House Hacking 101: What to Know
Real estate investing has its share of benefits, which includes an opportunity to generate a supplemental, or even primary, income. The other great thing about real estate investing? There’s more than one way to do it.
For example, you could purchase a single-family home and rent out the rooms or buy that same property, make any necessary repairs and upgrades, and sell it for a profit.
Buying a property and making it your primary residence while renting out the remainder of the space, also known as house hacking, is another real estate investment option that’s available to you. House hacking isn’t just a way to cover your mortgage payment, but also a way to generate more revenue from your rental property.
Keep reading to learn more about what house hacking is, how it works, the advantages and disadvantages of doing it, house hacking strategies and more.
What is house hacking?
House hacking is a strategy to turn your home into an income generator. You purchase a multi-family property and live in one unit while renting out the remainder. House hacking is an attractive real estate investment strategy because your tenants essentially pay your mortgage as your property builds equity.
Additionally, house hacking lets you learn about property management, being a landlord and dealing with tenants while they cover most of your housing expenses. House hacking can be done in a multi-family apartment building or a single-family home. In the latter, you could simply rent out a bedroom, the basement or live in the basement area while tenants rent the upper level.
Being a house hacker is also a flexible scenario and doesn’t have to be a long-term situation. You could choose to live at and rent a property while making improvements so you can sell it in a couple of years. It’s a similar situation to house flipping, but in a house hacking scenario, you’re earning income through rent payments, whereas your rental property is vacant during the repairs that come with a flip.
Strategies to hack a house
Hacking a home isn’t as simple as buying a property, moving yourself in and renting out the rest of the rooms or units — at least it isn’t that simple if you want to do it effectively. Here are a few strategies you will want to implement to help ensure that your house hacking experience is a positive one:
Find a great property
Whether you plan to house hack or not, acquiring the best properties possible is a good way to increase your real estate investing success. The more attractive the property, the easier it will be to find tenants. Think of all of the things that would make a rental property attractive to prospective tenants and incorporate those items in your search. These factors could include:
- Finished basements: Properties with finished basements could save you time and money when it comes to repairs. You can turn the basement into a living area that you or a tenant could live in.
- Multiple bedrooms: The benefit of multi-family properties is the more units you rent out, the more checks you can collect. However, single-family homes can offer the same opportunity if you rent the bedrooms individually. Just like with an apartment complex, the more bedrooms a single-family property has, the more rent collection opportunities you will have.
- Comfortable common areas: Giving tenants “run of the house” (versus having to be confined to their bedrooms) will also make your rental property more attractive. Make common spaces, like family rooms, living rooms and dining areas, places where tenants can live comfortably, and you’ll have a better chance of retaining them.
- Location: A “good” property isn’t just one that your tenants find attractive, but one that offers a financial upside for you as well. Location is a key factor in how valuable your rental property will eventually be. For example, the neighborhood where your property resides will dictate the type of tenants who will want to rent from you, as well as how much you can charge for rent. Where your rental properties are located will also determine one of your biggest expenses as a real estate investor — property taxes.
School district ratings and crime statistics are other factors to pay attention to as you look for properties to hack because they’ll impact your home’s value. Monitor statistics such as the amount of rental home listings and vacancies in a given area. The higher the vacancy rates, the less you’ll likely be able to charge for rent as supply will outpace demand.
You might have to make repairs after you acquire your rental property. These could be necessary fixes to make the home habitable for you and your tenants, or cosmetic to make house hacking more feasible — i.e. converting the basement into an apartment or updating vacant units in a multi-family property.
Lease to good tenants
It’s important to have the best tenants possible as a real estate investor; they’re the most likely to pay rent on time and respect your property. You’ll want to screen tenants based on their credit scores and rent-to-income ratio. Let prospective tenants know ahead of time what requirements you have in terms of background checks, security deposit, monthly rent, etc. You can also increase the likelihood of getting good tenants by speaking with their prior landlords to verify their tenant status.
How do you buy a home to hack?
Now you know some of the best strategies for hacking a house, but what about acquiring the property in the first place? The process of buying a house to hack isn’t much different than if you were just buying a primary residence for yourself to live in. The difference lies in what you do with the house after (marketing, looking for tenants, tenant screening, etc.).
