House Hacking: The ABSOLUTE Key to Early FI

by FI Fighter on December 1, 2015

in Real Estate Thoughts, Thoughts

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They say that if you want something badly enough, you will find a way to make it happen. As it pertains to early FI, the question remains the same — How BADLY do you want it?

Up to this point in the blog’s history, I have spent very little time addressing the topic of personal expenses. When it comes down to how much a person spends on a given month, I feel that it is indeed 100% personal… There’s absolutely no way to generalize spending because everybody’s own situation is so unique.

So, for the most part, I don’t even bother to try… Instead, on this blog, I focus on the offensive gameplan on how to get to early FI… really early…

But in my own case, I am a single guy with no baggage… I can easily come and go as I please. I have no dependents to support and basically I only have to answer to myself each and every month.

Yup, pretty simple and boring… so far.

Of course, none of this was intended, but it just kind of happened… I got sick really early in my adult years which really changed the landscape for my own future…

But I digress, and moving right along…

I strongly feel that the ABSOLUTE key to reaching early FI is to figure out a way to house hack as much as possible… as soon as possible.

Early On

From as early on as high school, I was an extremely frugal guy. It must have been because I took on a weekend job bagging groceries my freshmen year which was hard work and paid next to nothing. Further, other co-workers and customers routinely dissed me on the regular because of my young age and menial position. You could say that was my own version of the school of hard knocks…

So, by the time I got to college, I really did know the value of a dollar… It was freekin’ hard work to earn $1!

Call it intuition, or not, but I have never been comfortable with the thought of paying high rent because I always looked at it as a wasteful expense that could be better utilized elsewhere…

In college, I saved on housing each and every semester by living far away from campus, with other roommates, in dilapidated old buildings.

I reasoned, “Why pay $1,500/month for a place to live when I can find an alternative way to scrape on by for only $500/month?

Besides, when you’re in college, you’re only really ever at home to sleep… Well, at least that was my college experience…

Hey, every penny counts! An extra 10 pennies saved is another ramen noodle meal!

Outside of federal aid for tuition, house hacking was really the only way that made it possible for me to graduate college with practically zero debt…

Post-College

When it comes to early FI, I think most people shoot themselves in the foot immediately after college. No one wants to shame themselves by returning home and living with family (unless you’re LAME like me)… Instead, we would prefer to show off to our peers and let them know of our newfound status in this world…

Most young graduates don’t miss a single beat and catch the first train to The City!

Lights, camera, action!

We have arrived in this world…

To the tune of paying 50% of our paychecks to slumlords!

I understand that when you are young it is EXTREMELY difficult to be very forward-thinking (planning way out into the future)… In your early 20s, plain and simple, you just want to have a good time all of the time!

But as Newton taught us, every action has an equal and opposite reaction…

The person who is forking over 50% of their paycheck each and every month is unable to save and invest 50% of their paycheck each and every month…

And when it comes to early FI, in order to get there quickly, you must save ABSOLUTELY RUTHLESSLY!

2007-2011

When I graduated college, the first thing I did was move back home and look for a job… Quite honestly, I was sick and tired of being piss broke and not even being fortunate enough to own my own vehicle…

Hey, give me a break! I came from a poor family… I thanked my lucky stars to even be fortunate enough to graduate from college… on time…

From 2007-2011, I lived at home with family (while all my buddies laughed at me)… but I saved a boatload in rent. 🙂

Of course, I had to take on adult responsibilities: car payments, healthcare insurance for parents, utilities, property taxes, etc., but regardless, it still beat having to pay rent in expensive Silicon Valley!

Granted, the thought of early FI never even crossed my mind until I was living in Newport Beach in November 2011 (again I house hacked with 3 other housemates so my rent was as CHEAP as possible), but luckily enough, I was doing most of the right things necessary to make it a realistic possibility… without even knowing it.

Ingrained Habits

To this day, I still house hack and have never had the responsibility of paying a full mortgage. But living in Silicon Valley, you kind of have to do that (housing is REALLY, REALLY EXPENSIVE here)!

That is, if you want to reach early FI BADLY enough…

When it comes down to it, I was really inspired to live well below my means by my brother… I remember when I was in college and he first started working as a full-time engineer… He was saving boatloads of money every month, yet his lifestyle never evolved… and he STILL made me pay for my own cellphone bill!

That image stuck.

Big time.

