As advertised, this article is going to pit house hacking against renting out rooms in your house. These are two very popular rental investment strategies among real estate investors that are starting out.
So which is better?
House hacking is the better investment strategy if you want superior cash flow, appreciation, and growth potential. Renting out rooms is the better strategy if you want lower cost, greater availability, easier financing, and broader resale opportunities.
We will go into each of these reasons in detail below and compare house hacking with room renting across key categories.
Before we dive into this let me give you a brief overview of how I made my comparisons. I wanted to pull actual data of two properties (one multifamily for house hacking and one single family house for room renting) at roughly the same price points. I go into the details of how I set this up later.
Because this is based on a single test case (as well as some general observations), I admit that there are many factors that could change the outcome of a comparison of these two strategies.
But the great thing is that you can perform a similar analysis that does apply to your situation. In fact, I give you my step-by-step process below so you can run the same type of comparison in your city.
On that note, let’s get started!
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First, the Definitions
What is House Hacking?
House hacking is a real estate investment strategy where the investor buys a small multi-family property (normally 2-4 units), lives in one of the units, and rents out the others. The rent from house hacking can allow the investor to live in the property for free or at a greatly reduced cost. In some cases, the investor may house hack his way to a profit each month.
This is a popular investing strategy and has a lot of advantages, which I go into in more detail in this article.
What is Room Renting?
Room renting is the practice of renting out spare rooms in your house. This can provide the home owner with extra income each month to pay the mortgage and other expenses associated with owning the property.
In some cases, the owner may be able to cover all of his housing costs through room renting or even generate a profit. But the owner should be mindful of any local ordinances that may prohibit this strategy, especially if the room rentals are short term in nature.
This strategy has been around forever and is a tried and true way to generate some extra money from your house.
Before we dive into the comparison results, I want to talk about cost.
In our comparison below, I looked at two properties costing about the same. That seemed like the right approach when trying to compare apples to apples.
But in a real-life situation, an investor may favor one property type over another because it generally carries a lower price point. This seems to apply when comparing multi-family properties against single-family homes.
According to thebalance.com, starter homes in 2019 had an average price of $215,000.
In comparison, according to reonomy (a leading commercial real estate insight provider), the average duplex selling price was $278,718.
So there can be a meaningful price difference between the two. If you are looking to buy a rental property using one of these two strategies and you want to pay the lowest possible price, I think the edge goes to room renting.
The Head to Head Comparison
Ok – we are getting into the juicy stuff.
I wanted to compare the two strategies using actual numbers from actual properties in the same city.
I chose Jacksonville, Florida as my test case because Slate Magazine claimed it was the most perfectly average place in America.
Now I am not knocking Jacksonville at all. I have never lived there and don’t know anything about it (other than it looks like it has some cool investment property opportunities!). I just needed to pick a place and did not want to be completely random in my choice.
Ok, so here’s the set up:
I had a budget of $250,000
I looked to maximize the number of rental units for my house hacking strategy and the number of bedrooms for my room renting strategy.
Here’s what I found based on a Zillow search of Jacksonville (which includes some surrounding areas):
I located a 4 unit multi-family property (8 bedrooms total) for $249,000.
But its Zestimate is $177,385, so maybe the asking price is somewhat inflated. Let’s refer to this property as the “multi-family.“
I also found a 4 bedroom/2 bath single-family home with a pool built in 1970 for $250,000. It had multiple offers on it, so obviously people liked it.
Its Zestimate was $249,839, so pretty close to the listing price. Let’s refer to this property as the “SFH.”
Cash Flow Comparison
Cash flow is basically income (usually just rent) minus expenses. It is very important to investors because it puts money in their pockets each month. It is almost always a make or break factor in whether an investor will buy a rental property.
The first step to calculating cash flow is figuring out the expected rent. Let’s get started.
Rent for the Multi-family:
According to the Zillow description, rents are expected to be $750 for unfilled units, but it doesn’t say what the rent is for the currently occupied units. So I went on rentometer, typed in the address, and indicated it was a 2 bedroom unit.
It gave me an average of $877 and a median of $850. That’s higher than the $750 in the Zillow description, but to be on the safe side, I decided to go with $750.
If we multiply $750 by three units (because the owner is living in one of the units), you get $2,250.
Rent for the SHF:
For the SFH, the methodology has to be a bit different. Since you are renting out rooms, rentometer is not the best tool.
I looked at the following sites that specialize in renting out rooms:
· Roomster – they had listings of $600 to $650 in the Arlington area of Jacksonville, which is where the home is located.
· Roomi – they had only one listing in Arlington for $700
· Roomates.com – they had many listings ranging between $450 to $800, but they averaged around $600 to $650.
Based on this data, $625 per room seemed appropriate.
If you multiply $625 by three rooms, you get $1,875.
Looks like house hacking generates more rent in this comparison. Now let’s look at expenses.
Because the purchase price of the two properties is almost identical, the expenses should be very similar.
That seems be the case. According to Zillow, the estimated payments of both properties are exactly the same ($1,147). So for the multifamily, your cash flow is $1103 ($2,250 minus $1,147). For the SHF, your cash flow is $728 ($1875 minus $1,147).
