In the last week, Kelley Kohler and Steve Berg each wrote well thought out articles regarding the merits (or lack thereof) of renting a home instead of selling a home, given the current real estate market conditions.  Kelley writes from a Tucsonian perspective, while Steve writes from a San Diegoan perspective, and each singing roughly the same tune.

Kelley helps her readers by giving specific numbers to illustrate her point.  For anyone considering renting the home they used to live in, in lieu of selling it at today’s prices, Kelley’s article is a must read.  Steve’s article makes many of the same points as Kelley’s, but doesn’t use any specific housing/rental numbers.

One excellent point Steve makes is that being a real estate investor isn’t a bad thing.  If you look at the long term numbers, real estate investors have done very well for themselves.  For most people, the single most deterministic factor of their own wealth is the value of the real estate they own.  The equity of the home they live in, for many people, is a very big share of their personal welath.  Wealthier people tend to own more than just one piece of real estate, and owning more real estate, over the long term will generally lead to even more wealth.

The simple truth is that there is a finite amount of real estate in the world.  For all of human history, there has been growing demand for real estate, because human population continues to grow.  So long as human population continues to grow, demand for real estate will grow, and basic economics tells us that prices will rise in the absence of additional supply.  Prices will also rise faster and higher in the areas where demand is the greatest.  That is, the areas that people most want to live.

I noted recently, that San Diego is one of the most desirable cities in the US to live in.  Clearly, demand for real estate there must be high, and probably always will be.  Owning real estate in San Diego, over the long term, will undoubtedly be a good investment for any real estate investor.

Tucson didn’t make the list of most desirable cities, but it shares many of the attributes that make Phoenix a popular city, so for the sake of brevity, we’ll concede that Tucson is indeed a popular place for people to want to live (except if you are a Sun Devil alumni, like myself, in which case you could never imagine yourself living in Tucson).

In a roundabout way, I’m getting to my point:  that Phoenix, like Tucson and San Diego, is a desirable place to live, and because of that, demand for real estate will be stronger in Phoenix than the average city.  So long as demand remains strong, and real estate remains scarce, prices should rise over the long term.

Right now today, real estate in the broader Phoenix market is anything but scarce.  There are pockets of the city, like Arcadia, the town of Paradise Valley, and Silverleaf at DC Ranch, where we are still seeing price growth, due to the incredible scarcity of the type of land that those communities offer, but across the Valley, particularly the outlying areas of Phoenix, where there is little to differentiate one home from the next, there is a tremendous amount of supply, which is reflected in the approximately 18 months of inventory we see within ARMLS, and the nearly 24 months of inventory that has been reported to be in speculative new home construction inventory.

If you’ve followed me this far, you must still be pondering the title question, “Should you rent or sell your Phoenix area property today?”  First, I have a couple of questions that you must answer truthfully:

1. What is your time horizon?  A real estate investor is a long term investor.  And one year is not long term, which is the point that Kelley articulates so well (and why I keep referring to it).  If you are thinking 5 years or more, then I believe renting today vs. selling today would be a good idea.  If you want to sell next year, because you hope it will be a better market for selling than this year, your crystal ball better be really, really good, because that type of blind faith could cost you a lot of money.  My suggestion, if you plan to sell to get and reduce your real estate invesments in the next year, then sell today.  It could be better next year, but it could also be worse.  At least today you know what the market is, and what it will take to sell.  Do you really know what the market will be like next year, and what it will take to sell in that market?
2. Do you want to be a real estate investor?  A real estate investor is far different from a home owner.  I think Steve Berg makes this point the best.  Real estate investors have spreadsheets that keep track of costs, or better yet, use an accountant that tracks it for them.  They work with property managers to ease the burden of managing tenants.  They track market trends on a periodic basis, looking for buying and selling opportunities.  They have financial reserves to overcome vacancies and repairs.  They consider all types of real estate, from land to residential to commercial.  In short, they are well prepared and diversified.
3. Are you willing to fund escrow to sell?  In the last week, I’ve spoken with 2 real estate investors that own property in North Phoenix.  Each had hoped to make a “quick hit” with their investment, cashing in within a year or two from when they made their purchase.  In one case, I estimated that the investor would need to provide approximately $36,000 to close escrow.  In the other case, I estimated that the investor would need approximately $15,000 to close escrow.  In each case, I was able to convince the investors of the price it would take to sell their property, as we looked at past sales, current prices, and their desire to be the next sale.  Given the choices, one investor chose to continue renting his property, while the other chose to continue leaving the property vacant.  Both want out of their investment, but not if it forces them to write a check to close escrow.  This is the #1 objection to selling today.  Actually, I should rephrase that.  This is the #1 objection to being a successful seller today.  Many people in Phoenix want to be sellers.  But most do not want to accept the price that would make them successful sellers.   If you cannot afford to sell today, due to the shortfall between your mortgage and the value of the real estate you own, you have little choice but to rent the property.  In that case, do yourself a favor, and work with a quality property manager.  Just remember, that once you decide to become a landlord, you’ve made a long term decision.  It may take many years before you can sell that property for more than the mortgaged value.  And all the while, you will probably have a negative cash flow scenario, where the rent collected is less than the amount you are paying in mortgage, taxes, insurance, and management costs.

To summarize, here’s my boil it down advice:

If you are selling the home you live in today, so that you can live in a different home that you prefer for your own reasons (bigger, smaller, taller, shorter, etc.), and had no original plans to rent your current home and/or do not know anything about being a real estate investor, I would probably advise you not to become a landlord and rent your current home.  Renting the home you’ve most recently lived in, will almost certainly lead to disappointment.  No matter who lives in that home, they probably won’t care for it the way you did, and your emotional attachment to the home makes it ill suited to being an investment.

If you are a real estate investor, and are comfortable with being such, then the only reason I would sell today, is to buy a different real estate investment in an area you believe will outperform your current investment.  For example, selling a home in Surprise to buy a home in South Scottsdale.  Or selling a home in Queen Creek to buy a home in Tempe.  This is an ideal market to “trade-up” and improve the quality of the real estate you own.  So long as you are moving equity from one investment to another investment, particularly if you can do so through a 1031 exchange, this is an excellent time to sell, and take advantage of the best buyer’s market Phoenix has seen in 20+ years.

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