To this day, my brother was and still is an extremely frugal guy (yet he finds creative ways to live life to the fullest… For instance, he ONLY flies first class around the world… In fact, he just flew first class on Cathay Pacific on his way to hiking Everest).

When I moved back to the Bay Area in 2012, my brother and I both started buying real estate at roughly the same best time (he started a few months before I did). But after he won his first few deals and I won two myself, we didn’t do what most people do — You move into your house and I’ll move into mine… and we’ll each pay our own mortgages!

Rather, we reached an agreement that would serve a higher purpose — We would help each other get to early FI. We would continue to live together (I have never lived in any of my own properties but for a brief moment I did have thoughts) so that we could split common bills and expenses in half, as opposed to going our separate ways and having to pay for everything solo.

Living with family can be a challenge, but we both knew that it was a necessary means to an end.

And it would only be for temporary… Sacrifice a little today so that you can have a lot more later.

That was the plan, anyway.

I’ll never forget the conversation we had when we were driving up to Tahoe in early 2013…

We spent the entire trip talking about early FI.

Living in exotic countries. Enjoying fine cuisine (for dirt cheap). Parading the cities at night.

I became totally convinced we were doing the right thing…

By the time we got to the slopes and met up with our other friend, I wasn’t even interested in snowboarding anymore… Instead, I wanted to go look at more houses and increase my cash flow further! 🙂

Early FI Takes Sacrifice and Creativity

That’s just my own story, I’m sure your own is much different… Or maybe there are some similarities?

In any case, I’m sure that you’ll agree — Getting to early FI takes a lot of sacrifice!

For those who aren’t single, or for those who have their own families and children, there are still many ways to house hack…

In a downmarket the WITHOUT A DOUBT best way to house hack is to take out a FHA loan (3.5% downpayment) on a multi-family residence (2-4 units). You live in one of the units and rent out all of the others. In a perfect scenario, the net cash flow from the rentals not only covers your mortgage, but you’re also able to generate positive cash flow after all expenses.

I know, I know, that sounds like crazy talk now in 2015… but this was entirely doable back in 2011, 2012… and it might still work in the Midwest and other more affordable markets.

In fact, I’ve met a few millionaires who became millionaires because of this FHA technique… After 1 year, they moved out and turned the multi-family property into a full rental (all units rented out) that was able to generate monster cash flow… So much free cash, in fact, that they could literally move into any house they wanted (rental or owner occupied) and have all their housing expenses paid for by the FHA multi-family property gift from God.

As I mentioned earlier, it’s ridiculously expensive out here in Silicon Valley — Many married couples that I know (even those with small children) have gotten creative and taken the initiative to rent out either one or two bedrooms to reduce their housing costs substantially.

If that weren’t enough, it isn’t even far-fetched here to find a couple who will live in their own bedroom converted garage, or guest house, while they rent out the main residence.

Sure, these setups aren’t ideal, but neither is having to work 30+ years as a wage slave…

Housing is typically everyone’s largest monthly expense, so anything you save helps a lot!

Cool Kid or Free Bird?

Let’s face it — housing costs aren’t what they used to be!

Millennials have got it rough, no doubt…

But you don’t have to accept defeat! If the rules of the game suck (you live in NYC, Silicon Valley, or some other CRAZY EXPENSIVE city), play a different game!

I realize the thought of living with: family, friends, lots of roommates, or in somebody else’s home might make you feel embarrassed or ashamed… especially into your late 20s, or even 30s… Just realize that if you must insist on owning your own kingdom you are going to have to pay a hefty premium for such a luxury every step of the way!

For myself, I would much rather tough it out from say ages: 21-32, to be able to live FINANCIALLY FREE for the rest of my life, as opposed to being the guy who is paying an absurd mortgage each and every month… forever and ever…

Don’t get me wrong — I LOVE property.

Let me rephrase that — I LOVE rental property.

I have an ownership stake in 8 properties.

I just don’t believe in paying an insane amount of money each month just so that I can have a roof over my head.

By house hacking, an early FI enthusiast will be able to build up their net worth and cash flow much more quickly while their peers continue to plow their hard-earned income into high rents/mortgages.

And like they teach you in Investing 101, time is EVERYTHING! The sooner you get started, the sooner compound interest can work for you!

