Every rental property has some level of risk involved, from unanticipated house repairs to tenants who don’t pay their rent or simply take flight. But professional real estate investors don’t build their business through gambling. Knowing when it’s time to flip a rental property to cut your losses or maximize your profits requires insight, intuition, experience, and market knowledge.
“Recognizing when to sell a rental property is a skill that separates pro investors from the beginners,” affirms Steven Davis, 5 Arch Funding chief information officer and chief financial officer.
As you analyze a rental, asking the right questions can help you make the best decision no matter what the situation. Here are the most important ones to consider.
Is the property making money?
This is the number one question to ask. If the property is hard to rent and has been vacant for a while, or needs extensive repairs that cut into your profits, it’s time to sell. “You might take a loss with the sale, but that’s better than pouring cash into a money pit indefinitely while you wait for property values to rise,” advises Davis.
Can I afford to lose the income from this property, or can I replace it quickly?
If your rental property is a cash cow, it’s harder to part with. Run the numbers and determine if the profit from the sale will make up for the loss of recurring monthly revenue—or, ideally, if you can reinvest in an even more profitable rental, says Davis.
What’s the market going to do in this area?
In general, the market has several years to go before its next peak. But if interest rates continue to rise, housing prices could drop suddenly.
To spot a peak, check the historic values of homes in the area and pricing trends over the past several months. “Keep an eye on the local economy,” advises Davis. “Is the job market strong? Are people still flocking to the area, or are homes sitting on the market longer?”
Talking to local real estate agents can also help you get a handle on the market. “Gauging a peak just right is the key to maximizing profits,” notes Davis.
If a local real estate market has peaked, it may be wise to sell and maximize your profits. But if you’re on the opposite end of a peak, cut your losses and get out fast—before it’s even harder to sell.
Should I wait in order to delay tax ramifications?
If you sell a rental property without making a 1031 exchange (that is, selling in order to buy a similar property right away), you could be subject to capital gains tax. Whether you want to delay the sale to defer taxes to another quarter or fiscal year depends entirely on your financial situation and the rest of your investment portfolio.
Just make sure you don’t hold an undesirable property too long. “Consult with a tax advisor specializing in real estate if you want to find ways to offset capital gains tax on the sale of a rental property and reduce your overall tax bill,” says Davis. “Don’t hold onto a property that isn’t making you any money or doesn’t fit into your long-term investment plans.”
Hold or Sell? Making the Choice
Ultimately, the choice to sell a property or hold onto it depends on how well the property fits into your plans. It might make sense to hold profitable rentals until they exhaust their depreciation benefit in 27.5 years.
One factor that shouldn’t weigh into your decision—the need for fast cash for another real estate deal. “Unless you’re specifically selling a property as part of a 1031 exchange, it’s not wise to let a rental property go because you need the money for another deal,” says Davis. “That’s where lenders like 5 Arch come in, providing the cash you need without liquidating assets.”
When the Time Is Right…
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