With a potential 8-10% total return, should we keep our current home as a rental or sell and reinvest the equity?

It’s a tough choice faced by many homeowners with the desire to relocate: should one sell the old home at market prices or keep it as a rental property? Indeed, crunching the numbers to determine the better financial move is often worthwhile.

However, the right move ultimately depends on one’s lifestyle, personal preferences, tolerance for risk, and, perhaps most importantly, liquidity. Some folks value appreciation of capital above all else, while others may value a simple, flexible lifestyle and plenty of dry powder to be ready for those rainy days.

In this piece, we’ll explore the case of a Reddit user who’s sitting on a home valued at a whopping $3 million. They’ve got a $1.2 mortgage remaining with a fixed 2.5% rate (that’s a ridiculously low rate for mortgage debt!).

With around $12,000-15,000 in expected monthly rent (a 4-5% yield), there’s a significant amount of income that can fund just about any retirement. With such a cheap mortgage, appreciation potential, and robust passive income, sticking with the home rather than selling it could make a lot of sense for those who can comfortably manage a second mortgage.

Lifestyle and risk tolerance may be more important factors

At the end of the day, not everyone is cut out to be a landlord, given the responsibilities that some soon-to-be retirees may drastically underestimate.

Of course, hiring pros to manage a property can make sense, but doing so will eat into your returns. And the full costs should be crunched before the final move is made. In any case, I’m a firm believer that it’s never a good idea to assume a property will appreciate at a rate that’s consistent with past years’ returns. Just like with stocks, past performance is not a guarantee of gains to be had in the future.

Like the stock market, the real estate market can experience corrections every so often. And, if things get really bad, crises and crashes can happen. As such, I think it makes little sense to overleverage oneself with optimistic assumptions in mind, even if the optimistic scenario is the likeliest scenario for some timeframe.

In any case, I wouldn’t be against keeping the home as a rental property, given the cheap mortgage rate and the respectable yield the Reddit user will get. However, it’s unclear where the Reddit user will move and on what terms their new mortgage will be. As such, I’d say it’s best to visit a financial advisor before making what could be the biggest financial decision of the Reddit user’s life.

The case for selling the home and investing the proceeds in stocks

When it comes to 8-10% potential annual returns, the Vanguard Total Stock Market Index ETF (NYSEARCA:VTI), which the Reddit user is considering, is a great long-term holding to consider. Of course, you won’t get the same yield from the VTI. But you also won’t have to worry about a midnight pipe leak that must be fixed. In any case, it ultimately comes down to personal preference.

Arguably, future returns for stocks could prove more muted, given today’s hefty valuations. Some big banks forecast the S&P 500, which is the top gauge of the U.S. market, could return just 4-6% in the next decade. And, of course, market volatility will have to be dealt with to score such a modest return.

In any case, I’d encourage our Reddit user to “reset” their return expectations and not to assume anything. Instead, discussing their asset allocation, passive income needs, and risk tolerance with a financial advisor would make the most sense.

The bottom line

Personally, I think selling the property while diversifying into a broad basket of ETFs makes the most sense. A perfect mix of U.S. equity ETFs, international ETFs, bond funds, gold, CDs (Certificates of Deposit), REITs (Real Estate Investment Trusts), and other assets should be explored as one aims to construct a diversified portfolio of securities.

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