JtR note: If your house isn’t selling, and you are thinking of renting it instead, base the decision on your encumbrances, and your ability to hold out. If you can have a positive cash-flow from renting, then great, consider the joys of being a landlord, and plan to hunker down for the long-term.
But the sellers who are highly-encumbered should sell now, because your selling difficulty will remain high in the short-term (next few years) due to:
a. Trying to sell a tenant-occupied property (they usually don’t show as well, or as easily).
b. Trying to sell a previously-tenant-occupied property (tune-up costs + monthly payments add up).
c. Any combination of lower prices or higher interest rates.
Sell for what you can get today, or risk selling after one (or more) of those impact you.
The country is finally starting to see some positive signs in the housing market. But don’t tell that to Treasury Secretary Tim Geithner, or the countless other Americans who still can’t sell their homes.
After leaving the tony New York City suburb of Mamaroneck to take his new post in Washington, D.C., Geithner put his five-bedroom Tudor home on the market for $1.635 million.
That was in February. By May, he cut the price $60,000 but still got no takers. A few weeks later, May 21, the home in New York’s Westchester County was reportedly rented for $7,500 a month.
“Mr. Geithner’s house is a textbook example of what is happening in the market here,” said Leah Caro, president of Bronxville-Ley Real Estate and president of the Westchester Board of Realtors. “Many sellers are bringing their houses on [the market], finding that they don’t have a buyer for it, making price adjustments in hope of luring a buyer into the marketplace. In the case of Mr. Geithner, he had to move. And renting was his best option.”
Many properties in the suburbs north of New York City are on the market both for rentals and sale, real estate agents there said.
“Sellers who are trying to sell their houses and may not be able to, have decided that getting some money every month is better than getting no money, particularly in the case of vacant homes or owners who are relocating,” Caro said.
And while $7,500 a month might seem a lot to rent Geithner’s 3,600-square-foot home that includes an eat-in kitchen with black granite countertops, it probably falls short of his monthly expenses for the house.
Records show Geithner and his wife, Carole Sonnenfeld Geithner, paid $1.602 million for the home in 2004. The couple have two loans totaling $1.25 million and pay about $27,000 a year in property taxes.
Scott Stiefvater of Stiefvater Real Estate in nearby Pelham, N.Y., said that rentals right now are surpassing the sales.
“The renters are coming in in droves. There are people coming in from Argentina, London, all over the country, all over the world and they’re coming to Westchester and they’re looking to rent before they buy,” Stiefvater said. “People are still waiting for the bottom and they just haven’t seen the bottom, so they don’t want to invest all their money in real estate yet.”
Some people are signing rental leases with the possibility of buying at the end of the rental term, he said. Other clients come in and try to see which of the sellers might be willing to rent, instead.
In that kind of market, it was probably wise for Geithner to rent. His last asking price was already $27,000 less than what he paid five years ago for the house. Add in any improvements he made to the home and a broker’s fee — up to $90,000 on a sale like that — and Stiefvater said he could be anywhere from $200,000 to $400,000 in the hole. That’s about the size of his down payment.
“I don’t think anybody’s in a position to say that he overpaid, or anybody overpaid, when he bought his house because market value is market value,” Stiefvater said. “Back in the those days, everybody was overbidding — I’m not saying overpaying, but overbidding — and getting into bidding wars and multiple offers escalated the sale prices to what I think was higher than market value.”
Stiefvater said renting was a “wise choice” for now.
“If the market continues to go down, as some are saying, and he loses his tenant next year and can’t find another tenant to pay him the $7,500 that he’s getting now … that’s a different story,” Stiefvater said. “The market is overflowing with similar houses and he’s not prepared to reduce his price to reflect the true market value.”
But there is a flip side to this as well; higher rents for houses. Right now very few people are buying at the high-end, and, raising 20% down is no small feat. There is a deep demographic who will not, and/or, cannot buy a home now but want to live in good areas. This situation is not likely to change.
I personally rented my former residence with a 15% increase in rent when my current tenant gave notice. It took 7 days to lease it and the lease was in place 6 weeks prior to the last day of my current tenant’s lease. High quality, high credit, professionals.
JtR has some great insights in this entry but I’m passing this on to other because really being a landlord for me has been positive so far. It can be a nightmare too but so is losing your home or taking a bath on reduced price right now.
