I’m Upside-Down on My Home. Should I Rent It Out? Or Sell It?

A reader wants to rent out his current home he's upside-down on until the market recovers enough that he can sell it. But is this a good idea?

Should I Rent Out This House?An Afford Anything reader recently emailed me about this dilemma:

He’s upside-down on his home. He owes more than the house is worth.

But he wants to take advantage of today’s low housing prices, which will let him move his daughter into the best school district in town. He can put 10 percent down on a new house in a fantastic school district.

He’d lose money if he sold his current home. There are only two ways he can sell it: either bring cash to the closing table (i.e. pay extra to get rid of it!) or process an excruciating short sale, which would destroy his credit.

Both of those choices are off the table. He wants to rent out his current home until the market recovers enough that he can sell it. But is this a good idea?

Check out the details:


Mortgage + Association Payment:
Vacancy: $100 *
Repairs, Maintenance: $50 – $100 **
Property Manager: $100

Total Expenses: $1,450

This leaves him with $100 – $150 per month in cash flow.

Hold On, Where Did You Get Those Vacancy / Maintenance Numbers?

If the house is vacant one month per year, we can average that out to a monthly vacancy cost of $100. Of course, if it sits vacant for 3-5 months, he’ll be sweating.

The “rule of thumb” is that maintenance will cost 1 percent of the purchase price of the house. Of course, that’s a long-term annualized average. It includes rare, expensive repairs like replacing the roof every 20-25 years and re-painting the siding every 5 years.

Since he has an association payment, I assume his homeowner’s association takes care of all exterior maintenance. That brings his maintenance costs down. (Well, really, it just lumps his maintenance costs into a different category).

Assuming his house is in good condition, his big maintenance costs will rare but costly events like replacing the water heater, buying a new refrigerator, etc. He won’t literally pay $100 every month. Like his vacancy costs, this maintenance cost is a long-term average over the span of many years.

He reported a property management fee of $100 per month in the email that he sent me. That seems rather cheap (it’s only 6 percent of the rent), but some property managers will charge a cheaper fee in a neighborhood with higher tenant quality, so I’ll accept that premise at face value. (Some property managers charge one month’s rent as a “placement fee” for finding a tenant, which is NOT included here.)

So What Do You Recommend?

Here’s my advice:

#1: Use your $100 – $150 monthly cash flow to build some cash reserves. Use this to cover the mortgage payments when your house sits vacant. Vacancy is your single biggest risk, because you’ll have to cough up the cash for two mortgages (your rental house and the home you live in). Strong cash reserves are the single biggest weapon you have against this risk.

#2: Add even more money to those cash reserves so that you can quickly write checks for repairs and maintenance. What if the house sits vacant for 4 months, a tenant moves in, and a week later you need to call a plumber? Cash reserves will help you sleep better at night.

#3: Don’t even think about making “extra” mortgage payments before you have huge cash reserves built.

I’d recommend a minimum cash reserve of 6 months of mortgage payments, and an optimal cash reserve of 8 to 10 months. That way, if you deal with an extended vacancy, you’ll be able to cover the mortgage.

Many landlords “shoot themselves in the foot” by panicking about a vacancy and renting out their home to the first willing tenant that comes along — even if their gut instinct says it might not be a good tenant. That always leads to disaster.

If you have cash reserves to deal with a vacancy, you can take your time and wait for the right tenant — a good tenant — instead of accepting the first person who’s willing to move in.

One of my houses has been vacant for almost three months. (It’s the $21,000 foreclosure, which is in a part of town that doesn’t always attract — um — the most qualified candidates). I’m guessing that the house might sit vacant for four or five months before I get someone in there.

But here’s the thing: Several people said they’re interested in moving in. But none of them have met my tenant criteria. It’s nice to be able to hold out and wait, so that you’ll eventually get the right tenant, not the first one.


  1. says

    There may be an alternative. We purchased 3 years ago through a builder that gave a kick-back to a property management company to guarantee rent for up to 6 years for buying a new build. They also get $50 from our rent and every 2 years we renegotiate the lease and give them a management fee of 1 month’s rent.

    It’s actually worked out well for us in that the first 6 months the management company did not get rent and evicted the tenant. We still got a check every month. We are still waiting to sell (home values dropped 60%)but at least we have a cushion to fall back on for now.

  2. says

    Given the numbers, it seems like a good idea. However, I would ask whether or not he has considered not hiring a property manager to maximize profit (unless $100 is paying himself). I get a great deal of satisfaction out of managing my own property, but it certainly isn’t for everyone. My mentality is that no one will manage my property as good as I will.

