Today we’re going to be discussing how house hacking works on a conventional loan or even an FHA loan. What you need to know about the numbers and how to calculate if hacking makes sense before you make an offer on a property.
House hacking – for those of you who have never heard of house hacking, I’m just going to quickly explain the concept. In house hacking you buy a house and then rent out part of the house to other people. So let’s say it’s a four bedroom house, you might rent out two or three of those bedrooms to other roommates and the idea is that their rent covers all your housing expenses so that you can live in the house for free. Sounds pretty great, right? Well, in order to make sure you do house hacking effectively – you need to know what the numbers look like for your expenses on your loan, otherwise you can end up paying rent just like everyone else.
So what’s first? The first thing you’re going to want to look at is what a general loan rate is in the country today. Now the easiest way to do all of this is to just pick up the phone and call a mortgage broker. If you’re in california just call me – that’s what I’m here for – but if you’re shy and just want to do some research on your own to see if it’s even possible what I recommend people do is just type in “national mortgage rates” in Google. When you do that if you scroll down past the ads you’ll get a screen that looks like this.
You’ll be able to plug in the approximate cost of the house, what state you’re in, your FICO score range and instantly you’re going to get a rate.
Now is this rate accurate – not necessarily. As a broker I can tell you that this has been both over and under what I have been able to get somebody on any given day but it’s usually within one quarter of a percent which won’t change your monthly payment all that much so it’s a great place to start…also it at least gives you an idea of what actual mortgage rates are as opposed to those crazy bait and switch numbers you might see on display ads or hear on radio commercials that are super unrealistic.
So by today’s rates if I plug in that you are living in California and you’re going to be putting 20% down on a $400,000 house your rate would be 3.962% with a credit score of 700-719.
To make the math and things to remember easy let’s just call it 4% even. From this screen, that’s all you have to remember is 4%.
Getting the numbers
Step number two is to go back up to that Google search box and type in “Simple Mortgage Calculator” don’t type in mortgage calculator or how much house can I afford, you’re just going to end up on somebody else’s site who is going to do some of the math for you and then ask for your phone number and email before giving you any kind of results. Google has a great, easy to use calculator that will at least give you a starting point but you want to make sure you stay on Google and NOT get redirected to an advertising page so the key is to type in “simple mortgage calculator” and you should get a result that looks like this.
What we’re going to do is make sure that we’re on monthly payment which it should be by default and make sure to check this little toggle that says include taxes and fees.
As a homeowner you are going to have those two costs are part of your monthly overhead for the house. Taxes and fees refers to your property taxes and hazard insurance and if you’re coming in with less than 20% you’ll also have something called Mortgage Insurance. Each one of those topics is an article unto itself that you can watch on my channel if you’re not aware of any of those terms but for now we’re just trying to get figures so let’s skip over the details and just get some numbers together.
So if I plug in $400,000 with a 20% loan on a 30-year fixed mortgage and make sure to put in that 4% that we got from the other screen. You’ll notice that the number they put in by default is never the same as the one we just got so that’s why we did that step first, to get you a more accurate interest rate. We’re going to change this to 4%…and make sure the Fico range is correct, in this case it’s already where it needs to be and, of course make sure that the state is correct. The reason you want to make sure the state is correct is because that will get you a fairly accurate estimate on the property taxes which change state by state.
Over here on the right hand side you’ll see that you now have an idea of what your monthly payment is going to cost. You’re at $2,062/month.
Now that we have a starting budget of $2,062 we can move forward. Our starting figure is there in black and white and you can pretty much bet on it being fairly accurate within a hundred or so dollars so you can at least make your calculations.
The calculator even shows you how much of a down payment you need – in this case we put in 20% so we’re looking at $80,000. Now the one thing this doesn’t tell you is closing costs. I would say bet on about $10,000 or so as a rule of thumb just to get some ballpark numbers.
So if you have $90,000 saved up or have a relative willing to gift you some funds to get you to $90,000 and the houses in your area are at $400,000 your monthly payment is going to be $2,062.
Short on Cash?
Now what if you don’t have quite that amount of cash? No problem, if you’re a first time homeowner you can come in with as little as 3%. Let’s take a look at what that scenario might look like. All we have to do in the calculator is change the 20% to 3% and we get a few different numbers.
First you’ll notice that down payment shoots down to $12,000 – and again with closing costs figure $22,000 – so instead of having to have $90,000 saved up you’re pretty much set once you hit $22,000 which makes it a lot easier.
Now if you scroll down you’ll notice that a field that was previously zero now has a number in there – that’s your private mortgage insurance or PMI – that’s now at $320. Remember if you come in with less than 20% down you are going to have an extra insurance policy you have to pay every month…that’s what this fee is.
So between the PMI and borrowing more money your monthly payment goes from $2,062 to $2,834…now that can still be doable for house hacking.
The rest of the math is quite easy. You just have to figure how much you can get per room in your house. If you’re renting out 3 rooms in a four bedroom house you’d only need to charge $700 a room to cover your payment with 20% down but if you were coming in with 3% you would need to charge between $950 and $1,000 a room in order to be able to live there for free which is the goal of house hacking.
Now since every area of the country is different, rent is going to vary wildly. The easiest way to get an idea of what rent costs is to actually hop over to Craigslist and type in “room for rent” in your area and you’ll get an idea of the price ranges to know if your situation is going to pencil out.
One of the greatest things about house hacking that people neglect to mention is that you also get to pick your room so generally speaking you’re going to get the big, master bedroom for free while the other people are going to be renting the smaller rooms and paying your bill. It feels like you’re stealing but really it’s a great way to get started with home ownership.
The absolute greatest thing about house hacking through is that your home value goes up over time so while these people are paying your mortgage and you are living rent free the value of your house is going up. The best thing you could do is save up the monet you normally would be paying in rent for yet another house and then, once you can afford to buy another house, simply rent your room out to another tenant and now you have a profit coming to you every month from your first house that helps you pay the mortgage on your second house.
With an FHA loan
The same exact process can be done with an FHA loan, the only part you wouldn’t be able to do is move out of the house altogether. FHA loans require that you live in the house for the life of the loan so if you were to ever get to a point where you wanted to leave the house and buy another one, technically speaking you’d have to refinance the FHA loan into a conventional loan to keep things kosher.
The two things that are going to change for an FHA is going to be the interest rate from step 1 and the mortgage insurance…so you’ll have a slightly different set of numbers but other than the process is completely the same.