Mansion Global – Don’t Panic and Turn the Home You Can’t Sell Into a Rental
In some cases, renting out a primary residence could limit the future marketability of the home when buyers finally decide to sell, said Ines Hegedus-Garcia, a Miami-based agent who is director of strategy and innovation and a branch leader at Avanti Way Realty. Long-term leases, which she considers to be any lease that isn’t month-to-month, can make lenders wary, as they prefer the property is used as an owner’s residence rather than a rental. A long-term lease can make it harder for a would-be buyer to secure a loan, and in turn limit the buyer pool to those who can pay cash, she said.
Don’t Panic and Turn the Home You Can’t Sell Into a Rental
In the U.S., it’s best to wait out the soft luxury market and sell, not lease
BY MAREESA NICOSIA – | MANSION GLOBAL
Softening luxury markets throughout major U.S. metros have pushed average sales prices down for top-priced homes from the turbulent highs of a few years ago. The most expensive homes are taking longer to sell, leaving many luxury homeowners—from New York City to Los Angeles to Miami—sitting on their hands while their listing’s “days on market” ticks painfully up. Too many days on the market can make a listing grow stale, but accepting a lukewarm offer could cost a seller equity they’ve built up over years.
Amid the uncertainty, renting out a home to cover mortgage payments or generate income until the market turns around is an understandable impulse. But is it a smart move?
Realtors in several key urban U.S. markets told Mansion Global that while renting can be advantageous in specific situations or certain markets—demand for rentals is rising in Chicago, for example, as empty-nesters migrate from the suburbs into the city center—the costs and risks of property management in the luxury rental market usually outweigh the benefits.
In most cases, a better strategy for a sluggish listing is to lower the price and try to meet the market where it’s at, experts said. Another common tactic is to remove the listing altogether, wait a few months, and relist it at a new price. ( Multiple Listing Service rules require properties to come off the market for a certain number of days in order to reset the “days on market” count. The Northwest MLS, for example, which covers Seattle real estate, requires 90 days off market.
“My general recommendation is that no one’s ever going to take care of your house the way you’ve taken care of it, and I don’t recommend that clients rent their house in most cases,” said Tori Horowitz, an estate director at Compass’ Hollywood, California, office and the owner of Canyonhaus, a bespoke real estate firm in Los Angeles. “In some cases, if there’s a pressing financial issue and they need a chunk of cash, then of course we just lower the price and get the house sold. It depends on the reasons why people are selling.”
Managing sellers’ expectations can be a delicate dance, realtors say, especially coming off years of “fast and furious” price escalations in condo markets, said Moira Holley, co-founder and senior global real estate advisor at Realogics Sotheby’s International Realty based in Seattle.
In downtown Seattle, the condo market was so hot in mid-2016 that buyers camped outside overnight to be first in line to purchase new units. By contrast, the average sales price for all homes in the top 5% of the market declined 14.4%, to roughly $2.2 million, in the second quarter of 2019 compared to the same period in 2018.
“Sellers remember those high highs and then as a market starts to shift, the prices soften,” Ms. Holley said. “At that point, sellers may say, ‘Well, I’m not living in the unit currently, it’s vacant, and I’m not seeing those (high sales price) numbers that I once saw, so I’d like to think about renting it out.’”
Think Ahead
Homeowners, however, should look closely at trends in their region and weigh the pros and cons of renting with the help of a professional.
“Our job as realtors in the luxury market is to help them come to terms with the market that we’re in and what the value of selling (in this current market) truly is,” Ms. Holley said.
In Seattle, a slate of high-rise, high-end condo developments are under construction, soon to flood the market with units boasting top-notch amenities. Among them is Seattle House, a pair of 45-story residential towers planned near the Amazon headquarters that will feature 600 units plus co-working space, a community gaming room, and a gear center for tinkering with boards, bikes and skis.
Once these “newer, next-generation” buildings come online, the city’s already booming sales market will grow even more competitive, so sellers may actually find a better deal if they act now, rather than rent and wait to put their home on the market, Ms. Holley suggested.
Sometimes a quick turnover—even if the home is sold for a small loss—can be less stressful in the long-term than hanging onto a property that carries emotional baggage or requires extensive upkeep.
Ms. Horowitz, the agent in Los Angeles, advised a client against renting out her four-bedroom, four-bathroom home when the client became worried that the off-market $6 million listing wasn’t generating much attention a few months ago. The property was built in 1947 and is among the last projects by the Austrian-American architect Rudolph Schindler before his death in 1953. Theclient, a designer, had painstakingly restored the home over a 10-year period and Ms. Horowitz felt it was important to preserve the craftsmanship, and therefore the value, of the unique property, she said. That meant opting to sell instead of rent, because renting could expose the house to damage by a tenant and diminish its value and future marketability.
An extra incentive to sell was the fact that the owner had lived in the Schindler home with her husband while they were married, but they are now divorced, so letting it go was a release of emotional baggage. They dropped the price 20%, listed it publicly, and several offers immediately rolled in, Ms. Horowitz said. Within a few weeks, the home sold to a cash buyer for about $4.9 million.
