Many homeowners who need to move out of their property for various reasons may consider renting it out to tenants and letting them pay for the mortgage. This can be a viable strategy to generate income and avoid selling at a loss, especially in a sluggish housing market. However, there are also some risks and challenges involved in becoming a landlord and relying on rental income to cover your mortgage payments. In this article, we will explain the basic pros and cons of this approach and provide an example using a table.
Pros of Renting Out Your Home
Renting out your home can have some benefits, such as:
- Preserving your equity and property value. By holding onto your home, you can wait for the market conditions to improve and sell it at a higher price in the future. You can also benefit from any appreciation in your home’s value over time.
- Creating a steady cash flow. If you can charge more rent than your monthly mortgage payment, you can create a positive cash flow that can supplement your income or help you pay off your mortgage faster.
- Enjoying tax deductions. As a landlord, you can deduct certain expenses related to your rental property, such as mortgage interest, property taxes, insurance, maintenance, repairs, and depreciation. This can lower your taxable income and save you money on taxes.
- Returning to your home later. If you plan to move back to your home someday, renting it out can allow you to keep it while living elsewhere. You can also have more flexibility in choosing when and where to move.
Cons of Renting Out Your Home
Renting out your home can also have some drawbacks, such as:
- Facing higher expenses. Tenants are generally harder on a home than owner-occupants. You will be responsible for repairs and maintenance, and you may have to pay for upgrades or renovations to make your home more attractive to renters. Other costs to prepare for include insurance, taxes, property management fees, and vacancy losses.
- Dealing with problem tenants. Finding and screening reliable and responsible tenants can be challenging and time-consuming. You may encounter tenants who pay late, damage your property, cause complaints, or violate the lease terms. Evicting bad tenants can be difficult and costly, depending on the laws in your state.
- Losing tax benefits upon sale. If you sell your home after renting it out, you may lose some of the tax benefits that apply to your primary residence. For example, you may not qualify for the capital gains tax exclusion of up to $250,000 ($500,000 for married couples) if you did not live in the home for at least two of the last five years. You may also have to pay depreciation recapture tax on the amount of depreciation you claimed on your rental property.
- Having less control over your property. When you rent out your home, you give up some of the control and privacy you had as an owner-occupant. You have to abide by the landlord-tenant laws and respect the rights of your tenants. You also have to deal with the possibility of your tenants not taking good care of your property or violating your rules.
Example of Renting Out Your Home
To illustrate the potential risks and rewards of renting out your home, let’s look at an example using a table. Suppose you own a home worth $300,000 with a remaining mortgage balance of $200,000. Your monthly mortgage payment is $1,200, and your monthly operating expenses are $600. You decide to rent out your home for $1,500 per month. Here is a table showing your annual cash flow and return on investment (ROI):
| Item | Amount |
|---|---|
| Gross rental income | $18,000 |
| Operating expenses | $7,200 |
| Mortgage payments | $14,400 |
| Net cash flow | -$3,600 |
| Equity build-up | $6,000 |
| Total return | $2,400 |
| ROI | 1.2% |
As you can see, renting out your home in this scenario does not generate a positive cash flow, but it does provide a positive total return due to the equity build-up. However, this return is relatively low compared to other investment options. Moreover, this example does not account for the risks of vacancy, tenant problems, property damage, or market fluctuations. Therefore, you should carefully weigh the pros and cons of renting out your home and consider your financial goals and situation before making a decision.
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