- The Washington Times - Thursday, August 25, 2005

Perhaps the most famous move-up buyers were the Jeffersons. Remember them? They were the newly wealthy couple of ‘70s television fame who moved on up to the East Side of Manhattan after spending years in a Queens duplex next to Archie Bunker.

Chances are, they probably sold that first home. However, given the state of today’s hot real estate market, the Jeffersons probably could have been making a tidy monthly income renting out their old home.

These days, they might well be suffering from “seller’s remorse.”

Seller’s remorse: the belief that if you had kept your property just a little longer, you would have realized a far greater profit.

If you are moving on up to a bigger and better home, you may be faced with a similar quandary: Should you hold onto that first home and rent it out, or should you sell it and use the money for your next residence?

The answer has to do with a number of factors, including the neighborhood, the state of your pocketbook and the amount of equity in your home. Whatever you decide, what you do with that first property should be in line with your long-term financial goals.

“We see people who are buying a second home selling the first most of the time because they want to buy up,” says Mary Lee, manager of Long & Foster’s office in Bowie. “They need the cash to get into another home.”

Rob Bergman says he sees the same thing on Capitol Hill.

“Not many people are keeping their first property,” says Mr. Bergman, who is affiliated with RE/MAX Allegiance on Capitol Hill and in Georgetown. “They’re not equipped to manage a second property, and they’re rolling their profits into their new home.”

That isn’t always the case, however. Investment properties are increasing nationwide.

According to a survey by the National Association of Realtors, investment properties accounted for more than a third of residential transactions in 2004, up 14 percent to a record 1.8 million sales.

Meanwhile, home prices are surging as well, up 11 percent in 2004 from 2003, according to the house price index of the Office of Federal Housing Enterprise Oversight (OFHEO). In 2005 through June, the national median sales price for existing homes rose 14.7 percent, the biggest gain since 1980, according to the National Council of Realtors.

Thanks to programs that allow you to borrow up to 100 percent of the purchase price, it is no longer always necessary to sell your old home to buy a new one.

“A lot is dependent on the value of that first house,” says Barbara Tower, associate broker at Coldwell Banker’s Church Circle office in Annapolis. “If people have a condominium or flat of some type, they often try to hold on, figuring they can rent for 15 to 20 years and then move back in as a retirement home.”

Before you decide to become a landlord, though, consider this: What’s the state of the market in your neighborhood?

If you live in Georgetown or on Capitol Hill, you may find a number of people who are clamoring to rent your home on a short- or long-term basis. Also, if you are in one of the suburbs that cluster around the tech corridors of Maryland and Northern Virginia, you may find more than a few renters as companies move their executives around.

“How well you do if you rent depends on the strength of the local rental market,” says Paul Bishop, manager of real estate research for the National Association of Realtors. “In a community with a lot of turnover, like D.C., you can certainly rent and do well.”

Be sure to check on the rents being charged for similar residences. Are they what you expected? According to the OFHEO, rents increased by just 2.7 percent nationwide in 2004.

“We see rentals down a bit because conditions to buy are so favorable,” says Blanche Evans, editor of Realty Times, an online digest of real estate news and information. “Different types of products are allowing more people to buy.”

Not every neighborhood is a renter’s, and therefore a landlord’s, paradise. Local codes may discourage renters, particularly if you plan some sort of alteration of your home to accommodate them.

There should be another important factor in your decision to rent or sell that first home after you’ve moved on up, Mrs. Evans says.

“Do you really want to be a landlord?” she asks. “Do you really want to take on all that trouble?”

Trouble — such as when the house is vacant between rentals and such as having to deal with unexpected repairs, late payments, noise and sometimes even the neighbors.

That doesn’t even begin to cover such troubles as lead paint, asbestos and mold, all of which also can contribute to landlord headaches.

Reluctance to deal with the unpredictable can make it difficult for a potential renter to find a place in some neighborhoods. Mrs. Lee’s daughter looked for about a month before finding a place in Odenton.

“A lot of owners are being very selective,” Mrs. Lee says.

If you are moving far away or just don’t want to deal with your tenants, you’ll have to hire a property manager. Generally speaking, the property manager takes about 8 percent to 10 percent of your rental income. In some areas with lots of vacation homes, property managers may take an even higher percentage of rental income.

If you are trying to rent out a condominium, you have another set of circumstances to consider. How healthy is the homeowners association? How well is the property managed?

Then there are your finances. Can you really afford to rent out that first house? That means you’ll be shouldering the burdens of two houses.

“Larger, more involved properties mean higher maintenance costs,” Mrs. Tower says. “They have big rooms, which make them harder to heat, and pools and other appointments. In Annapolis, people often cash out properties that are worth more than $400,000.”

If you are moving up from an already expensive home, you may need the money from the sale of your first house to fund the purchase of the next one. That’s particularly true if you have lived in your first home for a while and therefore have more equity in the property.

“The more equity you have in your first house, the more money you can put down on your second,” Mrs. Evans says.

A new worksheet developed by the American Institute of Certified Public Accountants can help you determine which choice would be more worthwhile for you.

Designed primarily for CPAs, the worksheet allows you to enter a number of elements on a Microsoft Excel spreadsheet, including mortgage costs, down payment and probable rental income, which then translate into a readable report weighing probable outcomes for each scenario.

The worksheet is available online (www.aicpa.org/download/pubs/jofa/2005_06_witmer.xls) The Excel program is required.

Taxes also may play a key role in determining whether to rent or sell.

Thanks to the hot market, sales of most houses in the Washington area result in a capital gain for the seller. You may be able to exclude that gain from your federal income taxes. If you meet the requirements, you may exclude up to $250,000 (up to $500,000 if married and filing jointly).

Requirements involve owning the house for two of the past five years, using the home as your principal residence for two of the past five years and not having made use of the exclusion for the past two years.

Owners can have rented out their previous residences for up to three of the past five years and still take advantage of the capital-gains exclusion as long as the home was used as the owner’s personal residence for two of those five years. Once your property is used as a permanent rental, you’ll lose that exclusion.

Being a landlord can have its advantages, particularly when the market takes a downturn. Losses on the sale of a rental home are deductible. Losses on the sale of your primary residence are not.

Landlords also can write off expenses for maintenance and property management, along with annual depreciation.

Profits on the sale of a rental property are typically taxed at the 15 percent long-term-capital-gains rate. However, you can set aside the tax bill if you sell the property and invest the proceeds in a similar one under a like-kind exchange as mandated by Section 1031 of the tax code.

If you’re canny, you can convert that second property to use as your main home and take the personal-residence exemption later. Of course, you’ll have to wait five years and live in the house for two of them.

Are there situations in which renting is nearly always a good idea? Absolutely.

“If you leave the area but have any plans to come back, you probably should hold onto your house,” Mr. Bergman says. “Otherwise, you could be priced out within three years.”

In some cases, if you have inherited a property and immediately began renting it out, holding on can mean you have a veritable cash cow — if the property is in good order and you have reliable tenants.

Also, if the market changes to the extent that you would be taking a considerable loss on your property, renting might be a good idea.

“Usually, rents and sales are fairly in balance,” Mrs. Evans says. “Right now, housing prices are farther ahead, but if housing depreciates, then you’ll see more rentals.”

Bottom line? Consider whether you can handle two properties before you decide to rent out that first house.

Otherwise, you may well suffer from landlord’s remorse.

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