WHAT IS HOUSE HACKING?
House hacking is a great real estate investment strategy when owning multi-family rental properties. House hacking is when you live in one of the multiple units of your investment property as your primary residence, and have renters from the other units pay your mortgage and expenses. House hacking can also occur in single-family homes when the investor lives in the property, make improvements, and looks to resell within a couple of years. Renting out a bedroom, basement, or additional portion of your home can also be considered house hacking. This is a solid strategy for investors looking to do a quick fix-and-flip, or for investors looking to buy an owner-occupied multi-family property, such as a duplex, triplex or quadplex.
Are you one of the million Americans who lives in a very expensive real estate market and feel home affordability is simply out of reach? Would you love to be a homeowner but have acknowledged that reality means overreaching on your housing budget?
Welcome to 2018!
In many areas across the country, housing prices have skyrocketed-often in conjunction with wage increases in some of America’s most expensive cities. This doesn’t necessarily pose a huge problem for those at the top of the pay scale who are earning the highest wages-top salesmen, executive level leadership, etc. But it does pose a problem for the average American trying to provide a good living for their family while avoiding a two hour commute.
So what about the blue collar, hard working individuals who work in major metropolitan areas, conduct work vital to the economies infrastructure, and really make up the backbone of a cities financial health? What do we tell the large numbers of workers who have planted their occupational roots in a big city experiencing rapid wage increases, but who aren’t seeing those wages increases themselves. Are they doomed to a life of hour plus commutes and daily road rage?
Well, they could be. Unless they learn about the revolutionary tactic that is opening the doors of homeownership in expensive areas and allowing those willing to exercise a little more creativity and flexibility in order to create financial wealth. I’m talking about “House Hacking”.
House Hacking is a phrase coined by BiggerPockets podcast host Brandon Turner. While Brandon came up with the cool sounding name, the concept has been alive for a long time. While the idea isn’t new, the popularity of it’s application is. As housing becomes increasingly less affordable, creative home buyers have adapted and are finding new ways to own a home without breaking the bank.
What is House Hacking?
Simply put, House Hacking is a strategy that involves renting out portions of your primary residence to generate income that is used to offset the cost of your mortgage and other expenses associated with owning a home. When done correctly, it allows people to live in expensive areas completely for free, or even generate positive income through home ownership. Not too shabby right?
House Hacking is a means for those who cannot afford an expensive home to use creative methods in order to accomplish that goal. It is a way of squeezing every last ounce of value out of a home that you possibly can, in order to benefit yourself financially. Just like everything else in life, House Hacking doescome with a cost. In order to save on the financial side, the homeowner must be willing to take on a little more work and sometimes sacrifice a little creature comforts in the process.
House Hacking is becoming increasingly popular along with the “FI” (Financial Independence) movement (here). It allows people to cut down on their housing and commute expenses significantly. It also allows former renters to start accruing some of the tax incentives associated with home ownership like the mortgage interest tax deduction. For the majority of Americans, their housing expense is the single most expensive line item in their financial budget. By attacking this number through House Hacking, they can improve their budget significantly and free up money for saving, investing, or paying down their mortgage much faster.
House Hacking can save you money in the following ways:
- Lowering your monthly housing allowance through generating revenue renting out portions of your property.
- Lowering your taxable income base by acquiring extra tax write offs (mortgage interest deduction).
- Decreasing transportation costs like gas.
- Decreasing unproductive time spent sitting in traffic.
- Having the possibility of removing your car payment, insurance, and maintenance expenses completely.
- Learning how to be a landlord and transitioning into the world of real estate investing.
- And more!
Another huge benefit to House Hacking is the fact you don’thave to put down 20-25% of the properties value when you purchase. House Hacking strategies we use allow buyers to purchase a home with very low or no money down because they are buying a home to be used as their primary residence. This allows investors to save their capital for better purposes, and allows those who are not in a position with large amounts of expendable capital to still make their way into the housing market. So how do we do this? Let’s find out!
