Best Entry Into Real Estate
So imagine if you owned the house you lived in, but other people paid your mortgage for you. You still get all of the tax benefits, you still get to take advantage of appreciation and principal paydown. But the money that would have otherwise gone to your mortgage payment stays in your bank account. How is this even possible? Well it’s not some gimmick – its actually the safest entry point into real estate ownership. Stick around as I discuss house hacking, some of my lessons learned, and the different strategies you can employ to make the most money possible.
Today we’re going to discuss the term House Hacking and everything it means. Now if you haven’t heard of House Hacking, that’s okay. The term was coined by Brandon Turner of Bigger pockets way back in the day, but the concept has been around for much longer. Here’s the idea: you rent out portions of the home that you also live in in order to subsidize or completely offset the mortgage payment. You get all of the advantages of home ownership, and your tenants pay your mortgage. Easy.
So here’s how I usually describe house hacking from the start. There’s a sliding scale out there when it comes to investments. On one hand, you have risk, and on the other you have reward. The higher the risk, the higher the reward. The lower the risk, the lower the reward. This is a near universal truth in any investment class.
However, house hacking actually goes against this trend when done correctly. The risk, as we know it in real estate, usually comes in the form of your debt obligation, whether it’s the mortgage payment itself or the ability to have reserves in order to cover it in the event something goes wrong. House hacking solves both problems, and here’s how. First, your tenants pay part or all of your mortgage, usually making your monthly living expense less than a similar rental. Second, because it’s a primary residence, you’re usually able to get favorable loan terms compared to an investment property, such as 0, 3, 3.5, or 5% down payment option, thereby keeping money in your bank to cover any unexpected repairs or vacancy.
So if the risk is minimized, what’s the reward? Well, you get to own a freaking home and take advantage of all that real estate ownership has to offer, from the tax advantages to the long term appreciation to the principal paydown. What if you can buy a fixer upper to house hack? Well, you can create some sweat equity through renovating it over time. What happens if your tenants completely pay your mortgage? The difference is leftover passive income. It’s hard to lose when you house hack.
So instead of thinking about your first real estate purchase in the risk versus reward mindset, I want you to think of it like this: comfort versus profitability. The more profitable you are now, the more you’re setting your future up for success. There’s some serious delayed gratification involved in house hacking. And you’re going to be uncomfortable, at least in the short term. You are becoming a landlord and people are renting out your house, whether that’s individual rooms or the other side of a duplex. It’s a business now. You are in the business of sharing a living space. Some people are used to this – they might be recent college graduates who shared a dorm, or professionals who have always lived in a co-living environment. Many people aren’t used to this and don’t want to live with strangers. Again, the comfort versus profitability scale comes into play here. In house hacking, you trade today’s comfort for tomorrow’s financial well-being.
So let’s get practical. How do we find the perfect home to house hack? To be honest, I subscribe to what David Greene of Biggerpockets says when it comes to house hacking. Because it’s such a low down payment and the barrier to entry is low, you want to target areas of higher appreciation over areas of lower appreciation. Let me explain. If you’re going to buy a home with a 5% down payment, you want that home to be in a desirable location that people are moving to. In other words, don’t buy it in the cheapest part of town, or the outskirts of town. After identifying the area of town you want to house hack in, next target bigger homes that have a lot of square footage, bedroom/bathroom count, or preferably both. This is obvious – the more space, the more tenants you can have.
Now not everyone house hacks the same way. Some people find a two-to-four unit multi family to house hack, such as duplexes, triplexes, and quadplexes. They live in one unit and rent out the others. I’m in Charleston and we don’t really have multi family homes like that in any sizable number. We have to get creative with single family homes. So with a single family home, you can rent out individual rooms. This is actually how I got started in my house hack journey. I bought a house, put tenants in two or three bedrooms, and realized that my entire mortgage was being paid for, and then some. In the Charleston market right now, there is a HUGE demand for individual rooms for rent, and I suspect that it’s like that all across the country. I still rent out individual rooms in my first home, even though I don’t live there anymore, and there’s typically a waitlist. Rooms for rent are a hot commodity.
I then bought a new home to house hack. This time, I found a single family home that had a funky floor plan where I could throw up an interior wall, install an exterior door, and bam. I have an entirely separate unit attached to my main house. I never actually see the tenant, but I am still house hacking.
You can then get even more creative. I have a past client who lists their rooms on Airbnb. I personally rent out my house hack to travel nurses on 1 to 3 month contracts. The point I’m making is that you can rent it out long term, the mid term, or even the short term. The sky’s the limit.
So let’s talk about some of the hidden advantages of house hacking. The first one is that depending on the lender, you might be able to use the income you make from house hacking to lower your debt to income ratio, thereby enabling you to potentially buy another property sooner.
Second, you can rinse and repeat this strategy. In order to be compliant with the terms of a primary residence loan, typically you only need to live in the house for a year though definitely check with the lender and attorney. After a year, you can turn around and go buy another home with the same favorable financing terms and convert your old home to a rental. It’s how many people grow a real estate portfolio.
Lastly, keep in mind if you live in the house and you want to create a short term rental within it, you are typically exempt from most municipal laws that prevent you from doing so. Obviously check city ordinances before you go out and buy a house, but I know in Charleston, as of 2023, this is definitely the case in almost all of our municipalities.
So that’s house hacking in a nutshell! It’s a great strategy to dip your feet into real estate and still be protected.