Don’t believe me? Go to Craigslist and look for rentals in a good neighborhood, 3 bedroom or more with images.
I think the trick, Mozart, is to rent out an upscale house in an upscale area. Higher rent attracts higher quality people.
If you buy a run-down entry-level house as a rental property, you’re likely to get tenants of similar quality.
When will people learn that if they want to make a return on their investment, then they will invest in assets that don’t depreciate. Buying a house is not an investment in making money! There is no return! You’re not even projected to return more than inflation. Get it through your skulls America, just because you got lucky once does not guarantee that you will get lucky twice.
I humbly await the day when housing is cheap enough to where I can afford a reasonable place to raise my family. Until then, I’m parking my cash where it belongs, dividend yielding stocks that actually provide a “return.”
Mozart, thanks for your response. I was a bit worry when I read JtR blog. My husband and I are getting ready to rent out our home in Carlsbad. We don’t want to sell it because that is really our dream home (ok, also, the value has dropped 20%).
We have hired a property management company to help us find tenants. Hope we are lucky enough to get tenants like yours.
Susan- Go Craigslist, it is the best way to find renters. Make sure to post images from a sunny day. Go higher than you think you would likely get. As contrarian as I am, JtR is to me very, very impressive in his insights. I just don’t agree with selling right now.
And chrisL, there is a lot of debate about real estate vs. stock market. Both seem to do about the same, 7-9%. Do a quick Google and check for yourself using real estate and stock market 40 year averages.
I’ll use Timmay as the example:
If he sold today for $1,330,000, he’d end up with enough proceeds for a steak dinner, after 5% comm. and 1% closing costs.
If he did a 75/10/25 loan package when purchasing, and got 5.5 inyerest-only on the 1st, and 7% IO on the 2nd, his payments are around $8,155 per month, or -$7,860 per year.
A year from now he decides to sell, puts $50,000 into it for tune-up and carries it vacant for 4 months (because he won’t get the price right immediately)
$50,000 + $32620 + 7,860 = $90,480.
He’d have to sell for $1.42 million to net the same as selling it today.
Whoops, it didn’t sell a year later, and he decides to rent and wait again?
$1.42 + $32,620 + 7,860 = $1.46 million
The unwillingness to incur the pain now, just makes it worse later, unless prices increase.
Long-term? OK risk. Short-term, No way.
Sorry, but you’re dead wrong. Higher rents do not attract better people. Indeed, lower rents attract a greater number of people, some of which will have better credit and better propensity to save.
Higher rents reduce your renter pool. Often times, you’ll have a better selection and rent quicker when you’re competitively priced compared with other rentals. You might even attract excellent tenants to move from their long-term rental to your own.
To me, it sounds like Mozart was either already too low on his original rents, or he got lucky. When you’re playing with statistics, make sure you do not base your conservative assumptions on outliers. The most important part of a rental is to keep it rented, and ensure monthly payments coming in with a security deposit to keep the renter’s skin in the game. However, keep in mind that you will need to maintain the house so that good renters will stay.
I have many excellent examples of what not to do when renting out places both from seeing what others did wrong and making my own mistakes. Pricing a rental too high is a classic mistake. It’s as bad as trying to price a rental to cover expenses. No way is Timmay covering his expenses; he’s making the smart move of cutting his losses.
Sorry, I meant to add that he’s making a wise choice because I don’t think he’ll be in Washington for too much longer. He needs a place to live when he gets back.
LOL – that’s right, you always have to consider if you might be moving back!
#2 Locomotive Breath hit the nail on the head. If you are going to rent out your property, the nicer the house, the better the applicants. I manage 50+ properties and the few dogs I have left get the most questionable applications. If you have a nice house in a good area you should be getting very qualified apps, especially in the Summer.
# 1 rule in renting:
Do not rent to people with bad credit, they will screw you every time..A 500 credit score is garbage.Keep it to 700 plus.
I’ve been renting ever since selling in 03 and I can tell you with certainty rents are down from 06 in Santa Monica, Venice, South Orange County and even up here in San Francisco. And since we may have to move again (Land Lord has decided to let this place go back to the bank) I can also say with certainty rents this summer in SF are 10% below (in some areas 15% below) last summer.
And while there is competition for the good places, I either must be the best renter or the competition is just not as intense as Mozart says.
