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4 Questions to Ask Before House Hacking

House hacking is a simple yet effective strategy. You buy a property, move into it, rent out the accompanying units, and start living for free. Or, at least, it seems that simple on the surface. Unfortunately, there are four seemingly impossible criteria. First, the property needs to be:

  1. Affordable with conventional financing.
  2. Be in a location that you want to live in.
  3. Able to generate positive cash flow.
  4. Able to offer a reasonable chance at appreciation.

For first-time investors, it would seem like the difficult part of house hacking is getting financing or finding properties that cash flow sufficiently. But, actually, the challenging part is deciding where to make that commitment. Buying a rental property you intend to live in and actively manage is more than just a financial commitment. You will likely live, work, and invest in that area for at least the next few years.

Because of this, there are some serious questions to ask yourself before house hacking. All four of those previously mentioned criteria are so important to first-time investors, and some basic things will help you meet each of them as long as you’re willing to be patient and methodical.

Here are four questions to ask before house hacking if you’re just starting.

1. Can I afford the property with conventional financing?

There are two follow-up questions to this question:

  • How much money do I have?
  • How much money does the property cost in the area I want to buy in?

If you want to house hack and still live in a reasonable place in an urban area, you need some cash. Even with great owner-occupier financing terms, you’ll need a substantial amount for the down payment if you want to live in a somewhat desirable spot near a thriving city.

Working hard and living frugally will help you save up an amount that would cover a down payment on properties in the area that you want to live in. If you don’t like this strategy for gathering funds for your first down payment, then you should seriously question whether you want to get into real estate investing in the first place.

Also, keep in mind that you’re going to need money for repairs no matter how big they are. You can spend thousands on plumbing and electrical work, appliances, and DIY tools and materials, among other expenses.

If you are transitioning from renting to owning property, then there might be a chance that you don’t own a robust set of tools and don’t have familiarity with the materials needed to work on even relatively simple projects like painting and drywall repair. Having extra money saved up as a cushion means you can more easily cover all the little repairs and contractor costs that arise. And it can get you a pretty solid little toolset.

More on house hacking from BiggerPockets

2. Will I be happy living there?

Investors—new and experienced alike—must acknowledge that we are investing to improve our financial position and our lives. House hacking does not work if you have to live in an area that you don’t want to be in. Some people, for example, love living in the city and don’t want to live in areas where things like grocery stores, for example, aren’t within walking distance.

Unfortunately, cities may not be the best places to invest for first-time investors. The properties can be too expensive to even consider the possibility of cash flow. But that usually means there are places available in the city’s outskirts that are more reasonable if you’re just starting investing.

3. Will the property cash flow?

As a first-time investor, there are ways you can gain an advantage over others. Buying a multifamily property, for example, is a good idea considering that a lot of other first-timers aren’t considering them. You can also take advantage of a government program called the First Look Program from Fannie Mae.

Luckily, as an owner-occupier looking to buy a multi-family property, you’ll have a couple of serious advantages over the competition. First of all, you’ll be looking at properties that most other would-be homeowners weren’t interested in. First-time buyers usually aren’t looking to purchase a duplex, triplex, or fourplex.

Second, you can have the opportunity to bid on properties before investors that did not intend to inhabit the property because of a special government program — the First Look program from Fannie Mae. According to its website, this program gives investors a “first look” at newly foreclosed properties. This can give you the edge you’re looking for when searching for great multifamily deals in your desired location.

Because other investors outside the program won’t be able to make offers on properties for several weeks. Because the demand for duplexes, triplexes, and fourplexes among first-time homeowners is small, there’s typically little competition. That window can help you gain the confidence you’ll need to make such a large financial commitment.


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4. Is there a reasonable chance at appreciation?

Investors refer to appreciation as the “icing on the cake.” But, unfortunately, it’s usually not even considered in the purchase of investment property. While it’s still a good idea to look at cash flow first as an owner-occupier, putting in the extra time to look for investment properties that offer a good chance at appreciation as well can reward you handsomely in the long run.

As a house hacker, appreciation can produce a more powerful financial impact for you than it can for a traditional investor because of a special tax law that benefits owner-occupiers. Assuming that you live in the property for more than two years, much of the capital gains are tax-free when you sell the property. This tax break is potent for those looking to house hack with small multifamily properties because you have the opportunity to take advantage of appreciation as it relates to both income properties AND smaller residential properties.

As multifamily properties, increasing the income of the property can force appreciation. As hybrid properties, duplexes, triplexes, and fourplexes can also benefit from appreciation caused by an improving local market. When choosing properties, select ones that you feel offer you the opportunity to get both types of appreciation.

Forced income appreciation

This takes place when you, the investor of a property, control how it appreciates. This could include cosmetic work like a good paint job or putting in quality light fixtures. But it also includes internal work and maintenance like replacing bad plumbing.

If you keep forced appreciation in mind when choosing a property, consider one that needs a lot of work and has multiple opportunities for improvement. In multifamily homes, this also means that you can raise the rent for tenants and earn more money and value from the investment.

You can do things like overhaul the entire plumbing system, add appliances like washer/dryer units and refrigerators, and put in substantial cosmetic work. If you DIY it, this could also save you a lot of money since you aren’t paying contractors. (Just make sure you know what you’re doing.) These improvements should reduce the property’s operating expenses over the long run and give you an advantage in attracting and retaining tenants, hopefully improving the property’s long-term income potential.

Market appreciation

Also called capital appreciation, this is when the value of something increases in value over time. One of the benefits to purchasing properties in an area that you yourself want to live in is, generally speaking, other folks want to live there too. This presents the opportunity for appreciation if you have personal reasons for living in areas that apply to large demographics. But also look for properties within these neighborhoods that are a part of government-sponsored infrastructure projects.

Hopefully, you will be able to leverage both types of appreciation to create substantial value from your property in the following years. Then, you can cash out on that increase in equity tax-free and be able to invest in another project that can bring in even more income.

These questions to ask before house hacking may seem like a lot, and it can be overwhelming to people who are just getting into these kinds of investments. But these are the same kind of questions that will set you up for success.

However, don’t be too hard on yourself. As a first-time investor, you’re going to make mistakes. This list of questions should help you avoid a lot of those, but waiting around for the “right time” to invest just means you’ll never do it. There’s never really a right time to try something new like this, but by reading this, you’re arming yourself with the knowledge to make the best choices you can.

Source
4 Questions to Ask Before House Hacking is written by Scott Trench for www.biggerpockets.com

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