Moving Up From Your Home: Sell it or Rent it?

Last week, I met with a couple to discuss their move up plan. They have decided that the time is right to buy a bigger home, but need advice on what to do with their current residence in Los Altos—to rent or to sell.

They’re also concerned, if they do decide to keep their home as a rental, whether they can secure the necessary financing to make that happen.

They’re certainly not alone; I have met many homeowners who ponder the same question as they try to move up.

First and foremost, I do think that keeping a rental in Los Altos is a good investment move. Los Altos has been doing well in the past year compared to many neighborhoods, but the price level has yet to return to its previous high. Additionally, it probably is a good opportunity to diversify your portfolio if you haven’t any real estate in your investment profile yet. After all, if past performance is of any guidance, owning a home in Los Altos has been one of the best real estate investment vehicles you could possible find.

However, if you, like many homeowners, have a mortgage attached to the home, you have to first sort out the financial scenarios: Does the rental make financial sense? What kind of financing would you need?

While real estate in Los Altos has been a good long-term investment, it doesn’t necessarily give you the best short-term yield. In general, we’re looking at between 3 to 4 percent of return for most rental homes. The net is less after all the expense, including property taxes, interest payment, and maintenance costs, are taken into account. In fact, it is not uncommon for landlords to be left with a negative cash flow, depending on the size of their mortgage.

We know, however, that it’s not just about the rental yield. It’s the prospect of long term appreciation that matters most. If you add the estimated long-term appreciation to the formula, you probably will find Los Altos to be one of the best locations to invest in real estate. The key is to have a truly long-term commitment in your investment, and to be comfortable with the monthly cash flow.

Even if the numbers look right, managing a rental is not always an easy experience.

I’m sure every landlord will have some unpleasant stories to share. There is also a learning curve involved if you’re doing it for the first time. The good news is, hiring a property manager, who usually charges between 7 to 8 percent of the rent, is always an option.

Now you have determined that it makes sense to keep your current residence as a rental after moving up, and you feel perfectly comfortable with the numbers you see. You still need to make sure that your lender is in agreement with you.

Even if your plan is to convert the home into a rental, most lenders would require you to qualify for both mortgages with your own income unless you have already have a signed lease in place. And they usually don’t count 100% of the projected income from the property.

It is thus very important to consult your loan agent in the upfront to make sure that proper financing arrangement can be made. It is especially so nowadays when lending guidelines can change rapidly without advance warning.

Many homeowners would like to keep their current residence as a rental after buying a new home. Having the tenants pay off your home is an attractive proposition. While it may sound like a smart investment move, be sure to do your homework properly so that you know it actually makes the financial sense.

Having the financing arrangement in place ahead of time is also critical to avoid any last minute surprise, if you plan to obtain a sizeable mortgage.

Winnie Yip Fong, a Los Altos resident and a local realtor, writes a monthly column to provide advice and her insights into the local real estate market. Email her to winniefong.realestate@gmail.com for any suggestions or comments. Or follow her on www.twitter.com/SVHomes for more real estate updates.