Should I convert my primary residence to a rental?

There is a lot to consider when determining whether you should rent out your primary residence. I have been getting this question more frequently of late, so let’s look at some things I discuss with my clients. First on the list is to determine the market rental rate for your property. Use Realtor.com, Zillow, contact a property management company or a licensed real estate broker to establish a price per square foot of going rents in your neighborhood. If rents are $1/sq ft on average and you have a 4,000 sq ft house, then figure your rental rate at $4,000/month. Remember real estate is local. That rental rate MUST cover your PITI (principle, interest, taxes, and insurance) at a minimum, otherwise you’re creating another liability instead of an asset.

  1. If you need the equity from your current primary residence to purchase the next home to live in, then you may want to consider a cash-out refinance while you occupy then home as your primary residence to obtain a more favorable interest rate. Will the rent still cover all costs after a cash-out refi?
  2. Capital gains tax: has an exclusion under current federal tax law as of 2022 that states if you have had ownership and possession of your primary residence 2 out of the past 5 years, then you can take $250K capital gains tax free as a single person and up to $500K as a married couple (I am not a licensed CPA – check with yours). Simple Ex. Purchased primary home in 2020 for $1M. You possessed and occupied for 24 consecutive months to meet IRS rules. Sold 24 months later in 2022 for $1.5M. Thus, you basically have a $500K capital gain with NO TAXES DUE. However, if you move out, convert it to a rental for 3 years and one day (nullifying the IRS exclusion rules), then sell for any amount over your basis of $1M, you will pay capital gains on all profits above your basis. If you have very little capital gains in your primary, then converting it to a rental may just be the best thing that will do for your future self.
  3. Where are you on your journey? If you are just starting out, then do everything you can to turn that first house into a rental and begin to build your portfolio. One rental income at retirement age could make all the difference in the world to the future you. Listen to my interview (episode #33) on the M.O.R.E. podcast with Kimmie P. and Bull Guting to hear about that. If you are an accredited investor, and you do not need the cash out to purchase the next home, then consider selling and becoming a LP in a syndication if you do not want to be a landlord.

Much more could be said about the pros and cons of converting your primary residence into a rental property, but I have listed the 3 most common conversations that I have with folks. Feel free to reach out with any questions. In closing, always run the numbers and own your financial future.

Published by Wesley Fikes

Wes Fikes is the owner of North Forty Realty, North Forty Property Management and North Forty Construction located in Bentonville, Arkansas. Mr. Fikes is a well-diversified real estate Broker, and cash flow investor with a portfolio of single and multi-family properties and Limited Partner interests in 1,200+ doors located in Arkansas, North Carolina, South Carolina, and Texas. Prior to his real estate career, Mr. Fikes spent 10 years with Pepsi-Cola Company in small and large format sales. Mr. Fikes was first licensed as a realtor in 1999 in California and acquired his first rental property in the same year. Mr. Fikes holds a Bachelor of Science: Business Administration degree - Magna Cum Laude from Liberty University and is a Certified Retail Analyst. Over the past 20+ years in the real estate industry, Mr. Fikes has personally participated in 1031 like-kind exchanges and assisted fellow investors with selling and locating real estate investment opportunities, as well as traditional home sales.

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