxable to you which may greatly increase your taxes. Many areas also have special tax breaks for owner occupied houses that you will lose. If you keep it as a rental you will be running a "small" business that is worth $700K so you need to treat it like a business and have a written business plan, including professional tax advice and several possible exit strategies before you decide if you want to keep it or not.

Shallowpockets
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Joined: Fri Nov 20, 2015 10:26 am

Re: Can We afford second home ?

Post by Shallowpockets » Mon Mar 04, 2019 11:47 am

Well, the previous post said it all.
And to echo the other posters, sell the house. So much simpler. Don't get copaught up in FOMO. Fear of missing out on some sort of pie in the sky that the rental will pay for the house and it is a good investment.

Topic Author
boxerbali
Posts: 92
Joined: Wed Oct 14, 2015 12:48 am

Re: Can We afford second home ?

Post by boxerbali » Mon Mar 04, 2019 2:15 pm

Watty wrote:
Mon Mar 04, 2019 10:35 am
boxerbali wrote:
Mon Mar 04, 2019 12:56 am
Current House : ~ 700K value ( about 200K left with low interest, around 7 years left. This is virtually 0% loan, now that interest rates have gone up)
Planning to rent this out. Rent will cover the mortgage + will make some change as cash flow
When the question about keeping a home you have lived in as a rental comes up it almost never makes sense, especially if you will use a property management company. You can post more of the specifics about your house and what it would rent for if you want people to pick apart the details but some of the main points are;

1) You will likely lose the homeowners capital gains exemption of $250K($500k for a couple) and then have to pay capital gains taxes on that if you ever sell the house.

2) Even if you use a property management company you still have to keep an eye on them and manage them. Some companies will rip off owners, or just be incompetent. You will periodically have to find a new property management company. Even if you have a find good one whoever runs it will eventually retire, die, or change jobs. Finding a new company will not be easy when you are 80 and may be less capable. You need to have an exit strategy.

3) If you keep it you will have the better part of $2 million in residential real estate in the same city. Unless you have an 8 figure net worth that will be a diversification problem.

4) You may be comfortable with doing what needs to be done to manage a rental but you die or get disabled then your spouse(if you have one) will have to manage the property and they may be less capable. When you die your heirs will not be able to sell the house until the current lease expires so it could cause it to take several years to settle your estate. Your heirs may be forced to sell the house in a bad real estate market which could force them to greatly discount the price of the house to sell it fast. If you have an even number of heirs(like two kids) then they have disagreements about the details of selling the house and that can cause hard feeling. It is also likely that the work that goes into selling the house will all fall on one kid and that can also cause some resentment.

5) One problem that people overlook is that the things that make a home a good home to live in are often different than things that make a house a good rental property. It varies by market but finding good renters for a $700K house may be a problem too since people with good credit could buy a $500k house or condo instead so the same price. People that have a special situation where it makes sense to rent a $700K house will likely also move in a year or two when their situation changes.

6) When you apply for a new mortage lenders will mostly or totally disregard the rental income since there is not several years of rental history. You will also need to sell enough of your taxable investments to have a 20% down payment on the next house and that can generate a lot of capital gains taxes. They will also count your old mortage and mortage payment against you in your loan application so you may not qualify for a second mortage.

7) When you convert a home you lived in to a rental property the way the depreciation works is tricky and likely a lot lower than if you just bought an investment property. This may result in most of the rental income being taxable to you which may greatly increase your taxes. Many areas also have special tax breaks for owner occupied houses that you will lose. If you keep it as a rental you will be running a "small" business that is worth $700K so you need to treat it like a business and have a written business plan, including professional tax advice and several possible exit strategies before you decide if you want to keep it or not.
Thanks for the detail answers. Few additional info we are in mid - 30s. And I agree with your way of thinking.
The way I am thinking is
1. We can sell first house a year later if that becomes too much and still get tax free appreciation .
2. I consider this as an annuity on 500K which starts after 7 years once hours is fully paid off. Anything wrong on this thinking ?

