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WANT TO SELL MY HOME BUT HAVE NOWHERE TO GO? NOW WHAT…

BuySellHold

“I would love to sell my home but with housing prices being so high, where would I go next?” is a response we frequently here now from homeowners who would like to sell their homes but are hesitant to do so. Many homeowners today have recently accumulated a great deal of equity in their homes and as such, would love to sell and realize these gains. The only problem is where would you go if you did sell and at what cost? In today’s hyper-seller’s market, most homeowners want to sell high but not buy high – effectively making them feel like the gains from the sales are thereby lost on the replacement buy. This is further amplified by a concern that a potential downturn in the housing market could make matters worse. So, let’s take a deeper look at what could happen and how it can factor into your decision of whether or not to sell your home now…

WHAT IF THE HOUSING MARKET DECLINES AGAIN?

Housing prices in most areas of the US have grown to record levels but as we have seen many times in Arizona, housing tends to cycle both ways. Nobody knows for certain what will happen to the housing market in the months and years ahead although we have provided our own thoughts on this already when people ask are we in a housing bubble? But let’s assume the worst and the housing market declines within the next year. What does this mean, and should you have waited to buy at a later date? The answer to this question largely depends on if you own a home now. If you don’t, then your loss would be purely proportionate to a loss in home value. Conversely, if you sell your home AND buy now, you have proportionately lost nothing in the exchange – all things being equal. Let’s look at an example:

You and your spouse sell your primary home now and realize a $500K increase in its value after the sale. You then turn around and buy another home now and reinvest that $500K into your new home. In two years, the market declines in value by 10% – thereby decreasing the value of your new home equity by 10%. Knowing this now, would you have been better off waiting and not selling your home now? In most cases the answer is NO and here is why: your original home value, if you held onto it would now be worth 10% less because a decline in the market not only brought down the value of other homes you could buy but your home as well. Therefore, you essentially gained nothing and if you then decide after the decline to sell your home and buy a new one, you gained nothing by waiting…your 10% loss in value is washed out by the 10% decline in home values. There are however other considerations here which include the following:

HOW MUCH GAIN WOULD YOU RECEIVE?

In the previous example, you could have taken advantage of the 2 out of 5 year IRS exemption (commonly referred to as the Home Seller’s or IRS 523 Exception) which allows you to take $250K (Single) or $500K (Married) in tax-free income from the sale of your property if you lived in it at least 2 of the last 5 years – essentially as your primary residence. This is basically tax-free money that you can do anything with…including reinvesting into a new home. But what happens if you realize a “net gain” in excess of $500K? What if you made $1M on the sale of your home? Unless it was an investment property which allows you to roll-over these gains into another investment property (1031 exchange), you will have to pay capital gains taxes on the $500K in excess of your standard IRS exemption. Now, if you are a resident of the state of Arizona, you could pay a combined effective federal and state capital gains tax of 23% (or $115,168) on that $500K gained. For high-income earners, the capital gains rates are typically much more favorable compared to ordinary income rates but keep in mind that the current capital gains rate could increase significantly if Biden’s proposed tax increases are passed. But based on current tax rates in Arizona, you would essentially pay (lose) 23% of any gain you receive above your standard exemption. In short, the more gains you receive above $500K, the more you will pay (lose) on your total combined gain. But it also depends on what you want to do with your gain and investing in a new home is not your only option…

DO YOU NEED TAX-FREE INCOME?

As previously discussed, the IRS Home Seller’s exemption allows you to take $250K (Single) or $500K (Married) in tax-free income from the sale of your property if you lived in it at least 2 of the last 5 years. So, if you are married, would you want to earn $500K in tax free income? Who wouldn’t! This is tax-free income after all and if you want to enjoy some of the fruits of your labor from all of those years you saved, then this might be the right time for you to do it. You may have seen those ads for “reverse mortgages” that allow homeowners to get their equity they have saved in their homes back during the later years of their lives but why do that when you can get $500K now for free? Definitely something to consider – especially based on a few other factors such as…

DO YOU WANT TO DOWNSIZE?

Have your children already grown up and moved out leaving you with a much larger home than you now need? Or are you now living alone and simply have too much house for one person? These are typically the times when people decide to downsize their homes and buy something smaller with less maintenance and costs. Most downsizing also means paying less for a smaller home thereby giving you a “next place to go” while also taking any additional tax-free and/or capitals gains income from the sale of your home. But you don’t have to downsize if you have other living options…

DO YOU OWN MULTIPLE HOMES?

Many of the homeowners we work with own multiple luxury properties in multiple states. Now is the time to ask yourself if you still need all those homes or could you afford to sell one or more of them and take the gains? This is a much easier question to answer when you have more than one home now and may be something you might want to consider as well – especially because you get the best deal of all: sell high without having to buy high to replace it. But there is one other potential consideration as well…

DO YOU WANT TO RENT AND WAIT IT OUT?

Some people like to “time the market” and sell their homes high, find a rental during the market correction, and then later buy, hopefully at the market bottom. Unless your name is Michael Berry, most people do not have an accurate crystal ball when it comes to timing a real estate market and as we recently witnessed with the impacts of COVD-19, anything can happen that can dramatically change the markets in a flash. Renting a nice luxury home is also not cheap and you could also lose some of the tax advantages you have as a homeowner that you wouldn’t have as a renter – not to mention you would be living in somebody else’s home with their restrictions. To add further complication to the waiting game is the real possibility that interest rates could rise in the months and years ahead to help limit the negative effects of inflation so if you plan to take a mortgage out on a future home buy, it could very well mean a higher cost of money to you down the road. A final consideration is looking at how long it could potentially take for the market to correct. As you can see from the adjacent chart, housing starts after the great recession reached a record low and some experts claim it could take up to 3-5 years for the housing inventory in the US to finally catchup with demand. Are you willing to potentially wait that long?

US_Housing_Starts_History_1
SO, NOW WHAT DO I DO?

As previously discussed, what to do next can be a complicated question and involves a number of key factors of which we touched on already. But in the end, owning a home for most people is both a personal and financial consideration. Yes, your home is an asset which you want to see appreciate in value, but it is also somewhere you will want to personally live and be happy with. When you see the value of your home in the current market reach record levels, it is tempting to want to sell and take the gains while you can. So unless you need that money out now, you can either stay put or sell your home and buy a new home with your extra money you receive. All things being equal, selling and then buying now should be a zero-sum gain and if you were already thinking about buying a new home, selling and then buying now should equal itself out…even if the market ends up correcting in the months and years ahead. In short, what you could save by waiting to buy is likely proportionate to the loss in value of your current home when selling at that time…you end up gaining nothing in the end. The opposite is also true…as we are seeing now. So, in the end, if the financial tradeoffs of selling and then buying a home now are a wash, your personal needs could better help answer this question for you.

HOW WE CAN HELP YOU…

The Goldman Ruge Luxury Group provides luxury property owners, buyers, and sellers in Arizona with the highest level of service and support when dealing with one of the largest personal financial decisions our clients will make in Arizona. Our clients depend on us as their trusted advisors for all aspects associated with their luxury properties both including and beyond the home buying and selling processes by helping them protect and maximizing the asset value of their luxury properties. We primarily focus on luxury property sales in the Paradise Valley, Arcadia, Scottsdale, and Phoenix areas.

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