Here are some of the steps you can take to purchase a house to hack:
Figure out the financing
Unless you can pay for your rental property in cash, you’re going to have to secure a loan of some sort. Since you plan to live at this property as well as rent it, you could be eligible for special financing options, according to Fortune Builders. You can get a standard loan, but also might be able to access homebuyer-assistance programs. If you live in one of your rental property’s units, you could qualify for a loan that has low down payment options and favorable terms. For example, the Federal Housing Administration offers a 203K loan that helps real estate investors pay for unit repairs before they start renting them.
Tally up your expenses
Securing a loan is a great start to your house hacking venture. However, you should also make sure you can afford the property for as long as you plan on owning it. Start by figuring out how much rental income you plan to earn as well as your property expenses. Housing cost examples include property taxes, insurance, utilities, repairs, general operating expenses, your monthly mortgage payment and covering unit vacancies.
Ideally, once you subtract these expenses from your estimated income, you will see a positive number. This is a good indicator that your rental property will generate positive cash flow going forward. If your expenses total up to more than your estimated rental income, you might have to adjust your budget (increase the current rent, find ways to minimize expenses) before you can make an offer.
Finalize the deal, move in and make the property tenant-friendly
Once you have financing in hand and believe the property can deliver positive cash flow, it’s time to close on the deal. Be advised that closing costs present their own set of expenses — home inspection, appraisal fee and origination charges just to name a few. However, these are standard costs that you’d be facing regardless of what property you decided to acquire.
The repair stage will depend on your vision for your house hack. Where is your living space? Are you renting out the bedrooms or the basement? Do you plan to convert any room that’s not a bedroom into one? How you answer these questions will decide how long your repairs will take and when your new property will be ready for tenants.
Pros and cons of house hacking
House hacking can be a great way to become a real estate investor. If you have enough tenants, you can pay your mortgage while you’re building equity at the same time.
However, before you decide that house hacking is your desired real estate investing method, make sure you know the advantages as well as the disadvantages of doing so. Both are listed below:
It’s easier to get financing: Remember, you’re living on the property so you can secure a standard home loan, which is easier to get than financing for an investment property. You may also be able to obtain an FHA loan with a lower down payment for your owner-occupied rental property than if you would for a loan for a second residence or traditional investment property.
Tax benefits: Even though you’re living on this property, you’re still a landlord. That means you’re eligible for tax breaks that real estate owners who don’t live on their property receive. You can claim expenses related to your landlord status, such as repairs, on your taxes.
Potential extra income/cash flow: Your tenants’ rent checks can be put towards paying your mortgage. With a majority of your mortgage covered, you could use your money that would typically go towards that payment to make improvements to help increase your property’s value or even to acquire another rental property.
Cons of house hacking
Lack of privacy: This particular disadvantage of house hacking mainly applies to single-family homes. It’s great that your tenants’ rent is covering your mortgage, but the tradeoff is you’re living with other people. This could be an adjustment if you’re used to living by yourself. The same goes if you have a family and you’re renting a room or the basement to someone. Is there enough room to create enough of a buffer between your family and tenant(s)?
Potential to lose profitability: There are a number of ways house hacking could cause you to lose money. You want to find the best tenants you can, but no tenant is perfect. What if one day they’re suddenly unable to pay their rent? Additionally, the more people living in your house can potentially lead to quicker depreciation, which decreases the value in your estate. You might have to pay more to maintain the property, which will cause your expenses to increase. However, if you were to start charging more rent to offset those maintenance costs, your expenses may decrease.
It can be more difficult to sell your home: If it’s just you and your family living in your house, you can sell it whenever you decide to. With paying tenants, selling homes becomes a little trickier. You can’t terminate a lease without cause, so you have to wait for each agreement to expire. If your tenants are on different lease timelines, there’s a chance that rooms will be sitting vacant (and generating no income) until each lease expires.
House hacking can be a great way to begin your real estate investing journey while also purchasing your first home. Whether or not it’s the right investment method for you comes down to personal preference.
- Do you want to live amongst your tenants?
- Are you willing to potentially have to hold onto your house longer than you might want to because you have to let your tenants’ leases expire before you can sell it?
If your answers are yes, house hacking can be a good solution for you as your living expenses will likely be covered for as long as you live on that property.
AAOA resources for property owners
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