After buying an owner-occupied duplex that included a rental unit, 27-year-old Alex Breske was in for some surprises. The biggest one was learning about being a landlord, recalls Breske, who bought the multifamily home in 2016 in Pueblo, Colo. For example, “whether or not you want to say no to your tenants having pets, if it’s an emotional support animal, there’s nothing you can do. The most important lesson was you have to know your rights and your tenant’s rights.”
What is a multifamily home?
A multifamily home is any residential property that has more than one housing unit. That could be a duplex, a townhome, or an apartment complex. If the owner lives in one of the units, the property is considered owner occupied.
Especially for first-time home buyers facing housing affordability challenges, buying a multifamily home sounds like a great idea. It allows the owner to apply the rent to their mortgage payments. In fact, the concept has gained momentum on social media, where it’s called house hacking.
Among the 49.5 million rental housing units in the U.S., nearly 46% are in small, one- to four-unit rental properties, according to the National Association of REALTORS®. Despite a lack of comprehensive data tracking owner-occupant housing, anecdotal information supports the interest in the idea. Owner-occupant housing purchases are a common arrangement, says Jeff Lichtenstein, speaking from his experience as CEO and broker at Echo Fine Properties in Palm Beach Gardens, Fla.
Regardless of the popularity, experts advise home buyers to avoid getting caught up in the benefit buzz and avoid surprises by carefully considering the pros and cons and steps.
Pros and Cons of Owner-Occupied Multifamily Homes
Like many real estate opportunities, buying an owner-occupied multifamily property comes with pros and cons, including these:
Pros in Owner-Occupied Multifamily Home Purchase
#1 Use of Rental Income Toward Mortgage Payments and Generational Wealth
Cash flow from renting out the other units may offset part or all of an owner’s mortgage payment, says Reed Letson, owner of Elevation Mortgage in Colorado Springs, Colo. A related plus: “If the homeowner decides to move to a new home down the road, [they] can hold on to property as a cash-flowing investment,” says Robert Washington, a broker with St. Petersburg, Fla.-based Savvy Buyers Realty.
Generational wealth includes assets and financial resources that are passed between generations. Multifamily property investments provide passive income. And if you have more than one rental unit, a significant benefit is cash flow, according to "Forbes." That way, if one tenant leaves, you still have income from others.
#2 Lower Down Payment Than for Typical Investment Properties
“The mortgage financing will be the same as a primary [mortgage], so you will avoid the hefty down payment required for investment properties,” Letson says. “Not only will this save you thousands on the down payment, but it will also provide a much more favorable interest rate.”
Breske’s experience illustrates this point. He obtained an FHA loan at 3.5% after paying a comparatively low down payment allowed by the FHA loan program. The monthly mortgage payment was $1,200, $800 of which was paid for by the rent generated from the other unit. “It was about the only way I could afford a home at age 27,” he recalls.
In 2023, conventional loan guidelines reduced the down payment requirement for owner occupants from 25% to 5%, says Washington. “That move opened up the possibility to many first-time home buyers who didn’t have the cash available to put down 25%,” he says.
#3 Tax Benefits Including Depreciation
Other upsides include capital appreciation, reliable passive income, and potential tax advantages from deducting expenses like maintenance and depreciation from the owner occupant’s taxable income, says Daniel Cabrera, owner and founder of Sell My House Fast SA, in San Antonio.
The tax advantages begin with being able to take depreciation on the part of the property that will be rented out, says Evan Liddiard, CPA, NAR director of tax policy.
Other tax opportunities Liddiard highlights include:
- The rental unit will be depreciable over 27 and a half years, and if it's ready to be rented, the owner can start depreciating it even before it's rented.
- If all utilities, including air conditioning and heating, are included in the rent, you, as the owner, can deduct those costs from your taxes.
- If a rented unit has a maintenance item, the expense is fully deductible.
- If you, as the owner, itemize deductions, the portion of property taxes and mortgage interest expense applying to the unit you occupy goes on Schedule A. If those expenses exceed the standard deduction, you can take that deduction. The portion of property taxes allocated to the other apartment(s) goes on Schedule E, and is fully deductible regardless of standard deduction status.
Cons in Owner-Occupied Multifamily Home Purchase
#1 Landlord Responsibilities
The responsibilities of being a landlord can be a heavy lift. Fifty-five percent of small rental property landlords spend less than 20 hours monthly managing their properties, according to the NAR. Over a year’s time, that can add up to 240 hours.
