Selling Rentals with Installment Sale

[nwsteve]

I have noticed that some of the Forum members have been owners of rental properties. In our market, there is a noticeable effort to limit landlord rights and implement any number of "requirements" that increasingly nibble away at the economics of being a landlord on at least the scale we are.
We have 3 rentals currently representing 15% of our networth. With today's interest I would not mind having 7+% interest on some of this value.
I would appreciate hearing about any experiences and learnings using owner financing installment sales. I have done researching and can already see the possibility for running up some handsome legal and cpa fees
Thanks in advance for anything you can share.

 

[Happyras]

In WA, I would be more concerned with the non-existent, yet clearly implemented income tax you would pay on the capital gain from the sale on a state tax side, as well as the recaptured depreciation fully taxed in the year of sale despite installment sale on the Fed side. I am struggling with the same issue and would like to dump our one residential rental. Our commercial rental is from our prior business, so we are exempt from that state income tax at least on that one. Its on a triple net lease, so not so urgent to avoid the residential tenant issues you are facing.

Sadly, our state was able to violate the intent of the law and implement an income tax by calling it a capital gains tax. It is an issue likely when you sell more than one rental and take on more capital gains than exempted. I have not read how you might avoid it like you can on the Fed level, by using installment sale treatment of the gain spread out over years......

 

[calmloki]

Carrying paper on four places in Oregon right now. A little shaggy rental house we sold to the tenant in 2016 on a 30 year contract with modest price, low down payment and interest. Payments are coming in with regularity once the buyer figured out how to include the taxes and insurance with his P&I and use auto-pay.
Shaggy student 9-plex sold in 2020 that the buyer did a 1031 exchange from his rental house into. Smart move on his part as his sale generated about a decent 25-30% down payment on our place. ten year balloon. Regular time payments sure feel like he's using autopay.
Sweet 1940s 8-plex sold to someone in a sweetheart deal in 2021 - about 12% down, darn low price, 30 year contract that vanishes after wife and I check out. No real estate agent, we're paying capital gains as the principal comes in, but mostly it's just interest income.
A small trailer park with 15 acres on the way to the mountains - lots of trees, a small brook - cool place, should have kept part of it, but we got it via foreclosure after lending on it. Not fun and we put a summer in working on it to beat it into saleable shape. And paying bills that the borrower walked away from. Our buyer got in with low down and commonly missed and was late on payments. That one was supposed to pay off with a ten year balloon last November. Surprise - he was going to sell it to make big money and pay us off, but his buyer needed till the end of December. I gave him six months, which meant he would pay us off mid May. He made his December and January payments, then quit paying. Sent him a letter; he didn't respond, I handed cash to a lawyer who sent another letter and started default interest. Kept the lawyer from proceeding further with the foreclosure because I said I'd give him till May 15. Excuses have gotten him a month past that time, but last Friday the Title company said they had funds from the sale but the seller needed to bring in one more thing... then Juneteenth, so we'll see about tomorrow. People persist in being themselves. The default interest mollifies me somewhat..
Hoping to sell a little coast lot we've had for 12 years at month end - very low down, low price, 3 year balloon. Handed the buyer to a RE agent who claims she could have done much better, but the lot is going to the neighbor, which is the right place for it.
Starting the listing on a triplex - photography on the 26th - and will offer owner-carry.

Suggestions: more down, more better. Foreclosure is a painful process and expensive, and it costs about the same to foreclose on a $30k parcel as a $300k. Find and use a small local private collection escrow company vs a big chain. Huge value in having an escrow company with the same 4-5 ladies for the last 20 years. When you call in with a problem it's way easier and things get done.

 

[nwsteve]

In WA, I would be more concerned with the non-existent, yet clearly implemented income tax you would pay on the capital gain from the sale on a state tax side, as well as the recaptured depreciation fully taxed in the year of sale despite installment sale on the Fed side. I am struggling with the same issue and would like to dump our one residential rental. Our commercial rental is from our prior business, so we are exempt from that state income tax at least on that one. Its on a triple net lease, so not so urgent to avoid the residential tenant issues you are facing.

Sadly, our state was able to violate the intent of the law and implement an income tax by calling it a capital gains tax. It is an issue likely when you sell more than one rental and take on more capital gains than exempted. I have not read how you might avoid it like you can on the Fed level, by using installment sale treatment of the gain spread out over years......

Agree with all your remarks but it is there now. Big question is how long before the threshold starts dropping. It is my understanding that Wa State use the cap gains reported to the Feds. So in my simple understanding, keep your total cap gains below 250k, you are good. Awaiting confirmation from my cpa ;-)

 

[Happyras]

Agree with all your remarks but it is there now. Big question is how long before the threshold starts dropping. It is my understanding that Wa State use the cap gains reported to the Feds. So in my simple understanding, keep your total cap gains below 250k, you are good. Awaiting confirmation from my cpa ;-)

That was one interpretation I read, but I am interested in what you find out. The way it was written, it did not seem to have the same provisions in recognition of gains deferral under an installment sale. It was vague as I recall.

Hope you are correct, it would motivate me. Some good points raised on the risk of taking on the installment contract, it could be worse than just renting.....

 

[COcheesehead]

I had big gains from a rental - seven figures - but I was retiring and didn’t want the property any longer. I sold it, paid all the taxes, recapture, etc and walked away with about 75% of the sales price which was still a hefty amount. So don’t let taxation drive the decision. Those funds are a nice cushion in our retirement plans.

 

[Montecfo]

Of course there is credit risk carrying the paper. But the larger risk in my opinion is getting the property back in a poor market due to change in economic conditions.

Not sure I see big legal or tax fees. Doing a note is not particularly complicated and there are standard forms around.

Tax also not complicated but then I have a tax background so there is that.

 

[Yipper]

Did this recently as well... going fine thus far and the buyer is doing a fine job staying current on the payments. Taxes weren't too hard to figure out even as a novice and like COcheesehead says... don't let taxation drive the decision.

I'm a few months from retiring and have wanted to focus on simplifying our lives and while our single residential property (2 units) wasn't TOO much effort to manage, our state is making the experience of being a smallish landlord much more difficult and less lucrative so I decided to get out and realize some of the nice gains we got during the pandemic.

 

[nwsteve]

our state is making the experience of being a smallish landlord much more difficult and less lucrative so I decided to get out and realize some of the nice gains we got during the pandemic.

OP Here--The quote above covers a primary motivator plus with interest rates rising for awhile longer., there is that overhang on cap rate continuing South.

 

[InsertCleverHandle]

Have any of you considered a DST (Delaware Statutory Trust) in these situations instead of carrying the note? I'm in a similar situation myself.

 

[calmloki]

Yes, but it's a thin enough crowd of those that have tried it that I haven't been able to convince myself to try it. Giving up control is a big problem for me.