Sell rental house?

[waverly]

We have a rental house that pays for itself, but it does not pay for the renovations which were unfortunately about 90K.  The house is a short term rental vacation home on a lake.  So basically we are getting a vacation home on a lake for 90K.  We do have a management company that manages the vacation rentals and cleaning for us. 

We can sell the house for a 140K profit and pay off the renovations and student loans.  Would capital gain tax come into play because we are selling for 100K more than we purchased it?

Or we can keep the property, and pay the 90K out of DH's salary and continue to pay on student loans.  We can afford to do so, but it is a grind and not super fun.  But, technically we can do it- it just requires some buckling down.  DH will get a bonus in March that should be about 40K if that helps. 

We can't refinance the renovations into the mortgage right now because the mortgage is a good interest rate before the rates went up and refinancing it now would be worse for us.  

WWMMD?  

[Roc A Bee]

So the amount you rent it out doesn’t cover more than the mortgage that is on the house?

Do you enjoy the vacation rental? Do you use it? Eventually it will be paid off and then technically you will recoup the 90k.

I don’t think I have enough info to tell you what to do.

[waverly]

The amount that we rent it out for covers the mortgage, business expenses, and utilities, but not anything else additional.

We enjoy the rental immensely. Using it this year was difficult because in order to maximize income we couldn't use it in the summer, but we used it for Thanksgiving and Spring break, so about 12 days and one off weekends here and there. It's a lake house and summer is the peak rental season.

If we were to keep it, we will start being more intentional about booking our time there.  It's also midway between us and our families and we saw our families there about 4 times last year cutting our drive in half and not having to pay for a hotel near where they live. 

[orval]

I think I would evaluate if you want to keep it to use. The money part to me isn't the big question. I would absolutely block of a week or two that you want to use it in the summer if you do keep it and take the income hit. Has it rented much in the fall or is this your first fall season? It sounds like you can afford it, but you would be in a better place if you sold it. So again, I would decide if you want it for you.
Also, what about retirement? Would you use this once you retire? It may be worth keeping, if so, with the low interest rate.

ETA Can you possibly charge a little more for the rental if it is renting easliy?  Even $25 more a night will make up $ if it is consistenly rented.

[jwright]

So if you are just covering your mortgage and bills, that's not a good return on investment; with the renovations it may not even be a positive return. It's not a situation you would be willing to invest into as a disinterested third party. The decision to keep or sell would come down to your personal enjoyment of the property and what you'd do with the proceeds.

As for taxes, you would pay tax on the sales price less your cost basis (purchase price plus improvements you've paid for over the years) less selling costs. There is no exclusion for a rental property gain like there is for a personal residence. You'd also have to recapture depreciation you've deducted at your ordinary rates up to 25% whereas the remaining capital gain would be at 15% (or 20% if you are high income).

We have a vacation rental that on paper wouldn't be a BUY but we use it a good bit and our family loves it; there's no motivation to sell. I don't think I'd put $90k into it though; can you sell without putting anything more in or do you need to do these renovations to make it marketable?

[waverly]

orval, this is our second fall season. This year is gains and bounds what it was above last year. Every weekend is booked in September, for example. Winter is very slow and we thought we might get more on the shoulder months than we did. This might continue to evolve to be more on the shoulder months.

We do want it for us, it's a matter of how much I guess. Yes, we would use it once we retire.

[waverly]

Sept 14, 2023 14:37:14 GMT -5 jwright said:

So if you are just covering your mortgage and bills, that's not a good return on investment; with the renovations it may not even be a positive return. It's not a situation you would be willing to invest into as a disinterested third party. The decision to keep or sell would come down to your personal enjoyment of the property and what you'd do with the proceeds.

As for taxes, you would pay tax on the sales price less your cost basis (purchase price plus improvements you've paid for over the years) less selling costs. There is no exclusion for a rental property gain like there is for a personal residence. You'd also have to recapture depreciation you've deducted at your ordinary rates up to 25% whereas the remaining capital gain would be at 15% (or 20% if you are high income).

We have a vacation rental that on paper wouldn't be a BUY but we use it a good bit and our family loves it; there's no motivation to sell. I don't think I'd put $90k into it though; can you sell without putting anything more in or do you need to do these renovations to make it marketable?

Originally DH wanted it as a business and we agree that we don't feel it is a good return on a business investment.  I told him we should think of it as hybrid business/ personal and that makes it more palatable.  We enjoy the property very much and one pro for selling is paying off student loans. 

We can sell right now as is.  

[orval]

waverly,another question -- where did the money for the renovations come from? Is it a seperate loan? credit cards?

[waverly]

Separate loans higher interest rates on these, but not as bad as credit card interest rates.

Student loans have low interest rates if that factors in.

[hbomdiggity]

Are you not charging more after the renovations?

[waverly]

Sept 14, 2023 15:24:59 GMT -5 hbomdiggity said:

Are you not charging more after the renovations?

We bought and immediately renovated then launched the business. Prices vary throughout the year. Pricing is a bit difficult because occupancy is the main thing that we want but too low of a price could lead to people who don’t treat the property well. Priced too high can lose business. So while I think we can increase a little bit overall, perhaps, it wouldn’t make a huge dent. Now increasing occupancy for fall, winter and spring would help. And we’ve taken steps to do so with marketing and seen good response.

[jwright]

Sept 14, 2023 16:00:35 GMT -5 waverly said:

Sept 14, 2023 15:24:59 GMT -5 hbomdiggity said:

Are you not charging more after the renovations?

We bought and immediately renovated then launched the business. Prices vary throughout the year. Pricing is a bit difficult because occupancy is the main thing that we want but too low of a price could lead to people who don’t treat the property well. Priced too high can lose business. So while I think we can increase a little bit overall, perhaps, it wouldn’t make a huge dent. Now increasing occupancy for fall, winter and spring would help. And we’ve taken steps to do so with marketing and seen good response.