“Sometimes, the work associated with managing tenants – especially problem tenants who pay their rent late or damage the property – can be very labor intensive,” says Alexei Morgado, CEO, and founder of real estate exam preparation platform Lexawise, in Dallas. “Vacancy negatively impacts cash flow, making it important to have an emergency fund.”
Letson suggests a way to avoid trouble. “The good news is you can easily hire a property management company to alleviate these responsibilities,” he says. Of course, that will add to your costs but may be offset by savings in time and money.
#2 Legal Compliance
To comply with local laws, owner occupants of multifamily homes must understand those requirements, and that may require hiring an attorney, Letson says.
Mistakes related to legal issues are common, Morgado agrees. “Ignoring landlord-tenant laws or [using] poorly-prepared lease agreements can also set the stage for disputes,” he explains. “Consult with an attorney specializing in real estate or a property management expert to avoid such issues.”
#3 Lack of Privacy and Conflicts
Living with close-at-hand neighbors may be outside your comfort zone, says Cabrera. And opportunities for conflict are part of the territory. Property damage is a common issue, according to All Property Management website. Solutions include thorough tenant screenings and regular property inspections. If the relationship sours and a tenant moves out, you may not find it easy to replace them.
Steps in Buying an Owner-Occupied Multifamily Home
Experts recommend these essential steps in preparing to buy a multifamily home:
- Do some research and work with an agent: Research rental demand in the target area and work with an experienced real estate agent to search for multifamily properties, Cabrera says.
- Apply for mortgage pre-approval: “Look into various financing programs, such as FHA loans, which are designed for owner-occupant residences,” Cabrera advises. “This will help you speed the process.” FHA guidelines require rental income to meet 75% of mortgage payments to qualify for an FHA loan on a three- or four-unit property.
- Hire a lawyer to support legal compliance: “While you may find lease templates online, it’s still a good idea to hire a lawyer to ensure the document satisfies both local regulations and your specific requirements,” Cabrera says.
- Establish a budget: You’ll need a budget for future maintenance and capital expenditures, Washington says. His office urges owner occupants to hold 10% to 14% of the monthly gross rental income in reserve for maintenance and capital expenditures. The amount varies based on the condition of the property and its major appliances.
- Avoid properties with deferred maintenance: “Many of the first-time home buyers we work with have recently been tenants themselves,” Washington says. “I like to ask them to reflect on how many times they contacted their landlords in the most recent year and multiply that by however many units their future [property] will have. We try to help clients avoid purchasing properties with lots of deferred maintenance.” The value-add upside of such properties “can also turn into a maintenance nightmare if everything in multiple units starts breaking down at the same time.”
Avoid Mistakes in a Multifamily Home Purchase
Errors can plague first-time owner-occupant purchasers, Lichtenstein says. Here are five tips to avoid common mistakes:
- Get help from a real estate agent: Work with a real estate agent to help you understand the market and how the purchase would work financially for you. Ask their advice about location. “A property in a low-demand area may seem reasonably priced, but could result in longer vacancies or lower rental rates,” Morgado says.
- Look for other experts: Some buyers choose to have the property inspected by a single-family home inspector, but a commercial property inspector may be a better choice. State regulations, authorities having jurisdiction, and company policies determine whether a multifamily property is considered commercial or residential, according to the Certified Commercial Property Inspectors Association. The number of units can affect that determination. It's a good idea to check on state regulations. In addition, you'll want to find a skilled insurance broker. That’s especially important in an era of swiftly escalating insurance premiums.
- Be realistic about costs: The cost of repairs, maintenance, and other unforeseen needs can mount quickly, so you don’t want to underestimate them, Morgado says. You can get due diligence help by talking to contractors in advance about the costs or get general information form a real estate agent.
- Screen tenants carefully: Lapses can mean late or missed rent payments, damages, and other costs. Using lease agreements that are poorly prepared can prompt costly disputes, so hire a lawyer to prepare or review your lease agreement.
- Know your limits: For many, self-managing the property can be the biggest mistake if they don't have the time required. Hiring a property management company can eliminate this from your duties, Letson says. In addition, think about whether you have the knowledge and insights to handle ongoing maintenance and repairs. Tenants can expect a high level of expertise, and if you don't yet have it, you'll likely have better results and fewer headaches by hiring an experienced person or company.
Whether you’re actively planning to buy an owner-occupied multifamily home or just beginning your research, keep the pros and cons, steps, and precautions in mind. And consult experts, including a real estate agent, to help you know whether the arrangement is right for you, help you choose the right property, and get off to a strong start.