Now that I have accumulated some decent cash flow, my rule-of-thumb would be this:

 

If my cash flow can’t cover my rent + utilities, it’s too expensive and therefore I’m not interested…

 

That is why I have every intention of leaving Silicon Valley once I walk away from my W-2 job… But maybe I’ll come back once one of my properties here is paid off (thanks to my tenants!)?

And that’s what makes rental property so darn attractive — As long as you have a tenant in place, someone else will ALWAYS be working on your behalf and best interests.

Whereas a typical homeowner will spend their entire life paying down their own SINGLE mortgage, a real estate investor might be fortunate enough to have MANY mortgages paid off (that’s the plan!)… each one, courtesy of their tenants.

When you’ve got that going for you, you might as well go play on the beach for awhile… or a few years.

 

Like my brother taught me, it is possible to have the good things in life if you’re willing to think outside the box and hack your way to it!

 

Geographical arbitrage — I’m sure we will be discussing this in much more detail in the coming years… 🙂

 

Fight On!

{ 25 comments… read them below or add one }

1 Financial SamuraiNo Gravatar December 1, 2015 at 8:54 pm

I’ve noticed a lot of people on SF just have roommates, even in their late 30s to save money. It’s becoming a way of life for many here.

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2 FI FighterNo Gravatar December 1, 2015 at 9:10 pm

Sam,

I didn’t touch on SF but that market is even more insane than Silicon Valley!

I don’t know how you guys make it work up there… I want no part of that mess 😉

But I’m happy for you — you must be making a killing in these times!

Take care!

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3 dannyNo Gravatar December 2, 2015 at 2:53 am

Wow your post really resonated with me. I grew up poor and alot of the financial habits that were ingrained in me has stuck with me even after I started making decent money. This is before I even thought about early retirement and FI. I remember at one point you were going to look at more turnkey properties in other states, whatever happened to that?

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4 FI FighterNo Gravatar December 2, 2015 at 6:09 am

Danny,

Yup, the lessons from childhood/youth tend to stick when you grow up poor. I wouldn’t say growing up poor is necessary to being frugal, but you kind of get used to it when you’re forced to from early on…

For me, it’s always stuck and I’m unable to spend money frivolously even if I have ample to spare.

In regards to turnkeys, I could have, and probably still could keep buying cash flow properties out of state. In fact, some of my buddies are still going down that route.

For myself, I stopped that endeavor when I realized that as it pertains to investing, I like to also have a good deal of appreciation, which can only be found in certain cities/regions (the expensive ones where cash flow no longer works anymore).

And I love buying when assets are down 50%+… which is tough to find in the real estate space right now. Hence, I’ve shifted my focus to commodities which are down 80% to 90%+… This latest venture of mine is far more risky and way more speculative… But like they say, higher risk, higher reward.

We’ll see how it works out.

Cheers!

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5 Midwestern LandlordNo Gravatar December 2, 2015 at 6:13 am

The FHA example for beginners is great advice. That is what I did right out of school (bought a 4 family building). Definitely where you live plays a big roll regarding house hacking being an integral step in the early FI plan. It is never a bad idea from a money standpoint, just more important in high cost of living areas. In my area, it is not as much of a factor.

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6 FI FighterNo Gravatar December 2, 2015 at 6:22 am

Midwestern Landlord,

Most definitely! That’s why it’s so hard to generalize real estate; it’s different everywhere.

In the Midwest, for instance, if your mortgage payment is sub $1,000/month, it won’t take as much effort to pay each month, so all the house hacking stuff I mentioned might not be so relevant. Further, getting to $1,000/month in cash flow won’t seem like as monumental a task.

In an expensive region like Silicon Valley, a typical mortgage (for a townhouse not even a single family home) will exceed $3,000/month…

Without some help, that’s just not fair… I earn a pretty good salary here and you can’t convince me into believing that I can afford that…

The reality is, the median salary here won’t have barely any excess each month after mortgage payments without some help. Dual income working professionals each earning $100k+ salaries can barely make it work…

It’s tough, so if you wanna get ahead to early FI here, you must play a different game.

Take care!

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7 JCNo Gravatar December 2, 2015 at 6:32 am

My buddies and I were contemplating setting up an LLC and purchasing a house for the 3 of us to live in after we all graduated college. We ended up not pursuing that and it just kind of fell to the wayside. In hindsight that probably would have been the best thing we could have done instead of 2 of my buddies renting out apartments by themselves, but I went back home and stayed there rent free. If I were single again there’s no doubt that I’d push the limits of what I’m comfortable with in regards to housing. The two largest expenses for me on an annual basis now are taxes and housing and you can easily find ways to reduce both. But I’m happily married now so I can’t complain with how things turned out but it definitely changes the situation compared to being a single guy. If I could do it all over again I’d have pursued the house hacking with my buddies route much harder and help jump start wealth creation and early FI.

