Investing in real estate can be a great way to generate additional income. However, a lot goes into real estate investing, especially capital, which means it might only be financially viable for some. With that said, there are certain strategies you can take advantage of to start investing in real estate while saving and potentially earning more. One such strategy is an owner-occupied rental property.
But what does owner-occupied mean? Simply put, an owner-occupied investment property is a house hacking strategy where a property owner lives in one of the units of a multi-unit property. But there’s more to owner-occupied rental properties than meets the eye. In this guide, we’ll walk through all you need to know about owner-occupied rental properties, from financing to pros and cons, and more.
What Is an Owner-Occupied Rental Property?
So, what does owner-occupied mean? As stated, an owner-occupied rental property is a house hacking strategy where a property owner or investor resides in a unit of a multi-unit property, such as an apartment building, duplex, triplex, and so forth, while renting out the other units to tenants. In this arrangement, the owner is a resident of the property and landlord, allowing them to generate rental income. There are several reasons why an investor may consider an owner-occupied rental property, from more favorable mortgage terms to better property oversights and more, which we’ll discuss further in this article.
It’s important to note that the laws and regulations surrounding owner-occupied rental properties vary by state and local jurisdictions, as well as the terms of the mortgage agreement. Researching the legal and financial implications of an owner-occupied investment property can ensure you’re in compliance and pursuing this strategy correctly.
Guidelines for Owner-Occupied Rental Properties
There are several important guidelines to consider when considering an owner-occupied rental property. Some of the universal guidelines that pertain to most of these types of properties in all states include:
Residency requirements: For an owner-occupied rental property to be deemed as such, an owner needs to occupy the property, which means the property is used as a primary residence. This is often a condition that’s specific to certain mortgage programs and tax benefits.
Mortgage regulations: The mortgage you obtain typically has specific requirements set by the lender, such as lower down payment options and interest rates compared to investment properties.
Tax benefits: In some locales, there might be certain tax benefits for owner-occupied rental properties, such as homestead exemptions that can reduce property taxes.
Insurance: Because an owner-occupied rental property houses the property owner and tenants, it’s important to ensure you have the appropriate insurance that covers their residence and rental units.
Local regulations: Local zoning laws and homeowners’ insurance regulations might restrict the ability to rent out certain proportions of an owner-occupied property.
These are some of the primary guidelines landlords and homeowners, especially first-time homebuyers, need to understand before investing in an owner-occupied rental property.
Owner-Occupied Rentals as an Investment Strategy
Owner-occupied rentals can be a great addition to an investment portfolio, and knowing how to value a real estate investment property is one of the first skills to build to ensure a wise investment. There are several reasons why this investment strategy can be financially beneficial. Owner-occupied rental properties can reduce or eliminate an owner’s personal housing costs, making homeownership more affordable. Additionally, owner-occupied rental properties allow owners to generate income through rent, which can cover mortgage payments and potentially provide additional income. This also makes it easier for landlords to build wealth and equity in the property.
Pros and Cons of Owner-Occupied Rental Properties
An owner-occupied rental property can provide a host of benefits for landlords. But like any investment, there are potential drawbacks. Let’s start by exploring some of the pros you can enjoy through an owner-occupied rental property:
Rental income: One of the primary benefits of investing in an owner-occupied rental property is the ability to generate rental income. This income stream can be used to pay the mortgage, which may even cover the housing costs for the owner, making homeownership more affordable. It can be used as a wealth-building tool if additional income is made.
Tax advantages: Numerous tax advantages come with owner-occupied properties, such as deductions for mortgage interest, property taxes, and operating expenses. These tax advantages may help reduce the owner’s annual tax liability.
Portfolio diversification: As they say, you shouldn’t keep all your eggs in one basket. Investing in an owner-occupied property allows you to diversify your investment portfolio. With a mix of assets, from stocks and bonds to real estate, you can protect part of your wealth should an asset class face unexpected instability.
While there are numerous advantages to investing in an owner-occupied rental property, there are certain disadvantages to be aware of, such as:
Maintenance: Unlike what many might say, being a landlord is not a means of passive income. Owning an owner-occupied property comes with maintenance requirements, tenant management, and other responsibilities that can take up time and resources.
Noise potential: Because owner-occupied properties have tenants living in other units, there’s the potential for noise and other disturbances, such as tenants knocking at your door at unexpected hours.
Tax complications: While there are several tax advantages to owner-occupied properties, this strategy can complicate your taxes, as certain expenses might not be deductible as would be if the home was strictly an investment property and not a primary residence. Seeking a professional for guidance on tax advantages is advised.
Financing Options for Owner-Occupied Rental Properties
There are numerous owner-occupied financing options available. Potential avenues for securing an owner-occupied home loan include:
Conventional loans: While conventional loans have stricter lending requirements, they’re the most common mortgage option for many homebuyers. Those interested in an owner-occupied investment property can apply for a conventional loan but might face higher down payment, credit score requirements, and different occupancy requirements.
FHA Loans: A Federal Housing Authority (FHA) loan allows you to purchase a primary residence with up to two units, making the owner-occupied investment property strategy a possibility. FHA loans have low down payment and credit requirements.
VA Loans: U.S. Department of Veterans Affairs (VA) loans permit veterans and members of the military to secure a loan with no down payment on properties with up to four units, offering a great opportunity to generate additional income.
Legal and Tax Considerations
Legal and tax considerations for owner-occupied properties vary by state and jurisdiction. However, some general considerations may include:
Zoning laws and regulations
Lease agreements
Discrimination laws
Tenant rights
Safety regulations
Insurance rental income reporting
Capital gains tax
Tax credits and deductions
Depreciation
As you can tell, there’s a wide range of factors to consider when investing in an owner-occupied rental property. Consulting a tax professional and attorney can help ensure you remain compliant with all state, local, and federal laws.
Maintaining and Managing Owner-Occupied Rental Properties
One benefit of managing an owner-occupied rental property is the ability to live on-site and ensure property maintenance is up to your standards. One of the features of a profitable rental property is property condition, which can be maintained through regular inspections, timely repairs, landscaping, and documentation for tax purposes and tenant relations. When it comes to management, having a clear lease agreement, properly screening tenants, and establishing a reliable rent collection system can help ensure a smooth and profitable relationship.
The Bottom Line
Owner-occupied rental properties can be a great way to diversify your portfolio and earn income through an additional income stream. If you’re interested in exploring potential properties suitable for an owner-occupied structure, browse ServiceLink Auction’s properties, where you can find bank-owned, short sale, and foreclosure properties for sale.
FAQs
Does a duplex count as an owner-occupied rental property?
Yes, a duplex can count as an owner-occupied rental property as long as the landlord uses one of the units as a primary residence.
Is a second home considered owner-occupied?
Whether a second home can be designated as an owner-occupied rental property often depends on the terms established by the mortgage lender. However, many lenders have relaxed their regulations, allowing individuals to designate a second home as an owner-occupied property as long as they reside in the property for a specific number of days out of the year. Consult a professional to understand how your state would consider a second home as owner-occupied.
Is a home with an ADU owner-occupied?
A home with an accessory dwelling unit (ADU) can be considered an owner-occupied property as long as the owner resides in either the ADU or primary residence. An ADU is a housing unit with independent living facilities on the same property as the primary residence.