How To Decide Whether To Lease Or Sell A Luxury Home

Today’s blog post is a response to an excellent question by “Phil,” a long-term reader of the Tallahassee Real Estate Blog who happens to be the owner of an expensive Tallahassee home.

He is trying to determine whether he should sell the home or lease it out, and he has concerns about the viability of keeping the home continuously occupied during the leasing period.

But I think his concerns are misaligned; Phil should be worried about something else entirely.

Upscale Home Market In Tallahassee

Here is the question:

Hi Joe, Have been reading your blog for several years now. Your website is now probably the most important source of information for me to learn about Tallahassee’s real estate market. Given the current market for larger/luxury homes, we are thinking about renting out ours. Can you share your thoughts on the upscale rental market ($2500 per month and above)? Your general assessment of this segment (how easy to rent, what kind of houses/condos, locations, etc.)? Thanks, Phil.

Home Disposition Analysis

I really think it boils down to this question … how does Phil decide what to do with his expensive home in a market that has not fully recovered values?

When I look at his question (and apply my 24 years of experience as a real estate broker), I sense a common error in his assumptions. Let me explain …

I do not know Phil personally, and I do not know where he lives or anything about his home. I just know what every reader here knows … and that is what is written above in blue.

So Phil, I will do my best to help you determine the best course of action, if I’m wrong on my interpretations of your question, please comment below and we’ll adjust as necessary.

3 Key Mistakes Upscale Homeowners Make

1. They calculate the revenue they will get from leasing a home, but grossly under-estimate the costs that they will incur.
2. They fail to determine the cost of a vacancy and how long their house might go un-rented.
3. They fail to consider the down-graded condition and value degradation that occurs with non-owner occupants

The three points above are the primary reasons that high end homeowners rarely get the results that they sought when they chose to lease their homes (instead of selling right away). But that does not mean that Phil should not lease his home, it simply means that he needs to do a thorough analysis to ensure that he has knows what to really expect.

Expectations Are Too Optimistic

I believe most homeowners who are faced with Phil’s situation use good common sense to formulate a solution to this problem. They think, “well, my home is not worth as much as I’d like, so I’ll lease it out for a while until it goes up in value enough for me to sell it and get what I need for it.” If they could graph this thought, it would similar to the graph below:

Assuming the home in question is worth about $600,0000 and the homeowner wants to sell it for $700,000. So he figures he will lease it out until it appreciates enough for him to get what he wants. That’s the plan …

Unfortunately, this simplistic view employs the three key mistakes identified above. Is the homeowner losing money each year in expenses on this property? Even if the owner does not have a mortgage, shouldn’t he consider the lost opportunity cost of investing his cash into something that would grow during this time?

You can take a look at an analysis that I performed on this subject a few years ago (Using Cost Benefit Analysis To Decide On Selling A Home Or Leasing It Out), that produced the graph below. While it uses a home in a lower price range, it still accurately shows that most sellers expected ownership duration is far too low. The reality is that it will likely require more than 15 years for this to be a smart economic solution.

Again, I encourage you to read the analysis that is provided with the graph above in the previous post, because it considers the entirety of land-lording process.

Remember, the phrase “that’s OK, it’s a rental” does not merely apply to cars! Tenants will not treat your home with the same respect as you would, and that means your property condition will be sub-par in the “for sale” market in the future when you do decide to sell.

These additional costs require additional time for appreciation to overcome them.

You CAN hold your home and make it a wise financial move, you just have to be realistic about the time it is going to take. This is not a short term solution, rather it is a long term real estate investment solution to which you need to commit.

What To Expect From Luxury Homes For Sale

There is a rental market above $2,500 per month, but it is very thin. Most people who are spending this kind of money would rather own, as they can buy a lot of home right now due to the collapse of the housing market.

The supply and demand from luxury houses shows that we might have an over-supply for as much as 15 more years, all depending upon local employment and the durability of low mortgage interest rates.

This means we should not only expect an increase in the relative supply of luxury homes for sale, we should also see an increase in the number of upscale homes for rent. Without additional local high paying jobs, where will either tenants or buyers for these properties come from?

When interest rates return to normal, demand for upscale homes will return to normal (which is far lower than what we are enjoying today), and you don’t want to be trying to lease or sell one of these homes when that happens.

I have included a list of homes for sale and a list of homes that have sold below to help in your analysis when trying to decide whether to lease or sell an upscale home. Remember, this is just part of the analysis, you also need to speak with an expert in the market to evaluate your specific home and what your true options really are.

Start By Determining The Value Of Your Home