HELP! My first house hack - What the best strategy?

Question

Hello BP Community!

I have just purchased my first home in the Northern Virginia area and plan to house hack the property with two other roommates for the next two years. It is a three bedroom townhouse in an appreciating area. I know there are a couple different ways to use the rental income ($1,750) from the two tenants each month, but I am having a hard time deciding which method would be the most beneficial for me and my long-term RE plans. I have been renting for the past two years for $1,200/month, which has been fitting into my budget. SO I have considered the following two thoughts: The principal and interest on the mortgage will be $1,789..I could use the rental money to pay that down almost completely, and I would be responsible for the utilities ($375/month), HOA ($85/month), insurance ($69/month) and property taxes ($5,200/yr). So, it is not a total. house hack where I will be living for free, but it's better than nothing! During this time I would be saving that $1,200 I was paying in rent for the prior two years since I am used to that money leaving my wallet and save it towards my next downpayment on a rental property. SECOND THOUGHT: Applying my $1,200 along with the rental income to the mortgage and overpaying in a mini debt snowball play and not save towards my next home. Just focus on paying down the mortgage as fast as possible. Is one more beneficial than the other? Also very much open to any help/advice on possibly another option I should be considering with this house hack.

Thank you all for your help!

Second question: I believe the answer is yes to this question, but will I need to pay taxes on the rent I collect from my two tenants ($1,750) even if I live in the home with them? I will collect $21,000 so I believe I need to earmark funds for taxes in April each year right?

John Warren · Answer

@Cole DeLucas the answer to your first question is a simple math question. What is your mortgage interest rate? If it is 4% for instance, then you are getting a 4% return by paying down your mortgage. If you think you will be able to redeploy that cash in the future for a greater return than 4% then it probably does not make sense to do the debt snowball.

Dave Ramsey's methods can make sense for people who are not careful with their money, but the program does NOT help you grow. In my opinion, it is way too conservative for most people and it creates a bit of a scarcity mentality. I use debt to help me grow my portfolio, but I also have strong cash reserves and invest for cash flow. I believe Dave's initial investments didn't cash flow which is why they got him into trouble.

Your second question is more of an accounting question, so I will let the better qualified account BP crowd here comment.

Kenny Dahill · Answer

@Cole DeLucas, I'll give my simple two cents.

• Don't pay more into your mortgage than necessary.  Loans are closed ended, meaning it'll cost you $3-5k to get your money back out.  Keep it liquid!  Never know when a deal comes up or market opportunities.
• Taxes for rent income:  Yes, you will need to pay taxes if you claim the income.  Luckily real estate has a lot of write offs.  Your goal should be to have an effective income of $0 (tax wise) because of the writes. i.e. depreciation, utilities, etc.
• You are house hacking!  Don't count yourself short.  You're investment is reducing your monthly liabilities.  That's the principle of house hacking; not living free.  Living free is simply the dream situation.
• Congrats!  Keep it going.

Adrienne Green · Answer

Hi @Cole DeLucas! First, in Northern Virginia, that's a great house hack, and it'd be unusual in this area to live completely for free! You're doing great. Second, if you just purchased like you state, then you should have a fabulously low interest rate on that mortgage loan, and you should NOT be paying it down early! It's cheap money!  You should be saving for your next down payment instead. Ric Edelman is a better financial adviser celebrity to listen to in this regard versus Dave Ramsey.

Yes, your income from renting is taxable. But you can deduct a portion of house expenses. Some do that based on square footage rented, some on the ratio of renters to owners living in the house. In your scenario going by number of people may be easier: if you have two renters and yourself living there, 2/3 of household expenses can be deducted from that rental income: 2/3 of utility bills, repairs, etc.

I hope this helps!

Edward Toomey V · Answer

You should certainly save the money for your next house.

$1,200 per month saved over 24 months is $28,800. Ounce that's saved I would look for a property that's close to rent ready for $150,000 that puts you P&I payment at $575 and with insurance and tax it would be around $775 with potential rent of $1,200 per month. Fist year net $5,000 that's a 17% return on you vested dollars.

Dustin Morris · Answer

@Cole DeLucas I would look at the next move you would like to make. Whether it’s to house hack another property or switch gears to a different type of property. Depending on what that is you can look to see how much of a down payment you would need for the next loan. Would this be low money down or 20% down loan that will change how much you need. I like the idea of putting the 1200 aside to go towards the next purchase but you need an approximate target saved to make the next purchase. If it’s low down loan it could happen sooner than you think to get into the next unit.

The other thing to consider is depending on appreciation you could definitely pay down debt now and refinance the property in the future. Use the refinance peoceeds to buy your next property for down payment. Banking on appreciation isn’t always the best strategy but you are coupling with debt pay down...

Either way you have options but it’s all about what your goals are for yourself and your investing career. Good luck hope this helps!

Daniel Haberkost · Answer

Hey @Cole DeLucas I second what @John Warren & @Adrienne Green said about paying down the property, it makes no sense from a pragmatic investment standpoint to pay down extra principle if your interest rate is that low.

I've been house-hacking for two years now and it's been unbelievably impactful financially speaking. If you screen your tenants thoroughly it doesn't have to be an inconvenience either.

I had my returns for 2019 done by a CPA and did not have to pay tax on my house hacking income. But this will depend entirely on what deductions are available to you, how you're depreciating your rentals, what tax bracket you're in, etc. so talk to a professional on that!

I want to re-emphasize what I already said about screening your tenants thoroughly. It's the biggest reason why my house hacking experience has been very positive while some of my friends have had not so positive results. You HAVE to screen your tenants just as thoroughly as you would for a traditional rental. Background/credit check, income verification, talk to their last two landlords, talk to their boss, move-in inspection, security deposit, etc! Putting the work in up front will save you a lot of time and headache down the road!

Helen Lowery · Answer

Hello Cole!  First, congrats on the house hack!  What a great way to drastically decrease your living expenses. It all depends on your goals.  If your goal is to fund the next deal, then option 1. Setting aside the cash for capital to apply towards your next acquisition will be motivating (as you watch it grow) and will also make it easier to plan.  You will know exactly how much cash you have to work with.  However, if your goal is to live debt-free, then you would opt for option 2.

Investors tend to look at debt as leverage, while financial freedom gurus like Dave Ramsey focus more on living debt free.  It all depends on what your goals and plans for the future are.  Hope that helps!

HELP! My first house hack - What the best strategy?

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