I do agree with Mozart that Craigs list is the best source. You must post pictures and I will also say when we have decided to move and rent a new place in the past 5 years, we have definitely put any postings by realators on the B list (sorry Jim) since they are almost universally higher priced / lower quality than the units posted by directly by land lords.
So while Mozart’s data point is valid, he has one data point and as the person renting, I have seen (not just the postings) dozens of data points and my data says rents are going down, not up.
Just a Broker,
To be clear, that’s not what Loco Breath said. He said:
You said he said:
You can’t overprice a junky house. Higher rents in that case will limit you to people with terrible credit but nothing to lose by paying more. (cause they won’t be paying you for long)
This is a critical error that people make. Better houses (at market or below rates) attract more and better applicants, not higher rents.
I respect your opinion and dividend yielding stocks might, indeed, be the best option for you. However, I have lived long enough to see many seemingly reliable long-time dividend producing companies drop drastically in value or even collapse entirely. Every investment has some risks. Even the safest places to preserve your principal have the risk of loss due to inflation.
While it may or may not be a good time to buy (I’m definitely not going there 🙂 ), purchasing a home that you live in long term can be a very good investment. Keep in mind that a 2 or 3 percent average annual gain over the years on housing applies to the total cost of the house. Typically, your investment as a homeowner is no more than 20 percent of that cost, but you get all of the gain (less upkeep and eventual sales costs). So, a two or three percent annual gain is much greater based on your actual investment. There are, of course, costs involved in ownership and a lot of other complications.
There are people who have owned long term and not taken cash out of their homes who are now living in 3 bedroom homes that cost them less per month than people pay for studio apartments. And, there are people who bought 20 years ago whose current post-bubble equity is worth over six times the amount of their initial investment.
If you need immediate cash returns, home ownership is not a great investment and there are plenty of better places to put your money. Renting and investing elsewhere undoubtedly makes sense for some people. One of the problems of the recent bubble is that people begin to look at homes as ways to get a quick return. That’s not a good bet, but, in my personal experience, over the long term, home ownership can pencil out well.
Agreed from the tenant side that you don’t need a prop. manager to help you find tenants. Post it on craigslist. Also agreed (and JtR was the one who really drilled this home for me) that you should keep your rent price a bit lower to attract plenty of good tenants.
I think supply is meeting demand in the higher-end areas. We rented in Solana Beach; I flew down here one day from the Bay Area (2nd Southwest flight in; last flight out), looked at 2 places, picked this one, and signed the lease app that day. Landlord approved us that week and we moved in a month later. I did this because we had previously missed a nicer place — couldn’t get down here in time.
So things are renting quickly, but there’s certainly no shortage of nice houses being placed up for rent here. Landlords are happy; we’re happy. Win-win!
By the way, my current landlord says he owns 30 properties around San Diego, from downtown condos to a duplex in Oceanside, and this property in Solana Beach always gets some of the best renters — good credit and pay on time. That’s one reason why, as a potential landlord in the future, I want to wait until the higher end really drops and then buy a nicer house to eventually rent out.
I do not think rents will go up here over the next year. It seems like a balanced market, not a crazy one (I lived in Silicon Valley in late ’99; now that was crazy!)
@Mozart: “As contrarian as I am…”
You may be contrarian here, but you’re not contrarian out in the real world! When I gave my 30-day notice, my previous landlord in San Jose spent 20 minutes trying to convince me to buy here in SB instead of renting and “throwing my money away.” My *landlord* — the one who is the beneficiary of me “throwing my money away”!
I’m contrarian because I’ve been telling people since 2003 to rent instead of buy in California. I was recently recognized on the street by someone I’d never met — he said, “I read your blog!” followed by “I didn’t buy a house!” And I just grinned. Made my whole day. 😉
The wackos like me here on Jim’s blog do not remotely resemble the market for real estate!
Chuck @#13 re-read Loco’s post as pasted below
I think the trick, Mozart, is to rent out an upscale house in an upscale area. Higher rent attracts higher quality people.
If you buy a run-down entry-level house as a rental property, you’re likely to get tenants of similar quality.
Upscale house/upscale area/ higher rent.
Run down entry level= not so good.
Hopefully we all know overpriced rents don’t work in a period of high inventory.
