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If you’re like most home owners, you’ll find that your first home won’t suit your needs indefinitely. As your family grows, you may want to upgrade to a larger house, or to find a home closer to your kids’ school. Years later, when your children move out of the nest, a smaller home might seem appealing again. There’s also always the chance that you’ll relocate for work or for pleasure.
In these instances, you’ll find themselves torn between selling your home, or becoming a landlord and leasing out the property. While renting allows you to earn passive income every month, it also comes with its share of risk and expenses.
Here are some of the main factors to consider when making the “sell vs. rent” decision:
What’s your financial situation?
If you’re relying on your home’s equity to finance your next purchase, renting out your home might not be an option. Calculate the exact closing costs of your next home to determine whether your savings will cover the new purchase.
If you don’t need all the equity in your home for your next downpayment, you could consider taking out an equity loan, or refinancing your home.
What are average rental prices in the area? Would they cover your mortgage and carrying costs?
If so, keeping your house could be a smart way to build equity and fund your retirement. Once your mortgage is paid off, you can either cash in, or pass the house on to your children/family.
Are home prices on the rise?
Even if your rental income doesn’t cover all your carrying costs (mortgage, property taxes, repairs, etc.), it’s worth holding on to your home if you’ve noticed a strong appreciation trend in your neighbourhood.
In Greater Montreal, annual appreciation ranges from 3-7%. Have a look at the urban plans as well as the prices in your area to help determine whether your returns are on the rise.
Is your move permanent?
Do you plan to return to your home in the next 4-5 years? If so, you’ll save on sales commissions and purchase costs by renting out your home while you’re away.
Are you comfortable being a landlord / hiring a property manager?
If you’re relocating, you’ll need to appoint someone who can oversee repairs, and handle any unexpected issues with your new tenants. Property mangers will typically charge 10% of the rental income.
You might choose to manage the property yourself. In this case, take into consideration how much free time you have on your hands and how handy you are with DIY. Managing a rental could be a breeze, but it could also be a headache depending on the condition of your home and the type of tenants you end up with. As a landlord, you’ll be responsible for advertising, and showing the home, running background checks on potential tenants, handling maintenance and repairs, and dealing with any emergencies that come up.
A home that has been rented out for more than three years can no longer be claimed as your primary residence. This means you’ll be taxed on the sale of the residence. When selling a home that is not your primary residence, capital gains taxes are charged on any profit you make on the home. These vary from 0% to 20%, depending on your tax bracket. Your primary residence, however, reaps the benefits of capital gains exclusion, which means you can exclude $250,000 (or $500,000 if you’re a married couple) from your taxed profits when you sell.
Consider the costs of renting
Another deciding factor in whether you rent or sell are the costs of renting in your particular area, and for your particular property type. Here are some costs to consider:
- Mortgage Payment. Consider both interest payments and principle payments.
- Property Taxes. These vary by area, but expect to pay up to 2% of your home’s value per year.
- Mortgage Insurance Premiums. If your down payment is less than 20% of your home’s value, expect to pay mortgage insurance premiums.
- Landlord Insurance. This covers tenant damages and protects you if someone is injured on your rental property.
- Condo Association Fees. These payments are required if your house or condo belongs to an association.
- Maintenance. Windows, doors, paint, flooring, roofs, and major appliances may need to be touched up, repaired or replaced in-between tenants.
- Property Management Fees. Property management firms typically charge around 10% of your rental revenue.
Whether you rent or sell your home depends will ultimately depend on how financially risky renting is. If home values are quickly appreciating in your area, rental prices are high, and if you are have enough savings to account for maintenance costs and vacancies, renting can be a great way of providing passive income. In other cases, it might be safer to sell and reinvest your money elsewhere.