Nila Sweeney
If you’re buying a new, bigger, better home for your family, should you hold on to your old one as an investment property or say goodbye to it for good? 
 
“In most cases, it isn’t a good financial decision to keep your old home and rent it out,” says Margaret Lomas, director of Destiny Financial Solutions. 
 
Lomas says families who are upgrading to a larger home normally have plenty of equity in their first house. As a result, the best strategy is usually to use the proceeds from the sale of that first home to purchase your next home.
 
You then establish plenty of equity in your new home, which in turn can be used to leverage a tax-deductible debt on an investment property.
 
By keeping your old property as an investment, you end up with a small, tax-deductible debt on that property and a larger non-tax-deductible debt on your new property. In that situation, you’re paying out more than you need to, says Lomas.
 
The house you’re moving out of is a capital gains tax-free asset. This is important because it means you’re able to receive all the proceeds when you sell it. However, the moment you turn your old home into an investment property, it starts to accumulate capital gains tax. 
“You’re missing the opportunity to receive that free capital gain [by renting it out],” says Lomas.
 
Take the following example:
 
John and Sandra own a home worth $300,000 on which they currently owe $100,000 at an 8.5% interest rate. They are planning to upgrade to a $400,000 home, which also comes with an 8.5% loan. If they choose to rent out their first home, they expect to receive $18,000 each year in rental income. Ignoring purchasing costs, the table below shows that they’ll end up with a net cost of almost $30,000.
 
Turning their old home into an investment property
Current owner-occupied property value $300,000
Current debt $100,000
Equity $200,000
Rental income $18,000
Interest on loan $8,500
Other costs $2,000
Gain for the year $7,500
Tax at 30% $2,250
Net to John and Sandra $5,250
New home value $400,000
Interest on loan $34,000
Net cost (new loan interest less net rent) $28,750

 

 

John and Sandra own a home worth $300,000 on which they currently owe $100,000 at an 8.5% interest rate. They are planning to upgrade to a $400,000 home, which also comes with an 8.5% loan. If they choose to rent out their first home, they expect to receive $18,000 each year in rental income. Ignoring purchasing costs, the table below shows that they’ll end up with a net cost of almost $30,000.

 

Selling their old home
Proceeds from sale $200,000
Loan for new home $200,000
Interest on new debt $17,000
Loan for new investment $300,000
Interest on loan $25,500
Other yearly costs $2,000
Income from rental $18,000
Gross loss from rental $9,500
Tax break at 30% $2,850
Total costs to John and Sandra $23,650

 

 

Emotions running high
 
It’s understandable that people may develop an emotional attachment to their first family home, after they’ve bought a new property – after all, it was where you shared memorable experiences with friends and where you watched your little ones grow up. 
 
However, you should bear in mind that your old home may not have the qualities of a good investment property. Is your old home located in an area that’s experiencing high rents? Chances are, it’s not. The reason you moved into this home years ago could be different to what a potential renter is seeking. For example, you might have chosen that home because it was close to family, but others may value it in terms of its proximity to public transport.
 
The exception to the rule
 
Is there any situation in which renting out your first home would be the better option? Lomas says that if you’re moving away for less than six years (say, because of a temporary job re-location), it would make sense to rent out your first home. For the first six years, your first home will not attract capital gains tax if it’s being rented out – provided you continue to claim your first home as the principle place of residence. 
 
-- By Stephanie Hanna
 
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