Topic Author
boxerbali
Posts: 92
Joined: Wed Oct 14, 2015 12:48 am

Re: Can We afford second home ?

Post by boxerbali » Mon Mar 04, 2019 2:20 pm

Watty wrote:
Mon Mar 04, 2019 10:35 am

7) When you convert a home you lived in to a rental property the way the depreciation works is tricky and likely a lot lower than if you just bought an investment property. This may result in most of the rental income being taxable to you which may greatly increase your taxes. Many areas also have special tax breaks for owner occupied houses that you will lose. If you keep it as a rental you will be running a "small" business that is worth $700K so you need to treat it like a business and have a written business plan, including professional tax advice and several possible exit strategies before you decide if you want to keep it or not.
This is very important question. No, I will not buy my current house as rental property and pay 700K for it unless Its my primary house

KlangFool
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Joined: Sat Oct 11, 2008 12:35 pm

Re: Can We afford second home ?

Post by KlangFool » Mon Mar 04, 2019 2:25 pm

boxerbali wrote:
Mon Mar 04, 2019 2:15 pm

Thanks for the detail answers. Few additional info we are in mid - 30s. And I agree with your way of thinking.
The way I am thinking is
1. We can sell first house a year later if that becomes too much and still get tax free appreciation .
2. I consider this as an annuity on 500K which starts after 7 years once hours is fully paid off. Anything wrong on this thinking ?
boxerbali,

Or, Murphy strike. You lost your job and you cannot sell your first house. And, you are foreclosed on both houses. The risk exposure is too high. Sell the first house.

Certain risk and mistake are big enough to wipe you out. It is not worth taking that kind of risk. And, for what? One year worth of rental/appreciation versus total wipe out.

KlangFool

User avatar
Watty
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Re: Can We afford second home ?

Post by Watty » Mon Mar 04, 2019 5:34 pm

boxerbali wrote:
Mon Mar 04, 2019 2:15 pm
2. I consider this as an annuity on 500K which starts after 7 years once hours is fully paid off. Anything wrong on this thinking ?
boxerbali wrote:
Mon Mar 04, 2019 12:56 am
Rent will cover the mortgage + will make some change as cash flow
You are missing that your mortage on your next house would also be $500K larger which would require a mortage payment of around $2,500 a month more than if you put your home equity into your next house.

You also need allowances for maintenance, vacancies, and the occasional bad tenant.

Ouch !

KlangFool
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Re: Can We afford second home ?

Post by KlangFool » Mon Mar 04, 2019 5:41 pm

Watty wrote:
Mon Mar 04, 2019 5:34 pm
boxerbali wrote:
Mon Mar 04, 2019 2:15 pm
2. I consider this as an annuity on 500K which starts after 7 years once hours is fully paid off. Anything wrong on this thinking ?
boxerbali wrote:
Mon Mar 04, 2019 12:56 am
Rent will cover the mortgage + will make some change as cash flow
You are missing that your mortage on your next house would also be $500K larger which would require a mortage payment of around $2,500 a month more than if you put your home equity into your next house.

You also need allowances for maintenance, vacancies, and the occasional bad tenant.

Ouch !
+1,000.

A) Do not sell the first house and assume that the second house is 1.2 million. OP would have 1.2 million (second house) + 200K (first house) = 1.4 million mortgage.

B) Sell the first house and put the equity into the second house. OP would have 1.2 million - 500K = 700K of the mortgage.

KlangFool

runner540
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Re: Can We afford second home ?

Post by runner540 » Mon Mar 04, 2019 6:07 pm

boxerbali wrote:
Mon Mar 04, 2019 2:15 pm

The way I am thinking is
1. We can sell first house a year later if that becomes too much and still get tax free appreciation .
2. I consider this as an annuity on 500K which starts after 7 years once hours is fully paid off. Anything wrong on this thinking ?
1. You need a business plan and a benchmark for your expected returns, after costs, and a strategy to exit if it's not hitting the targets. You are tying up $500-700k of capital. Risk adjust it for the concentration risk of $2MM in one real estate market.
2. An annuity doesn't require any work; a rental property does.

bltn
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Joined: Mon Feb 20, 2017 9:32 pm

Re: Can We afford second home ?