How urgent are the renovations?  You said they are not necessary to sell and you are getting more bookings without the investment.  The longer you stay on the listing services and collect good reviews and activity, the higher you will climb in their search rankings and the more bookings you will get.

Can you table the renovations for a year to save money and see if the revenues can start to increase?

[supertrooper1]

As long as you can afford the student loan payments and renovation loan, then I think you should keep the property. Your H's bonus should go towards the highest interest loan.

You enjoy the property and hopefully rentals will keep paying the costs.  I wouldn't hesitate to block off summer time, even if that is your peak.  I would look at this as a vacation home instead of a business.  

[ellipses84]

If you enjoy the property, use it and can afford it, I would keep it. Part of being MM is strategically spending your money on things you enjoy. It sounds like you plan to keep it long term and I think the first year is probably the least profitable. If demand increases you could increase rates in summer and eventually you will pay it off (a large lump sum in spring will help) and use it in retirement. A lot of times, it doesn’t make sense to buy and sell a house unless you plan to keep it for a few years. What will your ROI look like after 7 years?

I would use the lump sum to pay down whichever is a higher interest rate between the Reno loan and student loans. Say you pay the reno loan down and now your situation is a $50k loan, which seems more reasonable. You might be able to refinance that loan to a lower interest rate at some point (not combining it with the mortgage) or you may come into more bonus money and pay it off.

Now if you found it stressful, hardly spent time using it or wished you could spend your vacation time traveling other places, I’d consider selling it. In addition to saving you time and hotels for visiting family, I’m assuming it’s taking the place of $10k in vacations per year.

[konapoppy]

If you like it, want to spend retirement there, and can make it work, I wouldn’t sell it.

The only other variable that I didn’t notice while skimming - if you expect it is probably that there will be a natural disaster that would make repairing or selling the house challenging, or that you may be unable to purchase insurance, I would consider selling now.

[livinitup]

How much can you sell for next year? In 5 years? That’s the real question.

I know you can’t predict the housing market, but the real value of the investment is only going to be measured at the point of sale of the property.

If it goes down in value (from the price you can sell today), you’re screwed. If it goes up, you’re a genius. The fact that that it pays for itself and gives you use 4x a year of use/enjoyment is just gravy.

[Roc A Bee]

I’d keep it but stop thinking about it as a business and start thinking of it as your vacation home (that you rent out sometimes).

[ssmjlm]

How long have you had the property? It seems like this was a long term idea for you, so I would start to look at it in terms of a vacation home you rent, not a rental property.

It seems like you may only be a couple years into ownership, so I would maybe start to slightly tick up the nightly cost to give yourself more wiggle room on costs outside of the day to day running.

[atarianna]

I am not a tax expert but the reno should be deductible from the income you do make on it and should actually help your overall tax picture by reducing your income. I personally would not sell because in addition to capital gains on the increased value, you’re also going to be on the hook for paying back depreciation claimed over the last many years.

Even if it’s a break even on paper, rentals generally are a tax haven when it comes to figuring your own taxes.

[waverly]

To answer questions:

1. We did renovations already. They were necessities such as HVAC, plumbing, electrical and some cosmetic. We could have done a little less cosmetic and maybe saved a little, but yes the renovation ship has sailed.

2. We are not necessarily planning to live there full time during retirement but plan to use it more often.

3. It is not in a flood plain and not near a coast (hurricanes) so no predictable natural disasters. The only one might be tornados which are not predictable.

4. We can sell for 100K more than purchase price. That will likely remain steady since there is low inventory and the renovations increased the value. I have no idea what the market will look like in 5 years.

5. We've had the property for 1.5 years.

6. See my previous post about pricing for vacation rentals. It's a bit tricky to just raise prices because occupancy gives the best revenue.  

7. atarianna , what does paying back depreciation claimed mean? I asked DH to ask a tax professional, but he hasn't done so yet.

[jwright]

Sept 15, 2023 9:36:43 GMT -5 waverly said:

7. atarianna , what does paying back depreciation claimed mean? I asked DH to ask a tax professional, but he hasn't done so yet.

I mentioned this in my first post.  You should be deducting depreciation expense on your tax return (along with regular expenses and mortgage interest).  Generally, a residential rental is depreciated over 27.5 years so you get to divide your building's purchase price by 1/27 and get that as an annual expense. 

When you do the renovation, those costs should be capitalized and depreciated as well.  However, depending on what exactly you've done, there will be a chance to utilize bonus depreciation to expense most of that immediately.  If the result is a loss, that may be used to offset your other income (depending on your level of participation and income).  (You are also supposed to be excluding the expenses related to personal use, so if you use it 4 weeks a year, you would only take advantage of ~92% of what you'd normally deduct). 

However, when you sell, you are subject to depreciation recapture.  That means that if your gain is $100k, but you've depreciated $30k, than that $30k portion will be taxed at ordinary rates up to 25% rather than the more favorable capital gains rates.  Basically, if you are going to sell, you may not want to accelerate and use bonus depreciation depending on how your tax situation looks. 

[waverly]

jwright, Since we've only had it 1.5 years and last year was the first year to put it on the taxes, I don't think we depreciated it on the taxes but I will double check our tax documents. They were done by a tax professional, but I can't remember specific line items.

[waverly]

Thank you all. I was sure you were all going to say sell it, so I was surprised. I told DH since it is in his business's name, that if he considers it solely a business that he should sell. If he considers it business/ personal hybrid, then he should keep it. I told him originally to keep it- that was my advice. We shall see what he does.