We let a house go vacant until we decided to sell. It was in Arizona, the Realtors and Property managers warned that Arizona had such renter-friendly laws that low-lifes move there for this advantage. Specifically, it takes a year to evict and during that year the tenants would trash the place and of course not pay any rent.
So the decision to rent your property should be weighed with the local laws regarding renters rights.
Potemkin Villager, I appreciate your argument and logic. I still disagree. If you are financing 80% of your home, then you are not going to make a reasonable return when compared to the amount of return received through stocks. If you were to invest 10k in 1970 versus buying a house for 100k in 1970, chances are you would have much more money in stocks than the house is worth. Not to mention the fact that if you are invested right, those same investments will pay you quarterly dividends or annuities. Compound that over many years and you have yourself a tidy sum.
Susan (and others):
Here is a tip that I use–If you are going to post an ad on Craigslist (or other sites) for rental property, try using POSTLETS to create your add–you can do so much more with the ad and it looks much more professional. Here is the link:
Living in DC now, there’s actually a fair number of house of this level of expense that are for rent. Who owns them, why do they get rented? Simple: its a fair number of foreign service folks who go out on year or two deployments. They get rented often by foreign families who are diplomats themselves or some-related international job. For instance, in my neighborhood, the U.S. lobbyist for the New Zealand lamb council just left (he was popular at block parties) and was replaced by a guy who lobbies for the Australia lamb council. (No joke…) The house is owned by a state department guy who’s been stuck in like Saudi Arabia for a few years.
I’m assuming the New York high-end rental market has the same deal where you replace “lobbyist” for “finance guy”.
I’ve owned and rented out apartments in SoCal before. Yuck. Even got a nice call once from the Escondido police saying there had been a drive-by shooting at one of our places…
My home is the perfect 2 homes on one lot(1.3 acres) and I currently rent out our guest house to a single woman who is an awesome tenant. A retirement plan would be in 10 years to remodel the guest house and its single garage and move into that with my wife as we’ll be empty nesters. Then rent out our 5200 sq ft/3 car garage house to an exec w/ family as retirement income. I would highly recommend a property like ours.
Here is my experience with the house we rented; First my tenant gave me notice that he was moving out back in April. He was paying $2,800. I went to Craigslist at $2,950 and I was overwhelmed. I had 14 people within 3 days and others willing to sign right away, (the pictures helped). Luckily, my tenant asked if he could stay until September. I told him that was fine but we’d need to raise the rent in September if he chose to remain after that. He glibly told me he could rent a house on the beach for the same price. He was wrong.
This time I went back out at $3,200 and got it in 3 days also with a back-up though I had about 7 people interested, 1/2 of what I got before. My friends who rented their place in Mission Hills had the same experience with rent at $3,600. Both homes are nice but not big.
My point is that it’s tough to buy, the affordable locations aren’t desirable, there is a scarcity of nice homes for sale at a price point that compares with renting. Add to this the unfortunate and foolish who folded on their home loans and now must wait for a long time to buy again if ever. With prices leveling out a lot of people are going to be renters for a long time to come.
It sure feels like 2000 all over again.
Your facts about arizona evictions are way off.It takes about 21 days to evict someone, not a year.Az is not full of lowlives.At the first if no rent send a five day notice.Wait five days if they sign for it. If you get no rent after that contact attorney to get a court date, usually 5-7 days.At court date if tenant does not show you get a judjement for back rent and the tenant has 5 days to get out.If they are not out after 5 days file a writ of restitution and the constable comes out a couple days later.
“The country is finally starting to see some positive signs in the housing market. But don’t tell that to Treasury Secretary Tim Geithner, or the countless other Americans who still can’t sell their homes.”
Those two sentences contradict each other.
Also, who paid $7,500 a month to rent THAT place? The government?
I know that area. If you can afford to be there, you don’t need to rent.
“There are people coming in from Argentina, London, all over the country, all over the world..”
I’m only saying that because runaway immigration is one of the problems that has led to the crazy housing situation in California and other places.
Who cares. Like everyone in upper politics, he will walk out of D.C. with a $40 million a year job or speaking fees. The house means nothing to him.
crisL, you’re neglecting the power of leverage. If you put $10K into the market and get 8% (long term market average including dividends), your return is 8% of $10K. If you put $10K into a $100K house that appreciates at 3%, your return is 3% of $100K, for an ROI of 30% on your $10K invested. Yeah, I know, greatly simplified, but I think you get the idea.