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8 FI FighterNo Gravatar December 2, 2015 at 7:03 am

JC,

You’re doing great work over there buddy! Yeah, with the benefit of hindsight, we can always find things we could have done better or improved upon…

And yes being single does in a sense allows for a little more flexibility in lifestyle choices since you don’t have to compromise with someone else; if I was married, my guess is I would live in one of my units and rent out the spare bedrooms.

But overall, I think this post would be most useful for those early freedom fighters who are just starting out their own journey and looking to build wealth.

It’s possible to go against the grain and live a different lifestyle than what your friends are doing — let them spend money while you save ruthlessly.

I can only speak for myself, but without house hacking, none of what I’ve accomplished would have ever been possible:

House hacking let me save a massive amount of money from 2007-2012… This made it possible for me to invest big in real estate in 2012, which has in turn helped me become a millionaire.

One thing young people should not overlook is opportunity costs… Investing isn’t tough to figure out… there are only so many viable asset classes out there that will make you insanely wealthy (relatively safely). But in 2012, even when I was buying, my buddies who lived lavish lifestyles and rented prime real estate in the city could only sit there and watch… they were living paycheck to paycheck so even if they saw a good deal, without the funds readily available, they weren’t able to participate in the sale of a lifetime…

Again, just something for young people to consider.

Cheers!

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9 Midwestern LandlordNo Gravatar December 2, 2015 at 6:41 am

I guess you guys get good weather and property appreciation. We get bad weather (at least in the winter months), cash flow, and very little if any appreciation.

Oh well, you have to work with what whatever the situation is.

By the way, I think your stock strategy has a lot of merit. Buying sectors that are out of favor (at all time lows) is as good a play as any. It’s not that you don’t like real estate anymore as an investment, it just is not as compelling right now from a valuation standpoint relative to other alternatives.

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10 FI FighterNo Gravatar December 2, 2015 at 7:22 am

Midwestern Landlord,

Exactly — you just have to adapt to your own circumstances and proceed accordingly.

If I lived in the Midwest I would be all about cash flow!

Whether it’s cash flow or appreciation, they will both take you to paradise.

Thanks for the support! When it comes to real estate, I will always have a strong affinity for it. All things being equal, I would say real estate provides the most benefits to an investor (4 pillars — appreciation, principal paydown, depreciation/tax breaks, cash flow). I would choose real estate 100 times out of 100 if all things were equal.

But when real estate has already recovered 100%, 200%, I don’t know maybe even 300% in the most affluent neighborhoods up the peninsula, I lose all interest. There’s no meat (tofu) left on the bone (plate)… and I’m hungry.

Commodities quite frankly provide the best bang for the buck right now, so I have no problems getting educated in that space and playing in that sandbox, instead.

But there will be future opportunities to get back into stocks and real estate.

I’m patiently waiting for those good ol’ days to return again.

Take care!

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11 mikeNo Gravatar December 3, 2015 at 10:43 am
12 FI FighterNo Gravatar December 3, 2015 at 12:26 pm

Thanks Mike!

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13 JonNo Gravatar December 3, 2015 at 11:34 am

What is so special about an FHA loan? Just that you only have to put a very small amount down? But the monthly and upfront insurance seems very expensive?

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14 FI FighterNo Gravatar December 3, 2015 at 12:28 pm

Jon,

When we are talking about real estate (especially for 2-4 units in expensive markets), the difference between 3.5% and a conventional 20% downpayment is HUGE!

That’s the difference between being able to fund a deal or needing another 1-2 years to save up… which by that point may be too late and the train will have left the station.

Yes, mortgage and PMI are higher, but in the right market environment, you can STILL make the cash flow numbers work…

I wasn’t smart enough to take advantage of the FHA loan during the last downcycle, but I’ve met others who have, and they are all millionaires now… Some have reached early FI and are younger than me!

Take care!

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15 JonNo Gravatar December 3, 2015 at 1:27 pm

Thanks. What is the max you can borrow for a multifamily with an FHA loan while paying just 3.5% down? Can anyone quality for an FHA loan (ie even people with good credit)?

