If you are reading this blog, you have probably heard the term house hacking, coined by Brandon Turner here at BiggerPockets. But if this is your first time, let me explain.
House hacking is the real estate investing strategy whereby you purchase a property for a low percentage down, live in one part of the property, and rent out the other parts, such that the rent from your tenants (or roommates) exceeds your expenses. By doing this, you have likely significantly reduced or completely eliminated your living expense.
We frequently talk about the advantages of house hacking—living for free, building equity in a property, tax advantages, etc. What we rarely talk about are some of the drawbacks.
As a three-time house hacker, I feel obligated to share with you some of the drawbacks of house hacking that you need to be aware of. I’ll also tell you how to overcome them.
The 7 Drawbacks of House Hacking
1. There’s more work involved.
House hacking is essentially a small business. While it is mostly passive, there are times where you need to do work. For example, you may need to fill a vacancy, accommodate a maintenance request, or keep track of rent and security deposits, etc.
Not only is it more work during your day-to-day, but your taxes become that much harder to complete as well. In addition to the W-2 you get in January, you also have to fill out a Schedule E form and need to remember to account for all expenses for maximum tax savings.
2. You have to live with others.
If you are living by yourself in a nice, one-bedroom apartment, it is going to be very difficult to go back and start living with or next to a bunch of people. Naturally, you will lose some privacy. Even if you’re not living in the same unit as your tenants, it is likely that you can no longer throw any large parties without first inviting (or asking) your neighbors.
Living with others can especially be a problem if you have a family. Do you want a complete stranger living in your house with your kids? I am a firm believer that most people in this world are nice. However, it only takes one jerk. That might not be a risk you are willing to take.
3. You may need to work to keep relationships professional.
This is more of a problem with house hacking a single family home and renting by the room. When you do this, there is a lot of ambiguity surrounding whether the people you live with are “tenants” or “roommates.” In many cases, they start to feel like “roommates,” but be careful of this. You do not want to get too close to your tenants because they then may start to take advantage of you. This has not happened to me, but I have heard some stories.
4. It may involve living in a crappy investment property.
When you house hack, you’re doing it primarily for the overall financial impact. For that reason, you’re going to try to buy a relatively inexpensive space that you can charge the highest possible amounts for. If you’re buying an inexpensive property, it is likely because it is either a bit run down or in a less desirable area.
Related: Why I’m Not House Hacking (& the Strategy That Will Cover More of My Rent)
Either way, you will be scaling back your lifestyle, moving out of the high rise downtown and into your own place.
5. You could be affected if the market tanks.
Typically, a house hack will be your first real estate investment. It’s not easy parting with almost all of your savings and throwing it into a property. What if we see another Great Recession and the market tanks?
There’s not much I can say about this. The market does what it wants. You can’t control it, and it is absolutely a risk. If the market plummets the day after you close on your property, that is unfortunate for you (though there are ways to combat this, which we will talk about that in just a minute).
6. You’ll need to save some money first.
When you compare purchasing a house hack to renting, you’ll notice you’re spending a lot more money up front. When you’re renting a place, you are typically responsible for first month’s rent, last month’s rent, and a security deposit. If you are living in a place where rent is $1,000, then you spend $3,000 in upfront costs.
When you house hack, you’re going to need to put 3 to 5 percent down, pay a couple of thousand dollars in closing costs, and then spend even more money to fix up a place. You do want that “forced appreciation,” right?
On a $300,000 house, you could be paying $15,000 to $20,000 simply purchasing the property. Then, depending on how big of a rehab you need, that can climb closer to $30,000. Again, while it’s much cheaper than putting 25 percent down on a conventional investment property, it involves more upfront costs than renting.
7. You’ll always have the worry—what if the tenants don’t pay?
This is absolutely a risk. You are relying on someone else to continuously give you money to make your investment work. Unfortunately, an individual is typically more likely to not pay you than a company would be if you were, say, investing in high dividend yielding stocks.
As a house hacker, these are all noteworthy risks, but I don’t think I can leave you with such a negative outlook on house hacking. For that reason, in the next part of this article, I am going to attempt to make you comfortable with all of these drawbacks.
The 7 Drawbacks of House Hacking: How to Overcome Them!
