House Sale: Invest or Not To Invest

[pdsquash83]

Hello Everybody,

So a question for my retiring inlaws (65 y/o and 70 y/o), they are about to sell their current house and move into a rental in a retirement community (i.e. finally get out of the cold). They also have another property that they have been using as an "investment" i.e. hoping to utilize the rental income. I am trying to help them decide what to do with the cash from the house they sell. They have a decent nest egg in pensions, tax-free accounts, and taxable accounts (don't know exact details but assuming low 7 figures). They can afford to pay the rental house mortgage even in retirement. The options and the details below:

1st House Sale: 350k (after all said and done)

2nd House (i.e. rental): Purchased for 800k, now worth $1 million, unpaid principal $380k with interest rate of 3.125%, mortgage is $4200 (they are paying interest of about $1100/month and taxes+insurance of $800/month), and current rent is $3000/month.

Options:

1) Take all of proceeds from 1st house and pay off the principal on 2nd house

2) Take all of proceeds from 1st house and invest in age appropriate vanguard target funds

3) Take all of proceeds from 1st house and put in a SPIA

4) Sell both houses (I am not sure what the tax implications are here).....

What do you think is the best option? They are essentially trying to maximize their income per month during retirement.

Thanks for all of the help,

SquashMan

[Hatton]

Ok.  What is their projected yearly spending.  What is their income from social security and investments.  How big exactly is the nest egg?  Is the investment property easy to rent out or a struggle going for months empty. The first house is a primary residence so no tax problems.  The second house if sold would be a taxable event.  A spia is a good idea if the pension/ SS/investment income will not meet the spending needs.  Really more detailed numbers are needed in order to help you.

[jfoxcpacfp]

Honestly, the answer depends upon more than what you've listed above, as @hatton1's questions illustrate. Their best option would be to hire a fee-only financial planner for a few hours of advice. This is not the best way for them to make such a critical decision and it would be well worth the time and money.

[pdsquash83]

hatton1 wrote:

Ok.  What is their projected yearly spending.  What is their income from social security and investments.  How big exactly is the nest egg?  Is the investment property easy to rent out or a struggle going for months empty. The first house is a primary residence so no tax problems.  The second house if sold would be a taxable event.  A spia is a good idea if the pension/ SS/investment income will not meet the spending needs.  Really more detailed numbers are needed in order to help you.

Click to expand...

Thanks for the responses:

Yearly projected spending: $60,000 per year or 5k/month (pension and SSI covers $4k/month)

Nest egg: I am not sure exact numbers, but 1 million

Investment property: Occupancy rate over the last two years has been 20 months, they haven't had a hard time renting it out

[Kamban]

Agree with above.

Where is the 2nd house rental. In the same town they live in now and will move away from once they are retired. Are they going to be long distance landlords or give it to a property manager. Will the 10% fee affect the overall return versus selling it and investing in an index fund.

Selling their current home and take tax free gains is logical. The rest, just depends.

[Kamban]

pdsquash83 wrote:

hatton1 wrote:

Thanks for the responses:

Yearly projected spending: $60,000 per year or 5k/month (pension and SSI covers $4k/month)

Nest egg: I am not sure exact numbers, but 1 million

Investment property: Occupancy rate over the last two years has been 20 months, they haven’t had a hard time renting it out

Click to expand...

If they sell their house and add to their nest egg investments  - It will be $1.3M

With a 4 % withdrawal you get $52K. They already get $48K in pension and SS#.

So they can have $100K per year to live on. More than their required $60K, and plenty to splurge on and do things before age catches up with them and their spending decreases.

[Hatton]

I would keep the rental if they like fooling with rentals.  If it is distant I would sell it so I did not have to fool with it but thats just me.  I like financial assets and dislike rental property.  It sounds like they will be ok.  If they dislike fooling with investments a Spia is a good idea to simplify things.

[pdsquash83]

hatton1 wrote:

I would keep the rental if they like fooling with rentals.  If it is distant I would sell it so I did not have to fool with it but thats just me.  I like financial assets and dislike rental property.  It sounds like they will be ok.  If they dislike fooling with investments a Spia is a good idea to simplify things.

Click to expand...

It is unfortunately a long distance rental (but that has been the case for years). They are using a rental management company that they are happy with and has reasonable mgt fees (at least they tell me that 8% is reasonable).

[Sneezedoc]

My advice would be to have the discussion with your in-laws to consider things more in terms of opportunity costs, and how to best put that money to work.  If you had an extra million dollars in cash, would you put all $1M into a single house to rent, out of state?

Even if you were decided on allocating this amount into physical property, many investors would likely buy a couple (or few) smaller houses, not settle all eggs into one basket- or, would use investment vehicles for part of it. This would spread-out the risk of loss of income on that allocation.

A management fee of 8% is not bad.  But remember property managers are not “you” and yet they do have a great impact over the performance of that asset- and thus that amount of your money.  I have had the experience of a “good-gone-bad” Property Manager, leaving me holding the bag after tenant damage on a rental condo required repairs that they delayed getting around to, leading to a prolonged period of vacancy.  It took me personally investigating to discover this, and unfortunately I suspect that a part of the reason my property was the one short-changed from the over-committed PM, was a combination of the fact that I was not personally following things closely, and they may have felt that I could “afford” to have the vacancy as a physician.  This may not be so very different from being retired, out of state, enjoying grandchildren, etc. I don’t say this to scare away from the decision, just to consider the opportunity costs of it.

One final thought is that if your in-laws have some personal attachment to the home, they may not be ready to “part” with it yet, and recognizing that may be important;  in such a case keeping it could be the right thing to do for family happiness, but then at least everyone has it out in the open that the concession is for sentimental reasons, so if the ROI is sub-optimal there are no misunderstandings.