Consider Property Type
In Manhattan, where some 65% of owner-occupied housing stock consists of co-ops, the question of whether to rent a luxury unit often comes down to what city regulations and co-op boards will allow, said Lisa K. Lippman, a broker with Brown Harris Stevens.
The board approval process to rent a co-op can take months and require extensive paperwork. If approved, most co-op boards allow a two-year maximum lease, said Ms. Lippman, who sells Upper West Side and Upper East Side co-ops, condos and townhouses between $2 million and $30 million.
“I have a lot of co-ops with owners who would rent if they could, but the co-ops won’t allow it,” she said. “There’s a lot of inventory that is not (available) to rent.”
One rare recent success was a small three-bedroom located on Central Park West, the leafy boulevard that runs parallel to Manhattan’s largest park, which rented for about $7,500 a month, Ms. Lippman recalled. The owners moved to Paris but didn’t know if they’d stay permanently; now they’ve decided to stay in France and continue renting the home until they can sell it. Ms. Lippman described the two-year lease deal as an “outlier” because it only took a month to get the co-op board’s approval.
“We were pretty lucky,” she said. “That’s less than average; in general it can be pretty rigorous.”
For many would-be renters, the process required to lease a co-op is a hassle they don’t have time for, so they turn back to the sales market, waiting for a palatable offer. While the ultra-luxury sales market (properties typically $10 million and up) is soft, it hasn’t come to a grinding halt, Ms. Lippman said.
“Things are selling; it’s just all about pricing—meaning you may not get the price you want,” she said.
It Costs to be a Landlord
Not all properties can transition smoothly to the rental market, so owners will want to carefully consider the time and resources they have available to invest in property management—whether they personally act as the landlord or pay a management company to handle rent collection, maintenance and repairs.
“Most people aren’t interested in the trappings of being a landlord,” Ms. Horowitz said.
In Los Angeles, it’s common for owners of opulent mansions to rent out their homes for parties on a seasonal or year-round basis. These arrangements can reap lucrative rents—$40,000 a month isn’t unheard of, she said—but they also come with potentially substantial costs for post-party cleaning or fixing damage caused by inebriated guests. Many owners just don’t want to risk diminishing the value of their home, she said, especially if they intend to sell in the future.
In some cases, renting out a primary residence could limit the future marketability of the home when buyers finally decide to sell, said Ines Hegedus-Garcia, a Miami-based agent who is director of strategy and innovation and a branch leader at Avanti Way Realty. Long-term leases, which she considers to be any lease that isn’t month-to-month, can make lenders wary, as they prefer the property is used as an owner’s residence rather than a rental. A long-term lease can make it harder for a would-be buyer to secure a loan, and in turn limit the buyer pool to those who can pay cash, she said.
Another consideration is the cost of moving or renting furniture to prepare for a tenant. With short-term leases, owners may opt to leave their furnishings for the tenants’ use or rent other furniture. Unfurnished homes are typically only offered for one-year leases or longer, and if the home is unfurnished, owners should factor in the costs of re-staging the home if and when they put it back on the market. A top-to-bottom luxury staging could cost anywhere from $8,000 to $15,000, according to Ms. Holley.
Capital gains taxes in the U.S. are also applied differently to primary residences versus rental or investment properties. In most cases, married couples can skip paying up to $500,000 and individuals can avoid up to $250,000 in capital gains tax on net proceeds from the sale of their primary residence, Ms. Holley said.
The tax savings probably means more to sellers on the lower end of the luxury market, she said; at the higher end, it may matter less because the tax savings is a smaller fraction of the overall sale.
When Renting Does Work
Brokers can, and often do, prepare both sales and rental strategies based on market data for their clients right from the start, said Ben Creamer, co-founder and managing broker of Downtown Apartment Co., a residential leasing company, and Downtown Realty Co., which handles sales, in Chicago.
When it comes to the owners themselves, Mr. Creamer and other real estate experts look for a few key indicators of a successful rental: The seller has paid off their mortgage and has another place to live; they aren’t desperate for an influx of cash; and there’s not some other emotional reason the seller wants to be rid of the home, such as a death or divorce.
“This strategy can definitely be advantageous in a city like Chicago when activity slows in the winter months,” Mr. Creamer said. For example, if a homeowner lists a property in the spring but it doesn’t get traction during the summer, Mr. Creamer would advise a seven- to nine-month rental between March and September—when rents are highest—until the next busy selling cycle. “This gives the homeowner flexibility to gain rental income while waiting to relist again when the market picks back up,” he said.
It can also be valuable to rent a home that you know will lose money in a sale. “We still see situations where homeowners are upside down on loans or home values haven’t rebounded, both of which can obviously result in a financial loss for the seller,” Mr. Creamer said. “If it’s financially feasible for the homeowner, it makes more sense to use the home as an investment property instead. In addition to avoiding a capital loss, the homeowner can recoup monthly expenses with rental payments, potentially making a profit, and take advantage of certain tax deductions, such as depreciation.”