House Hacking: The Best Way to Slash Your Biggest Expense

I’ve been thinking a lot about house hacking lately.

It’s a phrase that’s relatively new to me, but I’ve been familiar with the concept since college. Three different guys in my college church engaged in a traditional form of house hacking. I engaged in a variant of house hacking without knowing.

So what exactly is house hacking?

The definition can vary depending on who you ask, but here’s the broadest possible answer:

Any creative solution to minimize your housing costs.

Traditionally, this is done through buying a property, but as we’ll see, it’s possible to pull this off while renting. I’ve actually done it.

Let’s talk about the six main types of house hacking. But first, let me give credit where credit is due. My knowledge of house hacking took a quantum leap forward when I listened to the most recent episode of the podcast “All the Hacks” with Chris Hutchins. His guest was Andrew Kerr of FIbyREI (Financial Independence by Real Estate Investing). The whole framework of this post was derived from that conversation.

The Six Main Types of House Hacking

These are all the most traditional flavors of house hacking. They all involve buying a property and renting out some part of it. There are at least four benefits to this approach:

• Debt paydown: You build wealth as your tenant helps pay your mortgage
• Price appreciation: Not a guarantee, but it becomes more likely the longer you own the property
• Tax deductions
• Cash flow: Yes, it’s possible to house hack so effectively that your residence actually provides you with income

That last point is a more common benefit of traditional real estate investing. With house hacking, the goal is usually just to lower your expenses while building equity and hoping for price appreciation. But through the right setup, the right deal, and the right tenants, it’s possible to have a house hack that is cash flow positive.

Room Rental/Finding Roommates

This is the easiest version to execute because it can be done basically anywhere you are living.

Got a spare bedroom? Rent it out.

Don’t have a spare bedroom? Put a bunk bed in your room and find a roommate.

This is the house-hacking route that some of my friends went down in college. Two of them bought houses and one bought a condominium. They each lived with 3-5 other guys.

The biggest downside of this approach is the lack of privacy. A large amount of your residence consists of shared spaces. The kitchen is shared. Depending on the ratio of bathrooms to residents, the bathrooms might be shared. Depending on the ratio of bedroom to residents, the bedrooms might be shared.

There are some stages of life that this is perfect for and college is one of them. At other stages of life you might want a little more privacy.

Multifamily Housing

If privacy is a major concern, this is probably the best route to go down. The idea here is to buy a duplex, triplex, or quadplex. And yes, those are the only three options. If you buy a property with five or more units, it’s considered commercial real estate.

This has the advantage of drastically limiting shared spaces. No more shared bedrooms, bathrooms, or kitchens. There might be a shared porch or yard, but that’s far more manageable.

With this approach, you can really start to feel like a real estate investor. In fact, you could hire a property management company to find tenants for you, and the people living on the other side of your duplex never even need to know that they’re your tenant.

Of course, be aware that a property management company might charge 8-10% of gross rent. But they will market the property for you and they’ll be the one that the tenants call with problems (even if they pass the cost of repairs on to you, it’s still nice to not be the one scheduling those appointments).

On the podcast episode that I listened to, Andrew Kerr mentioned something that I thought was good advice. He said even if you want to use a property management company, manage the property yourself the first year. This will give you a sense of what is involved and can help you understand what the property management company is doing behind the scenes.

The Income Suite

This approach is something of a middle ground between the last two approaches. An income suite is technically part of your house, but it has enough separation to provide some privacy. Think of an attic, a basement, or some kind of bedroom and bathroom that’s almost like a second wing to your house.

And really all you need to ensure a lot of privacy is a bedroom and a bathroom. It might seem like kitchen access is 100% necessary, but, depending on the tenant, it might not be. I’ve seen plenty of one-bedroom apartments where someone was happy with a minifridge, a microwave, and a single countertop burner.

The absolute gold standard of income suites are where they have their own entrance. At that point they might as well be a second unit. Which leads us to the next category:

ADU (Accessory Dwelling Unit)

This is where you are renting a unit that is completely separate from your main dwelling. Think a guest house, pool house, converting stand-alone garage, or a loft above a stand-alone garage. Heck, it could even be a tiny home in the backyard.