No Ross, you have to pay interest on the 90k. And interest on 90k is more than 3% on 100k.
Ross, leverage cuts both ways. If your house declines in value then you have to make up the difference. Plus there is closing costs, taxes, interest and other misc fees involved. I, on the other hand, can buy $10k worth of stock for around $7 dollars. If I wanted, I could leverage and buy options. However, I don’t feel like speculating like these housing individuals did, so I won’t buy options and lose that money.
Compound the dividend quarterly, minus taxes, and you can expect to gain decent money over time.
Every person I know renting out as a last resort is cash flow negative. They balance that out by moving into a lower rent apartment. The savings by moving make up the difference in cash flow and then some. On the other hand, you’re basically servicing the price of your house to live in an apartment on the hope for a recovery around the corner.
The greatest risk is vacancy.
Looks like Timmy the Tax Cheat took Alan Greenspan’s advice and bought more house than his income would justify.
Given the information provided by Mozart, I couldn’t resist crunching the numbers to see what kind of return he is going to earn by holding this property long-term. I have made some simplifying assumptions, as the calculation of cash flows can be complicated (primarily tax considerations).
Here are the assumptions:
Amount paid: $795k
Amount financed: 80%
Mortgage rate: 5.25%
HOA fees + Maintenance (annual): $3,600
House value: $795k (no depreciation since 2006)
House price appreciation (annual): 3%
Rent (monthly): $3,200
Realtor fees upon sale: 3%
Holding period: 30-years
Rate of return on equity: 9.5%
What could cause the return to be lower? Higher interest rate. Higher monthly maintenance/HOA/insurance expenses. Periods of vacancy. Higher Realtor fees. Lower starting home value. Lower appreciation (house value and/or rent). Higher taxes (capital gains, property taxes, etc.). Less leverage (greater down payment). Improvements made but not reflected in the home value (taken from Zillow).
What could cause the return to be higher? Not much. Lower rate. More favorable tax treatment (deducting mortgage interest, depreciating building, sheltering other forms of income offset by tax expense not included – property and capital gains). Higher home value appreciation. Maintaining costant leverage (80%).
To hinge one’s hopes on a resurgence of high-end home values will probably prove to be a costly losing bet. Being slowly bled to death due to being cash flow negative while at the same time watching the comps decline must be very frustrating. Question is how long will these owners be willing (or able) to stomach the ongoing losses before they pull they plug?
Call me crazy but in my book, investments that lose me money month after month are not sticking around my portfolio for long unless I am seeing a big payoff down the road. I guess if a high-end homeowner believes rents and/or values are going up, that would be the payoff. Problem is that there isn’t really any convincing evidence that either is going to happen anytime soon, but instead things have been heading in the opposite direction. Seems like a bad bet right now. Look at the guy who couldn’t get his price in ’07 so he rented the place out – he’s been bleeding every month for 2 years while watching big chunks of value getting hacked out as well. My bet is the guy who does the same in ’09 is going to look back in a few years and wish he cut his losses. Which is something most people are unwilling to do – take a loss and move on.
I was one of those who was willing in fact to cut my losses and move on when I sold my house last year. Could have rented it out for negative cash flow, but said the hell with it and sold it and lost over 50% of my down payment in 2 years. No reason to throw good money after bad money, esp when you don’t think that house will get back to the price you paid for it until 2020!
I’m curious why Susan’s moving out of her dream house!
ArozonaDude – this is where the devil is in the details. According to three agents – “do not rent your home” they would have no reason to advise that – especially because they would all have gladly had the property management contract. According to them there are well known tactics to postpone eviction as much as a year (and one would need to acquire a lawyer).
“Living in DC now, there’s actually a fair number of house of this level of expense that are for rent. Who owns them, why do they get rented?”
Apples and sadly, Valencia Oranges. DC is a bustling, growing and vibrant city. People there have upward mobility and can raise thier living standard.
SD, on the other hand, is in decline. Persons here scrape by to pay the 800k 1985 house payment and have very dismal long term employment prospects. God forbid Qcomm go down, this place will fold.
The people with any money here in SD are ‘retired’.
The working class in DC have money.
