You’re locked into a great mortgage. A refi from two years ago that was an amazing financial decision. You’re moving and you’d hate to lose that mortgage. Should you sell or rent the house and continue to benefit from that low rate?
Lower rates mean lower carrying costs, higher annual profits, and stronger overall return.
You’re right to be attached to the mortgage, because it’ll probably be a long time before we see rates like that again. You know that boomer who reminds you about their 18% first mortgage from the early 80s? You might be regaling America’s youth with 2.65% mortgage tales.
We covered how mortgage rates are determined in this podcast episode. It’s a spread over the ten-year treasury. Given the average historic rate and spread, I feel comfortable saying a normalized mortgage rate is around 6%.
Yours is less than half that, which is why you’re asking: should I sell or rent my house?
First, Can and Should You?
Make sure you can afford to rent it. You might need the home equity to afford your new place. Seems obvious, but needed saying.
Being a landlord is about more than making the numbers work. Dual-home ownership is a peach. Not a week goes by when my wife and I aren’t looking at a new expense for one of our two houses. Our kids are cheaper and more reliable…
Besides the costs, do you have time to be a landlord? If you’re not handy and already feel stretched in life, do you want to add this to your plate? Finding tenants, credit checks, security deposits, troubleshooting, etc. A property management company can help, but they take a cut and love spending your money.
Still up for it?
Building Your Model
My book, Beyond the Basics: Maximizing, Allocating, and Protecting Your Capital has a chapter about real estate investing. It gets into the when and how and dispels real estate investing mythology. Our main takeaway here? You need to build a model to see if renting your home makes sense.
Start with the end in mind. What would the model have to show to make it an attractive rental opportunity? For me, real estate is a bigger hassle than investing in stocks and bonds, so I wouldn’t do it unless I was targeting better returns than a long-term growth-oriented portfolio – say 8%.
However, people who aren’t comfortable investing in stocks might target a return hurdle closer to bonds plus – say 6%.
First, revenue. Search for similar homes, talk to a realtor, or use an online tool like Rentometer to see what your home would rent for now.
Assume a vacancy rate. 90% occupancy is more reasonable than 100%.
Then model a rent increase. I use 3%.
For expenses, include property taxes, insurance, maintenance and repairs, financing, property management, relevant utilities, and condo or HOA fees. For all expenses (except your mortgage) assume the same 3% inflation. The maintenance and repair costs might be a guess, so you can use 1.5% a year of the property’s value.
Price increases. A real estate myth is that prices go up faster than the stock market. Real estate can build wealth, but not primarily through price appreciation. Long-term studies show that historically real estate prices haven’t grown much faster than inflation. Use 3.5%.
With the inputs in, calculate the total lifetime expected profit. For example, assume you rented a property with a thirty-year mortgage. When the mortgage is paid off, your profit would be your home’s value, minus your initial down payment, plus the aggregate surplus rents over the thirty years.
Translate that total profit into an annualized return and compare it to your initial return hurdle for making this investment.
Final point: in some markets, there’s limited inventory which is pushing prices higher. Taking advantage despite losing your amazing mortgage could be a good decision.