The Origins of House Hacking
House Hacking was born when housing became too expensive to be able to afford comfortably. While many home buyers decided to move further away from work to save money, or simply rent instead of buy, savvy buyers found ways to have their cake and eat it too. By buying, building, making, or otherwise acquiring multi unit properties, ambitious real estate investors were able to live where they wanted and have others pay the bulk of their expenses.
This was most easily done by acquiring multi-family properties-namely 2, 3 and 4 unit buildings. These types of buildings are commonly used for House Hacking because they offer multiple spaces to generate revenue and can still be purchased with a low down payment. These properties are classified by lending standards as a “single family home”, even if they are 2, 3 or 4 units.
When people learned this, they started buying these properties, lived in one unit, and rented out the others. The idea is simple, buy a multi-family property, move into one of the units, and rent the others out to tenants. The rent you receive from the tenant helps to cover (and eventually cover completely) the housing expenses of the owner. This allows the owner to save all the money they would otherwise be spending on rent or a mortgage and build their wealth while living in the best area possible.
If you’re able to buy in a downtown area that is close to public transportation or allows easy biking to work or entertainment, you can also severely reduce your transportation costs and save that money as well.
Many of the most successful real estate investors I know got their start House Hacking. Many of these people tell stories of ways they saved money by renting out bedrooms, units, or other parts of their properties to those who needed somewhere to live and didn’t want to pay full rent. Whether you’re the homeowner renting out space, or the tenant renting the space, House Hacking allows for the consolidation and sharing of expenses and allows everyone involved to save money and improve their budget.
House Hacking Strategies We Use
I’ve learned there are things to look for that increase our odds of finding a property likely to work for our goal. These “patterns” I look for routinely pop up when we are successful. I’ve learned to teach others to look for them in order to increase their own odds of success.
The entire idea of a successful House Hack is to find properties with as many spaces as possible that can be used to generate revenue. These can be additional units in a multi-family property, extra bedrooms in a single family house, additional spaces that can be converted into bedrooms, or additional units that can be converted into livable space. The very best deals involve a hybrid of all these strategies combined to create massive value for the homeowner.
When analyzing a property as a potential House Hack opportunity, look for the following features:
- Multi-Family properties
Anything that is two units or more is a plus, with more units being better than less. This means a triplex is typically better than a duplex, and a four plex is better than a triplex. Have a search set up for multi family homes, then analyze these homes (for more info on how to analyze a rental property, read this) to find out which will end up giving you the lowest housing expense at the end of the day. The goal of House Hacking is to lower your payment as much as possible, not to buy the prettiest house.
Multi-family properties were literally designed to House Hack, so we always start there. When it comes to analyzing them, there are a few things to keep in mind. First, the neighborhood where they are located is important. Not every multi-family property is created equal. In some areas, multi family properties are only located in specific neighborhoods that are “zoned” for multi-family housing. This means there is likely to be a higher concentration of tenants living in the space which is usually considered less desirable for those looking to invest there.
You’re better off buying multi-family properties in neighborhoods where the multi’s are mixed in with the single family properties. This diversity of style encourages less investors to flood the area with tenants and usually improves pride of ownership, and with it, rising home values. Speak to a local real estate professional or property management company to learn more about zoning laws in the areas you’re interested in.
- Finished basements
Sometimes you can strike gold when you find a property in an area zoned for single family homes that has a finished basement that’s been converted into a separate living areas. Many times, homeowners finish their basements and include kitchenettes, full bathrooms, and multiple bedrooms. If this portion of the home has a separate entrance, that’s even better.
Properties like this allow the homeowner to live in the basement and rent the main space out to a family. This often allows them to live for free while simultaneously building equity and paying down their mortgage. If the homeowner has a family, they can rent the finished basement out to others and collect easy rent money while not having to share their living space. Finished basements are one of the top things to look for in your search.