Post by bltn » Mon Mar 04, 2019 6:30 pm

In the past I kept my house I moved from twice as a rental. I learned that rental houses are a lot of trouble, and the returns on the invested money were very modest after maintenance costs. Sell your first house and roll the money into your new house to lower the mortgage payments. Put a 15 year mortgage on the new house and prepay a bit if you can.
Congratulations on your saving at your age. Keep going.

bluebolt
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Re: Can We afford second home ?

Post by bluebolt » Mon Mar 04, 2019 7:49 pm

abonder wrote:
Mon Mar 04, 2019 4:28 am
1-1.2 on 450k salary is a little more aggressive than many Bogleheads would advocate but not crazy, especially given that you have signifant equity in current home and over 1 million in investable assets. I could definitely see it being worthwhile for better schools, commute etc.
Assuming 20% down, we are talking 800K-960K loan. So a loan of 1.8x-2.1x salary. I don't think there are even many Bogleheads who wouldn't think that's doable. And the 3x rule of thumb may apply less to high income families if they are otherwise fiscally responsible.

megabad
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Re: Can We afford second home ?

Post by megabad » Mon Mar 04, 2019 8:08 pm

boxerbali wrote:
Mon Mar 04, 2019 12:56 am
Current House : ~ 700K value ( about 200K left with low interest, around 7 years left. This is virtually 0% loan, now that interest rates have gone up)
Planning to rent this out. Rent will cover the mortgage + will make some change as cash flow
I view real estate investing as a ROE problem. You would need to rent this property for something like $8k per month for me to even consider it worthwhile for tying up $500k. As long as the ROE is there, but I would run these numbers carefully as other posters have said.

Reasons for Change :
Commute, better school( kid would go to school this year) , easy access to library ,park etc.
Price range for potential house 1 to 1.2 M
Sounds totally reasonable to me.

Finance :
We make about 400 to 450K in combined income. Full fund our 401K, ROTH, 529 .
Current investments are about 1.1M ( excludes primary home) .About 50% of it is in taxable accounts.
I would be a little concerned that your savings are so low given your income, but I assume you are in medical or law and had a long educational period (ie. you only started making that 450k recently). If so, than this is not a concern since your savings rate will be plenty high in the future.
In short, yes you can afford it no problem. Whether you should rent the current home is a separate issue.

quantAndHold
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Re: Can We afford second home ?

Post by quantAndHold » Mon Mar 04, 2019 8:18 pm

Buying the new house seems reasonable. But like Watty said, the house you bought to live in yourself almost never makes a good rental, because the things that make a good rental are different than the things that make a good owner occupied place. If you want an investment property, sell the old house, learn how to evaluate rental properties, and buy a different place specifically as a rental. If I were buying investment properties, I would be looking at small multi-unit places, not single family homes.

Topic Author
boxerbali
Posts: 92
Joined: Wed Oct 14, 2015 12:48 am

Re: Can We afford second home ?

Post by boxerbali » Fri Aug 02, 2019 4:08 pm

megabad wrote:
Mon Mar 04, 2019 8:08 pm
boxerbali wrote:
Mon Mar 04, 2019 12:56 am
Current House : ~ 700K value ( about 200K left with low interest, around 7 years left. This is virtually 0% loan, now that interest rates have gone up)
Planning to rent this out. Rent will cover the mortgage + will make some change as cash flow
I view real estate investing as a ROE problem. You would need to rent this property for something like $8k per month for me to even consider it worthwhile for tying up $500k. As long as the ROE is there, but I would run these numbers carefully as other posters have said.


This makes perfect sense. For time being I have rent out this home with one year lease. But I will be selling it as soon as lease is up. I just want to save on property gain tax and wanted to lean what it feels to be a landlord. How did you come up with 8K figure to even out on investment ?

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