In this match up of cash flows, house hacking takes it.
Side Note: I would emphasize, though, that there really are no losers here. In both cases, you are living for free and getting paid a lot of money each month.
Appreciation is how much a property rises in value. I can’t predict how much these properties will appreciate, but it is easy to estimate how much they have appreciated.
Here’s what I did.
I pulled Zestimates for both properties as of February 2016 (looking back 5 years):
· The multi-family Zestimate in 2016 was $111,800 (its current Zestimate is $177,385).
· The SFH Zestimate in 2016 was $167,400 (its current Zestimate is $249,839).
If we subtract the current Zestimate from the 2016 Zestimate, the multifamily has appreciated by $65,585, which translates into a percentage gain of around 58%.
The appreciation on the SFH is $82,439, which translates to a percentage gain of about 49%.
The SFH has appreciated more in terms of absolute gain, but from a percentage perspective, the multi-family looks to be the winner.
I think the percentage gain is the better figure to use.
Here’s my reasoning, imagine if you were comparing a $100 million dollar skyscraper that appreciated by $1.0 million during the same time.
Yes, that $1 million beats out both of our properties in terms of absolute gain, but it is misleading in terms of how good an investment that skyscraper was.
It only appreciated 1% during that time as opposed to 58% and 49% for our two properties.
Based on this reasoning, I would give the slight edge to the multi-family.
You can get great financing using either strategy because you will be living in the property regardless. FHA financing is available for house hacking, and room renting, which allows you to put as little as 3.5% down.
There are also really great ways to get no money down financing if you use either of these strategies. Check out my article to learn more.
I give the edge to SFH here because there may be slightly more requirements for buying a multi-family as opposed to a garden variety SFH, but I don’t think you are talking about a huge difference. Source: FHAhandbook.com
Availability is an important factor in whether you want to invest in a rental property. If there aren’t any around, you can’t buy them. And if there are only a few, there’s probably going to be a lot of competition for them.
Let’s look at the availability of single family homes first:
According to my Zillow search, there were 721 agent listings and 599 other listings for single-family homes under $250,000 in Jacksonville.
For multi-family properties, there were only 16 agent listings and 12 other listings.
I don’t think there is much to debate here. SFH is the hands-down winner.
Tenant Interaction Comparison
One of the main things to consider when comparing these two strategies is how willing you are to interact with your tenants. In the multi-family, you will have some interaction because you are living in the same building, but in a room renting scenario, you are going to have way more interaction with your tenants (and may have to deal with a lot more drama because of the shared living quarters).
If you like that, then it’s a plus, but if not (which may be the case for most people), I think the multi-family is the winner here.
Airbnb Potential Comparison
As an investor looking to maximize your profits, you may be considering using either of these strategies in combination with an Airbnb rental strategy.
Using Airdna, the multifamily shows an Annual Revenue of $25,711, an Average Daily Rate of $147, and an Occupancy Rate of 48%. This is for each 2 bedroom unit.
For the SFH, the Annual Revenue per one-bedroom unit was $18,679, the Average Daily Rate was $80 and the Occupancy Rate was 64%.
Based on these numbers, the house hacker in our scenario may hold the edge when it comes to Airbnb rentals.
This one is pretty straightforward, if you bought a legal multi-family (and you should make sure you do), your municipality is not going to give you grief for renting the units out.
But if you are going to be renting out rooms in your single family house, you will need to investigate your local rules around whether this is permitted and abide by any restrictions that your municipality may have.
If you are part of a home owners association or condo association, you will also need to check their rules to make sure your rental strategy is permitted.
Given this, the advantage goes to house hacking.
Scalability means how easy it is to grow (scale) your rental portfolio. House hacking has to win here too because you are purchasing multiple rentable units in one go. When you are buying an SFH one at a time, your portfolio is increasing at a much slower pace.
I would also point out that it is far easier to scale when you are not tied to living in your property.
In a multi-family strategy, if you want to replicate your success and grow, you can remove yourself from your existing multi-family property and move into your new one quite easily. That’s because each unit is like an apartment and the tenants are not really interacting with each other.
In the SFH, it is much harder to extract yourself and expand into a new single family house to do it over again. The tenants in your existing house are sharing the bathroom(s), the kitchen, the refrigerator, the washer and dryer, etc. There is a lot of room for argument, which you, as the landlord typically mediate. If you take yourself out of the equation, chaos can erupt.
I suppose you can appoint someone as the “house head” to handle these types of scenarios or you can be on call to mediate, but the point is that these issues can be frequent and will persist as you try to scale.
Ease of Resale Comparison
I think it is pretty clear that selling a single-family home is going to be dramatically easier than selling a multi-family. Most people buying multi-family properties are investors. That’s a small subset of the buying population.
But if you want to sell your single-family home, you have a way bigger pool of buyers who might be interested.
The victor here is the SFH.
House hacking and room renting can both be profitable strategies, but in our comparison house hacking seems to have more advantages for the rental property investor. But I would not sell short the advantages that room renting offers, including affordability, availability and ease of resale.
For me, availability is a huge one. If there aren’t many multi-families in your area, a room renting strategy can be a really smart and effective way to supplement your income.