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16 FI FighterNo Gravatar December 3, 2015 at 2:12 pm

Jon,

Good credit will only help you 🙂

In terms of limits, it might vary from location to location…

http://www.fha.com/lending_limits_state?state=CALIFORNIA

Please see this excellent post by a reader who utilized a FHA loan to get to $2,500/month in cash flow and who lives rent free now.

http://www.fifighter.com/guest-post/2015/08/real-estate-for-the-win/

Take care!

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17 JonNo Gravatar December 3, 2015 at 2:41 pm

Thanks! These are the lending limits…but doesn’t the loan become a “jumbo” loan over a certain amount and require a much larger down payment?

Thanks!

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18 JoeNo Gravatar December 3, 2015 at 6:31 pm

At the end of the day if your passive income is greater than your expenses you are financially independent. There is no better way to cut down your expenses than to house hack. People spend way more time thinking about how to increase their income. Everyone forgets that lowering your expenses is lowering the hurdle that you need to jump to make it to FI.

Jon to continue the discussion above I would actually recommend a 5% conventional loan rather than the 3.5% FHA. The FHA loan has permanent PMI, higher closing costs, and a higher rate which would be more expensive in the long run. I used a 5% loan to house hack and then moved out a year later and it is the highest CoC return of my portfolio.

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19 FI FighterNo Gravatar December 3, 2015 at 9:03 pm

Joe,

Great job on capitalizing on a wonderful opportunity!

I don’t think there’s anything particularly magical about 3.5% or FHA… If you can swing a higher downpayment, all the more power to you… The 3.5% is just most attractive to new investors just starting out who don’t have a ton of capital, or are buying in markets that are very expensive, where even 1% saved makes a big difference.

Further, in a downcycle, you really get ahead by stretching your dollars as far as possible. Many investors like to buy a bunch of properties, so the lower the down payment, the better.

All the best!

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20 FI FighterNo Gravatar December 3, 2015 at 9:06 pm

Also, I’ve never done a FHA but I’m assuming you can refinance out of it and into a conventional loan once you’ve experienced enough appreciation (say get to 20% equity) to get out of paying the MI?

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21 JonNo Gravatar December 4, 2015 at 12:06 am

The problem with conventional 5% loan is that you hit jumbo territory any higher than 417

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22 JoeNo Gravatar December 4, 2015 at 7:23 am

Guys,

I haven’t looked into this in a few years so if what I am saying is inaccurate I apologize. Things may have changed. That being said to get FHA loan you have to pay closing costs that would be equivalent to the 5% you would put down in a conventional. From what I remember it was upfront PMI of 1.5% of the loan amount. The PMI on a monthly basis is higher than the PMI for a conventional as well. In addition the PMI for FHA loan is permanent so even if you have 20% equity in the house you cant get rid of it unless you refinance.

Jon my loan was for 63k so I am not aware of how conventional loans work for over 417k. It may make sense if you are buying a property that expensive to go FHA. Long story short do your research and compare closing costs and additional fees of FHA to conventional before you make your decision which way to go.

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23 FI FighterNo Gravatar December 4, 2015 at 8:13 am

Joe,

Thanks for the follow up! That’s very interesting to know, and I’m going to save your comment for future reference.

Since I have never done 5% or FHA, I wasn’t aware of the subtle details… I just kept hearing stories from those around me who went the FHA route.

Regardless, anything you can get under conventional (20%) I would say is a steal of a lifetime in a bear market… Even with PMI, extra closing costs, etc., I’m sure there’s happy compromise somewhere that will make the low downpayment far more advantageous than a conventional loan.

In a downmarket, it’s absolutely all about rapid asset accumulation… In short, how many units do you got?

Best wishes!

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24 Jenna L at Hello SuckersNo Gravatar December 4, 2015 at 10:40 am

Some great advice here!
I’m in my final year at university here in the UK and then my partner and I want to move closer to a city in order to get better employment opportunities. I have shared accommodation for five years now and I can’t wait for us to move but you’ve shed some light on what I will be sacrificing by moving.

Having said that, the cities in the North are a lot less expensive to rent in so perhaps we will look to going there if we want to put any money away!

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25 JoeNo Gravatar December 4, 2015 at 6:25 pm

10 units. The terms of these loans change all the time or whenever fannie mae feels like it. Its good to keep abreast of these things.

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