Possessing a rental home has been one of the most sought after investments for individuals who want to achieve passive streams of revenue and income. It is widely believed that owning a rental home is a significant step in becoming financially free.
Many so-called “experts” continually preach that in order to live the kind of life you’ve always dreamed of, (i.e. quitting your job and going on vacations to exotic places all year round) all you just need to do is to know how to purchase rental homes thus creating a positive continuous stream of cash into your bank account.
All the experts say is that you just need to start. Our present society always applauds and celebrates those who step out of their comfort zone and just do it. Though these self-acclaimed “experts” continuously promote their stories of success, they always neglect to comment on those who got started but got burned along the way.
This type of advice is one that results in a multitude of problems and issues especially with the real estate market. There exist a mountain of articles and how-to’s on purchasing a rental home. However, there are very few posts on selling them.
But in creating effective exit/selling strategies on how to trade in your rental home when situations arise so you can rake in enormous profits or curtail your losses, there is precious little advice.
Making use of a wrong exit/selling strategy may only give you a hefty bill from the government. Or might even make you engage in a long-standing situation involving negative cash flow that could result in you being broke, leaving your finances in the drain. Only a small number of investors in the rental home business have an exit strategy for when things doesn’t go out well.
There are different scenarios/situations that may arise and make you decide selling rental homes. This write-up will outline some of these situations and describe several selling strategies.
Note that certain problems being discussed here are related to law, finances, and taxes. So before creating or implementing any of the strategies outlined here, it would be wise to talk to professionals in the relevant fields.
Why would you want to sell? Some of the reasons are outlined below
In order to determine your exit strategy, the first thing you have to do is to know your reason for selling and asking yourself the primary question, “What’s my reason for selling?”
Depending on one’s circumstances, selling your rental house could be demanding. Months or years could pass by before you are able to sell. You also have to consider the business and tax implications in addition to the issue of selling it while a tenant is still resident there.
One bad quality that is common to most investors is being afraid to cut their losses and run. Any way you look at it, a sour deal is a sour deal. There is just no way around it.
Because one might believe they can minimize his/her losses, one might hold on to a house for several months believing that they can achieve the highest price only if they hold on to it a little while longer. But this is almost always the wrong decision and in the process will often end up making decisions based on their emotions which is very harmful.
The best thing a person can do in a bad deal is to divest himself of it and cut his losses. A real estate agent can be of help for you to come up with a strategy to sell off your rental home if it eventually turns out to be a sour deal.
You could set up a worst case scenario with your agent that states that once a situation gets to a certain level they spontaneously execute the exit strategy. For instance you could decide that once your rental home starts burying in your pockets of above $150 monthly for at least 8 months, your real estate agent should immediately put it up for sale.
The advantage of this is that your strategy for exit is well defined and you won’t end up taking decisions based on your emotions.
In a situation where you’re either unable or unwilling to wait for your tenant to vacate the premises before you sell, it could prove to be very challenging for you. Since you’re generating negative cashflow, it could play havoc with your emotions since it’s similar to paying for the house rent for your tenants out of your own pocket.
This is one of the reasons that it’s very essential to create your strategy for exit from the start. You have fewer options when you want to sell your home and you still have tenants.
In the event that you still have tenants, you could play the waiting game and endure till the expiration of their lease. Forward a note 2months before the lease expiration date explaining that you want to sell the property, although this isn’t a very good strategy particularly when the property is generating a negative cash flow.
On the other hand, if there are bad tenants, i.e. persons who have violated their lease agreement such as causing property damage, a no pets allowed clause or failure to pay rent, you could forward them an eviction notice and terminate their lease.
This is a win-win strategy for everyone since an investor gets a new property, your tenants can stay and you get to sell your rental home quickly. This usually means that the new investor/owner who buys the rental gets to manage the tenants. But usually in order for investors to agree to this, the home must have been generating a decent profit. This usually means that in a scenario where the rental is generating negative cash flow, you might have to sell the house at least 15% less than the current market value. If there is positive cash flow, you can arrive at the highest selling through calculating the profit accrued annually and divide that by 3 percent. For instance, to calculate the selling price of a rental that generates an annual profit of $6,000, the maximum selling price comes to $200,000.
The notion behind this is investors place their money in a bond that generates an ROI of 3 percent. This implies that your home’s value should never surpass the amount needed to generate the same profits if placed in bonds.
Another way to sell when there is an existing tenant is to compensate him by agreeing to a settlement. This then raises the question of what amount to pay your tenants in order to secure their moving out.
For situations such as these, rules do not apply. You should aim to pay only the minimum amount necessary to get them to leave. Some tenants could negotiate for a huge amount of money while others might be willing to accept moving out. There are different ways to calculate an amount that your tenants might accept. They are as follows:-
This is a wonderful option particularly if you possess a tenant that has been there for the long-term. You could make available the seller-financing, or they can come up with their source of financing. But if you want to provide the seller-financing yourself, you must own the home completely i.e. without any mortgage attached.
That covers all the options of selling your rental home with an existing tenant. This last strategy that will be described below is one that can be used in almost every situation unless you want to cash out completely.
If your rental has appreciated or it has been generating a positive cash flow for you, you can use the 1031 tax exchange to sell your home and elude/delay any potential taxes, though you must discuss extensively with your tax accountant before using this.
This exchange is utilized in situations where you want to use the capital gained from selling your property and use it to purchase another property. Once certain requirements are met, delaying tax obligations is possible.
Once a property is sold, you have just about forty-five days to discover new properties with a higher value than the one that was sold. Then another hundred and thirty-five days to purchase that new property. This means you have a total of hundred and eighty days from the day of selling your rental to purchase a new property. Therefore if you are thinking about utilizing this tax exchange, you must plan and commence your searching early enough so that you have ample time to plan and carry out contingency plans immediately any deals go through.
Though a hundred and eighty days gives the impression that it is adequate, you shouldn’t be too relaxed. Start checking out new properties even before you start selling yours. This exchange could be utilized if your rental is generating a negative cash flow, but you still want to remain in the real estate rental market. It is almost the same as selling stocks whose price is dropping and then purchasing another stock whose price is on the rise.
Jumping in on the real estate market is never advisable. You need to consider every angle before going in; else you are very likely to gain failure.
Purchasing the wrong property/rental home could result in a stressful situation for you while depleting your finances. It is the main reason why you should have a firm exit strategy in case things go awry. Your exit plan must be unique, however, the steps outlined above should give you an idea of where and how to start. You shouldn’t delve to the real estate market till you have undergone a multitude of time to make your emergency exit strategy
© 2016 Connecticut Real Estate Investors Association. All rights reserved.