Allthoug, I should in fairness point out some here who bought in the 80’s are sitting good. They got the 1985 house at 1985 price.
However it must be a funny feeling knowing if you sell you might not be able to buy again. Go from a $500 payment to a $3500..
What a mess!
Interesting findings in a study about So Cal foreclosures. It wasn’t primarily peak buyers…
Michael LaCour-Little, a finance professor at California State University at Fullerton, looked at 4,000 foreclosures in Southern California from 2006-08. He found that, at least in Southern California, borrowers who defaulted on their mortgages didn’t purchase their homes at the top of the market. Instead, the average acquisition was made in 2002 and many homes lost to foreclosure were bought in the 1990s. More than half of all borrowers who lost their homes had already refinanced at least once, and four out of five had a second mortgage.
Borrowers that bought homes without ever putting any or little equity in their homes could have seen huge returns on investment simply by extracting cash through refinancing. “Why such borrowers should enjoy any special government benefits such as waiver of the income taxation on debt forgiveness or subsidized loan modifications to reduce their borrowing costs is at best unclear,” the authors write.
I don’t understand why Timmy didn’t simply sell his house to Goldman Sachs for $5 million in exchange for certain future considerations.
I’m surprised nobody from Goldman Sachs has bought the house. Heh, maybe it would look too much like a quid pro quo?
Tj and the bear:
we are relocating because hubby got laid off, and he found a job elsewhere. We are sad to leave, but in this freaking economy, we take any jobs. We plan to come back once the economy improves, and continue living our dreams.
We have lived in many cities and countries, Carlsbad is the best!
Joe Schmoe, not quite sure how you’re getting the 9.5%
Using the calculator at http://lpbservices.com/InvestmentPropertyAnalysis.xls
I ran some quick numbers on a monthly basis for the $795k home with 20% down:
Assume some basic costs
$100 Maintenance reserve
$50 Misc/Gardening, etc
= $1004 = (Low considering maintenance reserve should be 1% a year)
Mortgage payment on $636k loan at 5.5% (its probably a jumbo, but lets just says its 5.5%) = $3611
$800 (mortgage tax deduction, if you have the income to support a $9600 yearly tax deduction)
So on a simple cash flow basis,
So on a monthly basis, $3200-$1004-$3611+800= -$615
So on a simple ROI, you’re getting somewhere like -6%
So rent need to be higher just to break even.
A retirement plan would be in 10 years to remodel the guest house and its single garage and move into that with my wife as we’ll be empty nesters. Then rent out our 5200 sq ft/3 car garage house to an exec w/ family as retirement income. I would highly recommend a property like ours.
Sorry, but that just sounds like a renter’s worst nightmare. Landlord living in the back yard? Definite negative.
Renters make their own nighmares Anonymous. My current renter loves living here, we take of each other mail, watch each others dogs and keep an eye out when each other is traveling. Owners and renters can create each others win/win scenario when you take the time to chose the proper fit. Just ask JTR. He bought the house next door to his and rents it our so he can create his personal space!
If anybody cares we net about $800/month. I bought the ugliest house on the block in an up and coming neighborhood, fixed it up with a lot of sweat equity.
The house is basically new, no maintenance to speak of. Not huge money but it’s a little something every month. Maybe in about 3-5 years sell it and do it again.
My current renter loves living here, we take of each other mail, watch each others dogs and keep an eye out when each other is traveling.
To each his own I guess, but having my landlord bring me my mail just seems like too much of an invasion of privacy.
I bought the ugliest house on the block in an up and coming neighborhood, fixed it up with a lot of sweat equity.
My 9.5% is the compound annual return assuming the property is sold at the end of 30-years. The 9.5% is not the return number for a specific year. The cash flows in my ‘model’ are negative in the early years and turn positive. The return comes from the fact that I grow the property value at inflation, while obviously the cash outflows (the mortgage payment) is fixed.
The cash flows in the model I was using do not turn positive until year eight.
This is not to say that my assumptions are correct (in fact I think I am being very optimistic), but the math is correct.
The amount you net is irrelevant by itself. I could buy a $5mm house with all cash and rent it out for $3k a month and net something (maybe). That doesn’t make it a good investment (obviously).
I like the Daily Show’s take on this – http://www.thedailyshow.com/watch/wed-july-29-2009/home-crisis-investigation