patrick.net

I'm glad you asked because:

krc says

I have 3 years to decide whether to sell my house and keep the 0 capital gains benefit of a primary residence. Is this generally enough of a benefit that it is not worth turning a house into a rental long-term?

Not really, the exclusion is based on the period of time when the property is used as a primary residence (qualifying use). Let's say the house was rented (NQ) for 1 years of the past 5, then your exclusion is 80% in three years, your exlcusion is 40%. Longer than that and you need to lose it all until it starts to build back qualifying use.

From that perspective, It depends what your basis is when you bought and then when you sell to determine the potential gain. Your basis is purchase price + improvements. If there is a large delta say, 300K gain. 100% exempt means tax savings of 75K or waiting three years and it becomes 40% or 30K. It depends on your embedded capital gain potential.

Everything else being equal, I would sell since the tax benefit exceeds transaction cost (high gain scenerio). With the money, you can buy another investment property(s)with better return potential or use the fund in other ways.

krc says

I am grossing about $400 a month on the house (rent - PITI). Still - now I am paying taxes on this at my income level which is over the 150k AGI limit

Rental income goes on Sch E and is treated like a business on a cash basis. Even though you net 400 a month cash, you have principle payment (which looks siginificant and is a non-cash return) and depreciation. Look at Schedule E and model in what your taxable income might looks like. Most landlords can turn $10K in actual cash and principle payment benefit and not pay $1 in current tax.

I ask my tenants to pay me three months rent in January 1st instead of Oct-Dec and accelerate payments like property tax in December to wipe out as much income as possible. You flip (the timing difference) it when it becomes favorable, so you will never feel rushed to fill a vacant rental as uncle Sam will subsidize it. Finding the right tenant is by far the most important thing. At minimum, I ask for the maximum security deposit and would not consider anyone without it.

krc says

2) The house is worth about $450,000 (Livermore, CA), with about $100,000 still owed on the property. I have a 15 year note on it with about 6 years remaining. Because I "could" gain the benefit of a primary residence if I sold the property within 3 years, is it possible that I could also get a "primary" house mortgage and refinance to a longer term and generate more income? Right now, going with an investment mortgage is about the same rate I have now (4.375) unless I want to buy down a lot.

No, not really unless you lie and the underwriter "buys" into your lie. You're just streching out the payment from 6 years to 15 or 30 years, thus exchanging a smaller payment at the expense of less principle repayment. No interest rate benefit means deal breaker. It doesn't do much to shift taxable income anyway. I would look into opening a line of credit instead. Line of credit's in 2005 were prime - 1%, which means they are effective around 1.75%. In 2012, line of credits are probably around P+1 or around 3.75%.

krc says

Why would you ever own real estate if you make over $150,000? Doesn't seem worth it

It is definitely worth it, too long-winded to explain. In a nutshell, you collect the housing dividend when the selling price is not right and you convert it into capital gains when the price is "right". You can also dump a lot of post-tax expense into pre-tax expense. There's also financial flexability and opportunity unassessible without real estate. How many people can say they have a 200K credit line with 1.75% pre-tax rates? I have friends that used their 2% loans to start business. Otherwise, it would be no loan or 10% loan.

SFace says

How many people can say they have a 200K credit line with 1.75% pre-tax rates?

Much better situation than that as a 15 year renter in the BA. Don't need the credit line. Your other points are valid but this one is not. You are risking leverage to put yourself into more leverage? Silly. Cash is King. Always will be.

RentingForHalfTheCost says

Cash is King. Always will be.

Absolutely. Cash is yours and you have control over it. You can di-invest. turn that into a money machine if you are that financially savvy. With debt? you are just throwing at the mercy of all other market forces over which you don't have any control.

bubblesitter says

Absolutely. Cash is yours and you have control over it. You can di-invest. turn that into a money machine if you are that financially savvy.

Yep. Cash lets you sieze opportunities when they arise. As Templeton said, let Mr. Market come to you; not the other way around. Mr. Market is a bipolar salesman who bounces unpredictibly from one extreme to the other. So when he's upset, buy. When he's euphoric, sell.