How to Buy your first Rental with a Low Down Payment?

So I'm going to go ahead and let the hat right out of the bag. The cheapest way to buy your first rental is to buy one that you are going to live in. After at least 1 year, you are legally allowed to rent out your entire house. Don't try to rent it out prior to that one year mark, because technically you will be engaging in mortgage fraud. (And don't nobody wanna go to jail!). So the way around that is to live in one part of your house and rent the other part of it out. This is called House Hacking (and it's my favorite way to start getting into owning real estate). 

House Hacking

House Hacking is a term that simply means that you are buying a property with an owner occupied loan and you intend to live in part of the property and rent out another part of the property. Keep in mind, that this is not a legal term. When you are buying an owner occupied home, you don't go and tell your bank that you plan on renting part of it out. Just don't do that! However, you are allowed to rent out a portion of the home that you live in to other people. Your lender will not consider that money from roommates as rental income, so you need to be able to qualify for the house by yourself (based on your credit and income) in order to purchase the home. The roommate income you make on the side is just an added benefit. 

With house hacking you can buy a 3 bedroom home, and live in 1 bedroom and rent out the other 2 bedrooms. Or you can buy a 2 unit duplex, a 3 unit triplex, or a 4 unit quadplex and live in one of the apartments or units and rent out the other(s). 

House Hacking is a great strategy because you can use the additional income to:

• • Pay off more of your loan each month

  • Save for renovations

  • Fund your traveling

  • Save for future investment opportunities

Before you settle on buying a home, make sure you research what the rents look like in your area for the whole house, and most importantly for each unit or bedroom. 

Since the loan you are using is owner occupied, that means that your down payment is going to be less. Typically to buy an investment property that you don’t plan to live in, you have to put down a payment of 20% of the purchase price. However, with an owner occupied loan, you are only putting down 3.5% to 5%. 

• • For example, let’s consider a $200,000 house. 

    • To use an investment loan, you will need to make a down payment of 20% which is $40,000.

      • At a 4% interest rate, on a 30 year mortgage and not including Property taxes and insurance, you are looking at around a $770 monthly Principal and Interest Payment. So in other word, the more of a down payment you put down, the lower your loan amount, and the lower your payments. 

    • To use an owner-occupied loan, you will only need to make a down payment of 5% which is only $10,000. 

      • At a 4% interest rate, on a 30 year mortgage and not including Property taxes and insurance, you are looking at around a $900 monthly Principal and Interest payment. (Now keep in mind that whenever you put down less than 20% your mortgage payments are subject to PMI which is called Private Mortgage Insurance. So don’t be surprised if you see an $1100 monthly bill versus the $900. But don’t worry, you will know what your totally monthly payment will be once you close on the house. You can also ask your lender for a closing cost estimate sheet in order to get an idea of what your monthly payments might be. 

      • In this case your monthly mortgage payments are higher, but you were able to save $30,000. 

By house hacking you essentially get your first taste of the landlording experience while also having a place to live yourself.