Should You Buy a New House and Rent Out Your Old One? - 2022
Like the seasons, our lives change. Your home doesn’t have to be your forever home and in most cases it isn’t. Let’s face it, life changes, families grow and shrink, people move and retire, people upsize and downsize, and hey sometimes people want to become real estate investors. Whatever your reason is it’s time to kiss your old home good buy. But, now what? Should you sell it? What if you could rent it and buy a new place? In this blog post I hope I can help you in answering these questions and more!
Let’s Dive In!
Are you in a good position to become a landlord?
Renting out your old home is a great way to enter into the real estate investing world and take advantage of the huge pros that come along with it. However, there is a reason everyone doesn’t do this. Here are some questions to consider before moving forward.
How “rentable” is your current property? For example is it in a nice area where you’d easily get and keep tenants?
What can you realistically get for rent? (a local appraiser or realtor can help with this)
Will you be hiring a property manager? (they will take around 8-10% of your profits)
Are you going to be able to fix the little things or will you need a 24/7 handyman?
Do you have cash reserves to cover any unforeseen repairs?
Can you rent it out with your current mortgage? (some will not allow it to be converted)
Do you have a tax advisor who will help you in this process? (if not GET ONE)
Will you be buying your next house financed or with cash? (both are possible)
Can you switch or add onto your current insurance plan? (you will need landlord insurance).
Do you have a good loan officer who is knowledgeable on this process? (some are not and your real estate agent can help find one who is)
How to afford two homes.
Getting a loan
Ok, now that you weren’t scared away by any of the above questions let’s dive into it! How exactly does one afford two homes? That depends on your current situation. Maybe you don’t currently have a mortgage or maybe you do. Either way it is possible. If you don’t owe any money on your current house it is going to be a lot easier as you won’t have to account for a second mortgage payment when a lender looks at your DTI (aka debt to income ratio). However, even if you do have a mortgage on your current home, most lenders will use 75% of the projected rental income when looking at your DTI. That is how you offset your current mortgage and also add towards your overall income. Either way a lender will be able to account for some of the projected rental income. Click HERE for more info on using rental income!
Down-payment and Closing Cost - what to expect and alternative ways to cover them.
Now as for the new homes closing cost and down-payment you will need to have money to cover this. If you go FHA or Conventional you will need around 3.5-5% to put down (if you do 20% conventional you can take off the PMI or private mortgage insurance or you can pay a single-payment mortgage insurance). Keep in mind you will also need to have around 2% of the loan balance for closing cost (aka purchase price - down payment). If you do not have this money laying around speak with your lender about taking out a Home Equity Line of Credit (HELOC ) to cover these cost. A HELOC will let you access up to 80% of your current homes equity.
Other Cost to Account for
You should also expect for your lender to require a Fannie Mae Form 1007 done by a licensed appraiser. This will show the projected rent and it normally cost anywhere from 500-900 dollars. You will also most likely need an overall appraisal done of your current home to show you have at least 20% equity in it (if you have a mortgage on it). This will cost around the same. You should also account for covering any appraisals and inspection fees (300-500) on your new property.
Remember
These are some of the basic cost to account for in this process especially if using a lender and not buying with cash. Keep in mind you can use a HELOC loan to cover the up front cost of your new home. Don’t forget, around 75% of the projected rental income should be accounted for when you are getting approved for your second home loan.
Lending Rules to know.
So, now that you are comfortable with the plan and cost let’s make sure you take into account some of these lending rules (these are assuming you will be using the projected rent to qualify for your next mortgage).
If using an FHA loan to buy your new house it MUST be 100 miles away from your old one (If using your projected rental income to qualify for the mortgage). This is a newer addition to the guidelines. Learn more HERE.
You need to have 20% equity in your property (depending on state, lender, and loan program).
You need to have cash reserves (the exact amount depends on the state, lender, and program). Normally for owning 1-4 financed properties: 2% of the unpaid balance of all mortgages.
You need to request Fannie Mae Form 1007.
Show that you have owned the old home for a year or that you are experiencing a “life change” (due to the grey lines in this rule you are 99% of the time safe even if you haven’t owned the home for a year).
You will normally need at least 3% down.
Pros + Cons
Now that your brain is exploding with info… let’s go a little deeper into the pros and cons!
Pros
Generate income (sometimes you can end up paying a smaller mortgage payment then you were before)
Tax Savings (speak with your tax advisor for more info)
Build equity through your renter’s payments
Build equity on TWO properties at the same time
Increase your assets
Get started into real estate investing
Have more equity you can use for future HELOC deals
Being able to move into a new house while still holding onto your old one
Generating a source of income you can pass down to your children
If you decide to eventually sell your old property you can now 1031 tax exchange the capital gains (aka reinvest them and put off the capital gains tax)
Cons
Complex tax implications (aka you will NEED a tax advisor)
Expenses (such as repairs and the upfront cost)
More responsibility (you now have all the responsibilities of being a landlord)
Assuming more debt
The fear of the unknown (Will you have good tenants? Will you have any upcoming major repairs?)
In the end there are sooo many reasons why I LOVE this idea and many others do too. However, there are also very real cons to consider before diving in. This isn’t for everyone and that’s ok. You just need to ask yourself if it’s right for you.
Timeline tips for a smooth transition.
Now your ready to get started! Let’s dive a little deeper into some timeline tips to consider for a smooth transaction.
Make sure you have a knowledgeable realtor, lender, and tax advisor to help you in this process. (Not a lot of people are well versed in this topic so be selective).
Talk to your tax advisor and have them walk you through all documents to fill out for tax purposes.
Get started with your lender on the HELOC process if you are going to be using it.
Get your current property rent ready (aka super clean and decluttered).
Get your lender to order your 1007 and appraisal if needed.
Get professional photos of your current home (so you can list it for rent asap once you find a place).
Start your new home search.
Find your new home and get it under contract.
I recommend 45-60 days on the contract to give you time to find a tenant.
I also recommend to make it contingent on you accruing a lease agreement on your current property.
Get your inspection done ASAP on the new property (within 3-5 days is best).
Get your lender to get your new homes appraisal ordered ASAP.
Stay in contact with your realtor and lender during this whole process so there are no surprises.
The END
I hope this blog post was super helpful in your real estate journey! Make sure to reach out for any and all real estate needs at anytime. I am licensed in FL and AL and I can help connect you to other professionals all across the globe.
