House hacking has become a popular strategy for homebuyers looking to offset their mortgage costs. By renting out part of your property, you can generate additional income and see if being a landlord is right for you. House hacking can make homeownership more affordable and help you get into the real estate investment game.
Whether you’re a first-time buyer or a seasoned investor, house hacking can be a game-changer. In this blog post, we’ll explore what house hacking is, the types of loans you can use, and tips for getting a mortgage on a multi-family home.
What is House Hacking?
With the rising cost of housing, house hacking offers a way to leverage an existing asset to cover your living costs, save money, or invest in additional properties, all while building home equity. House hacking involves purchasing and renting out part of a property to cover your mortgage payments. This can be done in several ways, such as:
- Renting out spare bedrooms: If you buy a single-family home, you can rent out the extra rooms. Many find that single rooms can be ideal for traveling nurses or those working short-term job contracts.
- Buying a multi-family property: Purchase a duplex, triplex, or fourplex and live in one unit while renting out the others.
- Short-term rentals: Use platforms like Airbnb to rent out part of your home on a short-term basis.
Looking at the Finances of House Hacking
Let’s examine the financials of a duplex with a sale price of $350,000. We’ll assume you can put 3.5% down on a 6.75% 30-year fixed FHA mortgage.
Your monthly mortgage payment will be $2,200.00 (the principal and interest payment on a $337,750 mortgage).
Now, let’s say you live on one side or floor of this duplex and find a tenant who pays $2,300 monthly rent. This pays 100% of the mortgage, with a monthly excess of $100 that can be used towards homeowners’ insurance, taxes, and repairs. Even renting at a lower amount will get you well on your way to covering your monthly mortgage.
Based on a typical 30-year amortization schedule, you will still owe $317,065 on your loan after 5 years. If your home is appreciating, you will have built up a significant amount of equity by this time. It’s important to note that home equity represents the difference between the amount you owe on your home and its current value, so both your mortgage payments and home appreciation contribute to increasing your equity.
If the value of a home increases by 4% annually over a 5-year period, the duplex would be valued at $425,828. Should you decide to sell it, you could potentially earn approximately $187,106.03 from the property sale, detailed below:
- The amount remaining on the mortgage after 5 years: $317,065
- The value of the duplex after 5 years: $425,828
- $425,828 – $317,065 = $108,763
This sum of money can propel you significantly closer to financial independence. It’s crucial to note that the calculations mentioned do not cover taxes (including capital gains), insurance, or home maintenance costs.
Types of Loans for House Hacking
Several loan options are available for those interested in house hacking, particularly for buying multi-family properties:
- FHA Loans:
- Advantages: FHA loans are government-backed and allow for low down payments (as low as 3.5%). They also have more lenient credit requirements.
- Requirements: You must live in one of the units as your primary residence for at least one year. The property may have up to four units.
- Conventional Loans:
- Advantages: Conventional loans typically offer competitive interest rates and can be used for multi-family properties.
- Requirements: Compared to FHA loans, borrowers must have higher credit scores and larger down payments (usually at least 15-25% for multi-family homes).
- VA Loans:
- Advantages: VA loans are available to Veterans and active-duty service members and offer zero down payment and no private mortgage insurance (PMI).
- Requirements: You must live in one of the units as your primary residence.
Getting a Mortgage on a Multi-Family Home
Securing a mortgage for a multi-family home follows a similar process to single-family homes, with a few key differences:
- Higher Down Payments: Lenders may require larger down payments for multi-family properties. FHA loans require at least 3.5%, but conventional loans might require 15-25%.
- Credit Score: A higher credit score is often needed for multi-family mortgages. Aim for a score of 620 or higher for FHA loans and 700 or higher for conventional loans. Check out some tips on the differences between a good and great credit score.
- Income Considerations: Lenders will consider your rental income potential when evaluating your ability to repay the loan. This can be a significant advantage, as it can increase your borrowing power.
- Property Appraisal: The appraisal process for a multi-family home will include a rental analysis to determine the fair market rent for each unit.
- Property Management: Lenders may look favorably on applicants with property management experience, particularly for larger properties. Consider taking a property management course or hiring a professional manager.
Tips for Successful House Hacking
- Choose the Right Property: Look for properties in desirable locations with strong rental demand. Proximity to public transportation, schools, and amenities can make your property more attractive to potential tenants.
- Run the Numbers: Calculate your potential rental income and expenses carefully. Ensure that the rent you can charge will cover your mortgage, insurance, property taxes, and maintenance costs.
- Screen Tenants Carefully: Good tenants are crucial to the success of house hacking. Perform background checks, verify income, and check references.
- Stay Informed: Keep up with local rental laws and regulations to avoid legal issues. Understand your rights and responsibilities as a landlord.
- Plan for Vacancies: Be prepared for periods when your rental units might be vacant. Having a financial cushion can help you manage these times without stress.
House hacking is an effective strategy to help pay your mortgage and build equity in your property. By leveraging rental income, you can significantly reduce your housing costs and potentially even generate a profit. With the right approach and careful planning, house hacking can be a smart move for those looking to buy their first home in a higher-priced market or begin to work on their investment portfolio.
Whether you choose an FHA loan, conventional loan, or another financing option, make sure to do your research and consult with one of our loan advisors here at Homestead Financial Mortgage to find the best solution for your needs. Happy house hacking!
Example is based on a 780 credit score, 3.5% down payment, and 30-year term with an APR of 7.468%. Monthly payments do not include required mortgage insurance and taxes. The information provided by Homestead Financial Mortgage is for educational purposes only. Products and interest rates are subject to change at any time due to fluctuating market conditions. Actual rates available may vary based on a number of factors, including credit rating, down payment, loan type, and documentation provided.