- Additional Dwelling Units (ADU’s)
ADU’s are permitted structures added to a property, usually in the backyard, where plumbing, electrical, and other necessities required for habitation are available. These are also referred to as “in-law units’ or “guest houses”.The ADU is a space that can be lived in, or rented to create additional revenue. ADU’s are a great asset to look for in a House Hack property.
Whenever analyzing a property, keep in mind not all ADU’s are permitted. You can check with the local city department to see if permits were ever pulled and if city ordinances allow for the space to be legally rented out. If they are, this is a great property to look deeper into!
- Multiple Bedroom Houses
If you can’t find any multi-family properties (or properties that have been modified to function as such), you’re next best bet is to find a single family home with as many bedrooms as possible. Since the bedrooms are what you’ll be renting out, it’s important to keep in mind a home with more square footage but less bedrooms isn’t necessarily better.
The same principle applies as in multi-family properties. Three bedrooms are better than two, and four bedrooms are better than three. Concentrate your search on the homes with the most amount of bedrooms that are available in your price range, then work backwards from there. Sometimes buying a more expensive home with an additional bedroom to rent out makes your overall housing cost much lower.
5. Areas Easily Converted to Bedrooms
If you can’t find a property with a large number of bedrooms, you make one. Properties with dining rooms, living rooms, dens, bonus rooms, or lofts can often be converted into bedrooms for a few thousand dollars. This adds significant value to the home’s price, while also adding income that can be generated from the additional living space.
I target 3 bedroom homes with more square feet than their neighbors. If you notice the usual 3 bedroom home is around 1500 square feet, you should keep an eye on anything bigger than that. An 1800-2000 square foot home with only 3 bedrooms may have space that can easily be converted into more rooms. This is especially helpful if you pay for a 3 bedroom house but end up with a 4 bedroom house. The savings really add up when you consider the mortgage interest you’ll be saving over a long period of time.
- Houses Near Public Transportation
When looking for something to House Hack, it’s important to keep in mind that unit/bedroom count is important, but it’s not the only thing that’s important. Having all this rentable space is of zero use to you if there is no one to rent it out. You need to be targeting homes in desirable areas of town, with strong economic bases-all of this needs to be close enough to public transportation your tenants are going to want to actually live there.
If you buy a great deal in an area nobody wants to live, finding tenants to help you House Hack is going to be an uphill battle. For this reason we start with the best parts of town then look for properties that will work for our goal. If we do the reverse and start with the properties that make the most sense on paper, we end up putting large amounts of energy into analyzing properties that work in theory but not in practice.
- Houses in Areas Without Restrictions
Many HOA’s (Home Owner Associations) do not allow for non-owner occupancy. These areas would not make sense to target House Hacking Opportunities. On a similar note, many areas do not allow for short term rentals (like VRBO or AirBnb). These areas can limit your options to generate revenue and have to be considered on a case by case basis. Not every area is equal when it comes to House Hacking.
Other things to keep an eye out for are adequate parking spaces, safe neighborhoods where property crimes are low, and areas that aren’t too noisy to sleep (like near a railroad, airport, or freeway). Make sure the area you are buying in will be a place tenants want to live.
- Houses With Adequate Living Space
While the number of bedrooms is the first thing we look for, we also want to concentrate on houses with adequate living space to allow your tenants to live comfortably. Homes with upstairs lofts, family AND living rooms, dining rooms, breakfast nooks, outdoor deck areas, and other features that allow your guests to lounge comfortably and not be confined to their bedrooms are nice selling features that allow you to charge more for rent and keep tenants for longer periods of time.
Bigger houses with extra bathrooms and multiple bedrooms make the best House Hack Opportunities. Combining this with additional living space will allow you to find better long term tenants and have a smoother process overall.
If you’ve been wanting to buy a home closer to work, in a better school district, or in an otherwise expensive neighborhood, this may be the solution you’ve been needing. If you are an aspiring real estate investor who wants to break into the market but doesn’t want to carry the financial burden of a mortgage payment, this could work for you too. Your house isn’t just a home, it’s also a revenue generating asset!