House-Hacking: The Best Way To Invest With Minimal Money & Reduce Your Housing Costs

Chapter 2: House-Hacking: The Best Way To Invest With Minimal Money & Reduce Your Housing Costs

(If you haven't yet read Chapter 1, "Introduction to Real Estate Investing : Mortgage Qualification" you can do so here >>> https://www.dhirubhai.net/pulse/introduction-real-estate-investing-chapter-1-mortgage-brady-potts/)

The idea behind #househacking is simple: buy a small #multifamily residence (duplex, triplex or quadplex), live in one of the units and rent out the others (you can do this with a single-family house (SFH) too by renting out rooms, but that’s not the topic discussed here). This strategy is hands-down one of the best ways to get started #realestateinvesting with as little money as possible. It’s also a FANTASTIC way to get into property ownership in high-cost areas. Brandon Turner over at #BiggerPockets has the claim to fame regarding the coinage of this phrase and has arguably done more to promote it than anybody we’ve come across. Check out one of his books for a DEEP dive into the different strategies he advocates for. This unique real estate approach isn’t for everybody, but when it works it allows an investor to get started with minimal investment and reduce or even eliminate their housing costs. These benefits make it an attractive option for those looking to invest in small multifamily properties.

But First - Decide if House-hacking is Right for You

House-hacking offers numerous advantages, but it’s important to consider all aspects before deciding whether it’s right for you. For example, while investors may save money on housing costs by living in one unit (explained next), they must still pay all other associated expenses that come with investment property. Utilities, repairs, replacing worn out appliances, routine maintenance, etc. all cost money and can add up to large amounts quickly. Establishing property expense reserve accounts for such expenses is an absolute must. You must be disciplined enough to save money for these future costs and not spend the extra rental income that comes your way. It will be difficult to be a real estate investor if you struggle with financial discipline.

Additionally, you will have new responsibilities as a landlord. Things break, things go wrong, and emergencies do happen. This means you will need to fit these obligations into your current life. Weeknights, workdays, weekends, holidays – nothing is safe from emergencies, and you must be able to accept that. However, these can be mitigated by hiring a property manager and establishing a relationship with a general handyman or specialty service providers. But these do cost money. One way or the other, you will either be giving up time or a portion of the rental income to tackle these issues.

???????????Outside of costs, you must also decide if the everyday realities of small multifamily properties meet your family’s needs. You will most likely share common walls with other families, can you put up with occasional noise or sound from people living next to you? What about neighbors, can you get along with neighbors who may not share the same beliefs or lifestyles as you? Do you have pets or enjoy private outdoor space, can you sacrifice the large backyard of a SFH and share a common space with others? What about family size, do you have a family large enough to need 3 or 4 bedrooms – most small multifamily properties are 2-3 bedrooms. All these questions should be answered honestly. If the answer to all these questions is not a resounding “yes” then house-hacking may not be the right fit for you – and that’s okay. It’s just one of the easier options available to get started. ?

How House-hacking Can Get You Started with Investing or Homeownership

???????????House-hacking is one strategy that allows people to purchase residential real estate with little or no money down. This strategy can be used as a way for individuals to get into property ownership without having to worry about the hefty down payments typically associated with investment properties. It can also help people get into homeownership in expensive markets where single family home prices may be out of reach. If you are buying a home to live in, you have access to low down payment mortgage options – maybe even zero. We’ll breakdown some examples shortly.

Another major benefit of house-hacking is that it allows investors and homeowners to reduce or eliminate their housing costs while simultaneously building equity in real estate. This makes it an attractive option for those who want to purchase property but may not have enough income to cover the mortgage payment. This is especially true for high cost of living areas. Small multi-family units generally do not increase in price on a 1 for 1 basis like SFHs do but still maintain healthy rental rates.

By living in one unit, investors can rent out the remaining units and collect rental income each month. This extra income can be used to help pay for and qualify for the mortgage. This helps people get into properties that otherwise may have been too expensive to qualify for on their income alone. As an example, in the #Missoula , #MT market an average 2 bed 1 bath SFH could be purchased for $425,000, but a 2/1 duplex needing minimum rehab or improvements could be purchased for $525,000. Both the SFH and the duplex units would rent for roughly the same amount each month, but the cost of the duplex is not double that of the SFH.

Let’s use this example and some general assumptions to demonstrate:

-?????????SFH Price: $425,000

-?????????5% down payment of $21,250

-?????????Loan amount is $403,750

-?????????6% interest rate

-?????????Mortgage payment (principal and interest) of $2,420.69

-?????????Taxes, insurance, and mortgage insurance est. of $800

-?????????Total Payment = $3,220.69

?