You can look for a property that has something like this set up, or you could convert some kind of existing space into a rental unit. You’ll need permits if you need to run any electricity or plumbing to it.

One way to get the kind of financing to make these conversions is to take out a home equity loan or open a home equity line of credit. Then, once you’ve paid for everything, you can refinance your mortgage to roll that loan back into your primary mortgage.

Let’s say that converting a small building in your property to an ADU costs you somewhere between $20,000 and $50,000 and you can rent the unit out for $1,000 a month. It might take a few years to break even, but the income will keep coming in even after the expenses have been paid off.

The Slow Flip

This one doesn’t necessarily involve renting any part of your space out, but it can be combined with any of the other strategies that do.

The idea with this one is to buy a house to flip, but instead of flipping it as quickly as possible, you live in it as your primary residence, and make renovations on a more relaxed timeline.

The goal would be to sell the property in a few years for way more than you paid for it.

Housing as a Benefit

When I think about benefits at my job, I think about healthcare and 401k plans. But what about housing?

This won’t work for everyone, but sometimes with the military, teaching abroad, and certain large tech companies, you have the opportunity to have your housing provided by your employer. This is a huge win.

Hacking a Rental

Okay, so five out of the six main types of house hacking involve buying a property. Can you house hack by renting?

Fortunately, the answer is yes!

You want to find a house or apartment that charges a flat fee for rent. Meaning the rental fee isn’t per-person, it’s for the whole unit. You’ll also need to make sure you’re able to sub-let the unit. Some landlords don’t allow this. Some do. It’s possible that some of the ones who usually don’t are open to negotiation.

This is a form of house hacking that I stumbled into right out of college. Most of the apartments in my area are two-bedroom units that charge per person and don’t let you bring in extra roommates. My friends and I looked around until we found a half-empty complex that charged a flat rate (which we negotiated down) and let us bring in bunk beds.

Of course, we had two forms of leverage in these negotiations. One was the fact that we knew that they were half empty. The other was the fact that there were 15 of us and we were going to fill multiple units.

We negotiated our rent down again the second year I lived there as we brought more friends over and filled more units. That second year I was paying well under $200 a month in rent.

You won’t experience the four benefits of owning a rental property described above, but saving big on what is the biggest expense for most people is definitely a big win.

Big Wins the Simple Way: The 80/20 Approach to Saving Money

Find the Right Tenants

If you’re going to rent out property, it’s critical that you find the right tenants.

This means at minimum you should be screening people and being selective about who you allow to rent your space.

If someone is going to be your actual roommate, it should be someone you know and trust. And the relationship needs to be strong enough to overcome the friction that arises when neither one of you thinks its your turn to wash the dishes.

I’ve always had the best luck living with people from my church. My first year in college I lived with three strangers, but then moved in with some church friends and never moved back. Since I originally met my wife Sarah at church, you could say I’m still living with church friends. Obviously if you aren’t religious this doesn’t work as well, but it might be worth joining a church just to build a network of decent people. I’m only half joking.

On the podcast I listened to, Andrew Kerr mentioned college students/grad students and travelling nurses as great candidates for tenants. These are people who are looking to rent out a smaller space and might not have strong enough connections to do their own house hacking. Plus travelling nurses make good money.

Final Thoughts

The core pillar of personal finance is to spend less than you earn and invest the difference. House hacking interacts with all three components.

Since housing is most people’s biggest expense, anything that lowers your housing costs qualifies as a big win in the arena of frugality.

If you can get a rental to be cash flow positive, the property is actually adding to your monthly income. So put a check mark by income generation.

And of course, the property itself is an investment. It can appreciate in price, it provides an income, and your net worth goes up as you build equity. It’s not as passive as index investing, but it is definitely a bona fide, income-producing investment.

It’s not necessarily easy to pull off a house hack, but if you can pull it off, it’s one of the best things you can do to improve your financial health.