1. Rebuttal: There’s more work involved.
Becoming a landlord sounds like a lot of work and stress. Who wants to be answering 2:00 a.m. calls because the toilet is stuck? Let me tell you something: I have a lot of friends who are landlords, and not once have I heard of anyone having to deal with an incident at odd hours of the day. Most things can wait until the morning.
I’m not going to deny that it is more work than renting. It absolutely is. Most of this work is up front or in the first couple months of buying the property. Once your tenants are settled, you might work an additional three to five hours a month. Would you spend three to five hours a month to save hundreds or thousands of dollars? The tasks you do for the house hack are hundreds-of-dollars-per-hour tasks.
2. Rebuttal: You have to live with others.
If you are accustomed to living by yourself, living with others can be difficult. But again, you need to see the positive side of this. Living by yourself can be lonely. If you are house hacking and using a long-term rental strategy, you need to make sure you screen your tenants. Not only do you need to make sure that they will pay their rent on time, but you also need to ensure that they will be good roommates.
If you are pursuing the short-term rental strategy, such as renting out your basement, a bedroom, or a casita, you will have a revolving door of strangers coming in and out of your house every few days. While this may not sound appealing, it was actually my favorite part of Airbnb-ing my bedroom. You get to meet interesting people from all over the world. Most people are really nice, especially travelers.
3. Rebuttal: You may need to work to keep relationships professional.
Remember, when you house hack, your tenants are tenants, NOT roommates. You can make them feel like roommates by getting along and being cordial, but be careful about getting too close.
My advice here would be, be nice to your tenants in passing, but don’t hang out with them too frequently outside of the property—unless, of course, they were your friends before you started house hacking.
4. Rebuttal: It may involve living in a crappy investment property.
To maximize your house hacking cash flow, it is best to purchase a place that needs some work. It will likely be in a less desirable location or need a significant amount of work. Purchasing a property in a decent location that needs work is a great value-add opportunity for you. We call that “forced appreciation.” It’s forced because you are enhancing the value of the property yourself, rather than just relying on market appreciation.
Related: 3 House Hacking Mistakes I Made (& How I Could’ve Prevented Them)
There is no requirement out there that says you need to purchase a dingy property. You can absolutely purchase that newly renovated property downtown, live in one side, and rent the other. Your cash flow will likely be lower than if you purchased a dingy place, but it still will be significantly better than if you rented. It’s up to you how aggressive you want to be when purchasing the house hack.
5. Rebuttal: You could be affected if the market tanks.
The market can tank at any time. You need to make sure you will be OK when the market goes up, when it goes down, and when it stays the same. How do you do this? Well, you run the numbers.
You need to make sure that you can afford your place regardless of whether you are at 0 or 100 percent vacancy. If not, you need to make sure that your rent (including a vacancy factor) covers well in excess of your mortgage such that if rents were to decline by 10 or 20 percent, you would be able to stay afloat.
6. Rebuttal: You’ll need to save some money first.
When compared to renting, you still need to come up with a fairly large chunk of money—$20,000 is not pocket change. This is where you need to pinch your pennies to get there, because there really is no better return on your investment without creating a full-time job for yourself, than house hacking.
When you purchase a property for $20,000, there is a high probability that you will be able to make that entire sum back in the first year just through the cash flow, loan paydown, and rent savings. That’s a 100 percent return! And we are not even including appreciation or the tax benefits that come with owning real estate.
This is not spending money, this is investing money.
7. Rebuttal: You’ll always have the worry—what if the tenants don’t pay?
There will certainly be a time where tenants fail to pay. Though if you screen your tenants correctly, these missed payments can be drastically reduced. It is a small price to pay given the overall return of house hacking.
To avoid late or missed payments and having to track everyone down once a month, I highly recommend setting up a service where rent can be deducted automatically from your accounts. I use Cozy. It’s a free service that allows you to enter your lease terms on the site, hook up to your tenants’ bank accounts, and automatically withdraws it each month. Set it and forget it. No chasing.
I hope this article has helped you see the potential drawbacks of house hacking and how to combat them. I certainly hope you can see that the advantages heavily outweigh the drawbacks.
There is no way around that it will be slightly more work—it just will be. But the work is extremely high-paying. When in pursuit of financial independence or wealth building, creating $200+ per hour “jobs” for yourself is a great way to expedite the journey.
Happy house hacking!
Any potential cons (or pros!) you’d add to this list?