-?????????Duplex Price: $525,000

-?????????5% down payment of $26,250

-?????????Loan amount is $498,750.00

-?????????6% interest rate

-?????????Mortgage payment (principal and interest) of $2,990.26

-?????????Taxes, insurance, and mortgage insurance est. of $900

-?????????Total Payment = $3,890.26

So, the monthly cost of the duplex is $3,890.26 and the cost of the SFH is $3,220.69. The duplex also requires a slightly larger down payment – a $5,000 difference. But, if you live in one side of the duplex, you get to rent out the other! At current market rates in Missoula, that 2/1 duplex unit would easily rent for $1,600/month. That brings your monthly cost down to $2,290.26 and that’s $930.4 less than the SFH! So, if the monthly cost of a SFH is too much, you have other options to own property. There are additional factors that need to be accounted for, like vacancy, repairs, etc., but there are also more benefits to owning a multifamily than a SFH. More on that in later chapters. The main point here is that you can lower your cost of living by using the rental income to offset the cost of owning real estate. This example was only a duplex, but the concept holds true up to 4-unit properties.

How Does House-hacking Affect Your Ability to Qualify for A Mortgage???

Using the example above we can show how purchasing small multifamily properties can increase the purchase price and mortgage payment you can qualify for. Let’s assume that you and your spouse each have the same debt and income as outlined in the credit score section before. To recap:

-?????????Debts: Total MINIMUM monthly credit card payments of $200, and car loan payments of $800 for a total of $1,000.

-?????????Income: You each make $50,000/year before taxes Your total household income is $100,000/year or $8,333/month.

-?????????Most loan programs like to see your debt-to-income (DTI) below 45%. So, you need to spend less than $3,749.85 on all debt, including the new mortgage.

-?????????Ratio: To find out how large of a mortgage payment you can make (including taxes and insurance) take $8,333 x 45% = $3,749.85. Subtract your current monthly payments of $1,000 = $2,749.85. This means you can afford a mortgage payment of $2,749.85.

Now let’s figure out how you can get into a property in the expensive market of #MissoulaMT , MT. Lets use the SFH and duplex example again:

-?????????SFH Price: $425,000

-?????????5% down payment of $21,250

-?????????Loan amount is $403,750

-?????????6% interest rate

-?????????Mortgage payment (principal and interest) of $2,420.69

-?????????Taxes, insurance, and mortgage insurance est. of $800

-?????????Total Payment = $3,220.69

?

-?????????Duplex Price: $525,000

-?????????5% down payment of $26,250

-?????????Loan amount is $498,750.00

-?????????6% interest rate

-?????????Mortgage payment (principal and interest) of $2,990.26

-?????????Taxes, insurance, and mortgage insurance est. of $900

-?????????Total Payment = $3,890.26

So, the mortgage on the SFH is $3,220.69 and the mortgage on the duplex is $3,890.26. But we just said the highest payment we could qualify for was $2,749.85. That’s less than both options! Now what?

Investment magic, that’s what.

???????????Enter “effective rental income”. Remember when we said that the market rental rate for one of those duplex units was $1,600/month? Well, you can use part of that income to help you qualify for a higher mortgage payment. Each loan program varies, but generally you can count 75%, or $1,200, in effective rental income towards your qualifiable income. That would bring your total allowable mortgage payment up to $3,949.85. You can now just barely squeak into that duplex payment!

???????????You could not qualify for the SFH mortgage using only the incomes from your jobs. But if purchasing a duplex, you can increase your qualification amount. Rather than staying a renter forever, you get to jump into property ownership, pay less every month than your friends in a SFH ($3,220.69 vs $2,290.26 after you collect your rent!), and start to generate long term wealth through property appreciation and the paydown of your mortgage. ?

House-hacking is a powerful real estate strategy that can be incredibly beneficial to those looking to invest in small multifamily properties or buy property in high-cost areas. By living in one of the units and renting out the others, investors can reduce their housing costs while taking advantage of the wealth generating aspects owning real estate. With minimal investment, house-hacking is an attractive option for those looking to start investing in real estate without breaking the bank.

(If you haven't yet read Chapter 1, "Introduction to Real Estate Investing : Mortgage Qualification" you can do so here >>> https://www.dhirubhai.net/pulse/introduction-real-estate-investing-chapter-1-mortgage-brady-potts/)