House Hacking 101
What Is House Hacking?
House hacking is a term used to describe renting out a portion of your primary residence, either as a long-term or short-term rental. It’s a great way to make passive income, unlock financial freedom, and live in your dream home while still being able to afford it.
House Hacking a Single-family Home vs. Multifamily Property
The type of property you own will inform your house hacking strategy. Single-family homes typically allow you to occupy one unit while renting out the remaining units. In this scenario, it’s likely that you’ll be roommates with your renters. Alternatively, if you have an accessory dwelling unit (or ADU) on property, you could rent it out.
If you’re thinking about house hacking a duplex, triplex, fourplex, or other multi-unit property, expect higher upfront expenses than if you were investing in only one dwelling unit. However, the profit potential is also greater because there are more rental units with more tenants paying rent every month, plus you’ll enjoy more privacy.
Why House Hack?
House hacking is an excellent real estate investing strategy. When you’re both the homeowner and landlord, you can save significantly on housing expenses by living in the same place as your tenants while collecting rental income.
To better illustrate why you should consider house hacking, let’s look at the numbers. As of June 2022, the National median sales price of an existing single-family home was $423,300. If you’d like to make a 20% down payment, you’d need to rustle up $84,660. If you had a starter home that you could leverage by renting out individual units, your existing monthly mortgage payments could be covered by your rental income, allowing you to save money and purchase your dream property down the line. That’s exactly what house hacking is all about!
The Benefits of House Hacking
Interested in becoming a real estate investor via house hacking? Here are a few reasons why it might be the right strategy for you:
- House hacking is an easy way to get into real estate investing since it doesn’t typically require the same amount of money upfront that purchasing rental property does.
- This strategy allows you to dip your toes into property management without taking on too much risk at once.
- You can enjoy a flexible schedule so you can travel or have time off when needed while maintaining a steady cash flow to reduce or eliminate your housing costs and living expenses.
- You’ll be diversifying your portfolio and building wealth.
The Risks of House Hacking
As with any investment strategy, house hacking has its drawbacks and risks, including:
- There are many legal and financial obligations involved that you’ll need to uphold, such as tax obligations, maintenance expenses, and safe housing requirements.
- If you don’t have any experience managing properties and tenants, it’s easy to get overwhelmed by the responsibilities of being a landlord.
- It might be hard to find tenants who align with your lifestyle and goals.
- If you don’t secure mortgage insurance and run into hard times, you risk foreclosure.
How to House Hack
1. Determine Your Financing
Start by assessing your personal finances. If you already own a single-family home with substantial living space, you can divide it into individual units. To maximize your bottom line, consider refinancing if your lender is on board. If you’d rather buy a new property and boast a healthy credit score, consider getting pre-approved for a conventional loan.
If you’d rather focus on purchasing a multifamily property, explore FHA loans, which allows homebuyers to provide a down payment as low as 3.5% of the purchase price. For those looking for an extra challenge, you could pursue the FHA 203K and flip the units before renting them out.
2. Find the Right Property
Living among your tenants means finding the right property is more important than ever. To that end, here are the most important aspects to consider:
- Location. Is the property in an area that’s growing? Does it have easy access to public transportation? Look for a house in a good neighborhood with good schools and other amenities nearby.
- Amenities. What amenities does your rental property offer? Do tenants have access to parking spaces? Are there common areas for tenants to enjoy, like a pool or gym? These features affect how much rent tenants are willing to pay, keep them in mind as you explore various options.
- Upkeep. Has the property owner provided a laundry list of repairs they’ve made? Do they give a discoloration disclosure? This information will give you an idea of how much work has been done on the property and what else needs to be done.
- Size. Renters have unique needs, so before buying a property, think about how big or small it should be to align with your goals.
3. Complete a Deal Analysis
You shouldn’t agree to any kind of investment opportunity unless you know how much money you can expect to make and spend.
That’s why it’s critical to research the property before you commit to it, which includes considering its location, evaluating the average monthly rent in the area, and factoring in potential expenses like the purchase price, maintenance, property taxes, and insurance.
4. Purchase the Property and Move in
You’ve found a rental property that looks good on paper, and you’re ready to buy; now it’s time to make an offer and move in. When you make an offer, your real estate agent or lawyer will help compile the necessary documentation.
If you’re renting out an existing home, you’ll need to ensure it’s clean and meets all the local housing codes. Before marketing your property, read through your local landlord-tenant laws to ensure your property management business is above board in every respect.
From there, you can begin to find tenants for your new property. Most landlords use a property management company or other third-party services to help them with this process, but if you want to manage it yourself, that’s also an option.
House Hacking Mistakes to Avoid
To get your real estate investment started off right, avoid:
- Choosing an unattractive neighborhood. It’s important to choose a neighborhood with the amenities you want, like nearby grocery stores and restaurants, as well as access to public transportation.
- Ignoring local zoning regulations and ordinances. You should check with your city, HOA, or county government before buying a rental property to know what regulations are in place for homeownership.
- Failing to budget for repairs. Rental properties are bound to need some maintenance work over time. Make sure there’s money set aside for repairs and maintenance.
- Taking landlord duties lightly. You are now responsible for the well-being of another person (or people) and their home, so make sure you take that responsibility seriously.
- Not establishing proper tenant boundaries. Ensure you set clear boundaries with your tenants. Be sure to communicate your expectations to each other.
If you’re a new landlord or want to become one, house hacking is a great place to start. We hope this guide has given you some ideas on how you can hack your primary residence and start earning passive income.