  3. says

    Some time ago, I rented out my home because the rental market was better than selling it. In total I rented the home for three years. It was a good choice.

  4. says

    The most motivating factor for me is getting his daughter into the best school district. I hope he can make the financials work. I love the advice about waiting for a good tenant.

  5. says

    “Many landlords ‘shoot themselves in the foot’ by panicking about a vacancy and renting out their home to the first willing tenant that comes along — even if their gut instinct says it might not be a good tenant. That always leads to disaster.

    If you have cash reserves to deal with a vacancy, you can take your time and wait for the right tenant — a good tenant — instead of accepting the first person who’s willing to move in.”

    Truer words have never been spoken. The only thing worse than no tenant at all is a terrible tenant — and they are easy to find if you’re in a panic and don’t check them out completely.

    The house two down from ours had two nightmare tenants over the course of three years. They each completely destroyed the insides of the home (one guy was working on his car’s engine in the living room!). FYI, the second one was after the owner had kicked out the first guy, then paid thousands to restore the place.

    Finally, the market started to turn and he sold the place to a nice couple.

    Moral of the story: while you’re waiting to sell, find a GOOD tenant. Don’t rush it or you could be sorry.

    • says

      Lion, I agree 100 percent. “The only thing worse than no tenant is a terrible tenant.”

      I’ve heard people say that the secret to success in rental properties is location, or high ceilings, or amenities, or cost-control, or whatever else. But I strongly feel that the real secret to success in rental properties is having freakin’ awesome tenants. It’s all about the tenants.

  6. says

    We did something similar about a dozen years ago when our house didn’t sell quickly. We rented it out for 2 years (with a lease-option that they didn’t end up exercising) before selling it. We weren’t upside down on it, but what does that matter, if the numbers work?

    For the past 2 years we’ve been renting out the last house we lived in, too, but this time it was intentional, and we plan to do it long-term. :)

  7. says

    He needs to make sure he can qualify for the new home after he rents out his current home. If he is using conventional financing many lenders will only count 75% of his rent as income after it is rented for a full year! He would in essence have to be able to qualify for both houses at the same time with many lenders.

    • says

      Excellent point, Mark! He will most likely need to qualify for both houses at the same time. I’m assuming that he’s squared away his pre-qualification, so I approached his question from a “What’s the best course of action?” perspective. But if he hasn’t chatted with a lender yet, that should definitely be the first step.

  8. says

    We are in the boat of the person mentioned, however, I have no desire to purchase again until I retire or find the home of my dreams for a really great price.

    We’re actually in an area that is pretty close to 70% rental, which makes getting a FHA loan impossible and a conventional loan a crap shoot.

    Our goal has been to pay off debt and put money away and fix up the condo where we are, mostly maintenance issues, painting and and new flooring and right now we’re slowly redoing our bathroom. We’re hoping to have a good portion of our debt paid off and we plan to see where we are next year. Then, we are going to rent this out, either next year or the year after depending on where we are and how much we have in saving for all the reasons you mention above.

    My question is, why have a property management company? I’ve rented my condo before and done the managing myself. Most of the people here do their own management but is there an advantage?

    • says

      @CJ — I didn’t ask him, but I assume that he’s either too busy to manage it himself, or he wants the layer of liability protection. (A property manager should know all the in’s and out’s of landlord-tenant law. You can learn it yourself, but that takes time.)

  9. says

    Mr. LH and I have been thinking of buying a rental in the neighboring state. The houses are cheap since it was hit hard by the housing bust and we have family who could help manage it. But, we’re also realistic. We’re thinking that as long as the house is cheap enough, we can swing the mortgage if we can’t find the right renter. I’d rather sit it out and wait than rent to a terrible renter. Great advice, Paula.

  10. says

    Great advice about waiting for the right person, I have done exactly the contrary and moved in someone my other tenants weren’t very happy to be roommates with, more for greed than the lack of funds to cover the empty room and that was a mistake. Now if they are not all on board with the potential tenant I just hold, the lost rent is worth it, and being able to afford that is a luxury.

  11. says

    Thanks for explaining about the Vacancy cost. I always planned for 1 month/year, but I didn’t record it as a monthly expense. good info.

  12. says

    Great advice but I have another question. What about property taxes? We are in a similar situation but after adding mortgage HOA fee & tax there’s no way we will cover the monthly cost let alone plan for vacancy. What should we do?

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