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Whenever I tell people how I paid off my house, I typically receive the same reaction of astonishment. Between my age and the home prices in my area, everyone always asks what my secret to paying off my mortgage in such a short period was. I tell them that one of the key factors was having housemates over the years who paid rent. Some of my housemates were close friends from college, others I didn’t know as well.
Over the eight years that I lived with housemates, they helped pay off over a third of my mortgage. Their rent even contributed towards utilities and HOA fees. It doesn’t hurt nearly as much to shell out $100 for internet and cable when it’s split four ways. However looking back, I wish I had been slightly better equipped to own and rent out a place.
So I decided to share the advice that I wish I had at 23 when I first purchased my home. Hopefully for those thinking about taking on housemates or renting out a property, you’ll find the advice useful. I did a few things right and a few things wrong. This post will focus in on the “wrongs”.
When I first bought my home, I thought the rest would be easy. Buying a house is the hardest, most complicated part, right? I just needed to find a couple of guys, fill up the place, collect the rent checks, file my taxes, and hopefully receive some nice tax breaks. WRONG. It’s not nearly as easy to find quality tenants as you might think.
Nowadays, I know most people use sites like Craigslist to find renters. Back when I was seeking out housemates, I tried to stick with people I knew (coworkers, friends, etc.) or friends of friends. It didn’t always work out well that way, but I figured my methodology was at least safe. If I was in a situation in which I was looking for housemates again, I may also post an ad on my church’s Classifieds board. The nice thing about that is at least I would hopefully attract a similarly-minded individual. I figure if we are worshipping at the same church, then hopefully we would have a similar belief system.
Make sure that you and your tenants are on the same page.
Though you’d think it would be a no-brainer, I never made my housemates sign a contract of any sort. Since most of my housemates were friends, I didn’t really see the need at the time. Big mistake. As a quiet introvert, at times I found it difficult to feel comfortable with a loud party animal of a housemate.
I am particularly referring to the 2am phone calls asking if I could pick up a trashed housemate from a bar. Somehow being a landlord/housemate automatically made me an Uber driver as well. At times, I felt more like a hotel concierge service than a landlord. Let’s just say some people took advantage of my kindness at times.
Be careful with renters who are close friends.
When it comes to housemates, selectivity is key. Friends may feel the liberty to push some of the boundaries and might become lax in treating the house well. There were times when I had to remind one housemate in particular that they needed to scrub their pots and pans before sticking them into the dishwasher. It’s a dishwasher, not a miracle worker.
As much fun as it is living with close friends, make sure that there is a clear delineation between friend and landlord.
Make sure all of your tenants sign contracts.
This is probably the most important piece of advice. If you weren’t selective and chose a poor housemate, a contract provides some security and would be helpful in ameliorating the situation.
Additionally, you’d think that if a tenant broke something, that they’d have the decency to take responsibility to have it fixed. Not always the case. For the sake of property maintenance, a contract is important.
I was also put into a bind a few times when a housemate decided it was time to move out and gave me short notice. It made for finding a replacement more difficult without the proper time to search and vet potential candidates. And when you are desperate, you can make some bad decisions with tenants.
Avoid bad tenants at all costs.
No housemate is better than a bad housemate. Try your best to keep the good ones and let go of the bad ones. Not having a contract prohibited me from kicking certain people out, which in turn made for a very awkward situation at times.
Avoid a messy house.
Everyone has different standards of cleanliness. That can make for a difficult situation if everyone has a different expectation. A simple solution is hiring a maid and building that expense into the rent. This will force everyone to tidy up somewhat regularly. Our maid came every two weeks, although I wish she had come every week. Even if the place only looked good for that afternoon, it was well worth the bathroom scrubbing, especially in a house full of guys. Plus when split among my housemates, the expense boiled down to $2 a day.
If you own a property, are living in it, and have housemates, hire a CPA. Back in the mid-2000s, TurboTax was not equipped to handle that situation. But if you choose to use TurboTax, here is what you will need to know.
You cannot claim the mortgage interest deduction on both the Itemized Deductions Form (Schedule A) and on the Supplemental Income and Loss Form (Schedule E). The IRS may or may not catch this. You will receive a massive refund if you do so. As wonderful as that is, it is wrong. So at some point, you would probably receive a letter from the IRS informing you of your mistake, and you then you’d need to hire a CPA to fix it.
You would end up owing back taxes and late penalties for filing incorrectly. It’s an expensive lesson and something that a CPA could have done correctly from the start.
Here’s what the CPA would do to fix the mistakes. If you live with three other housemates, you would be able to take 25% of the mortgage interest, since you are one of the four people living in the house, and apply this to your itemized deduction.
You could also base the deduction on the square footage that each person has access to. This is a bit more complicated. For me personally, it wasn’t too much of a difference. This is usually more useful for people that rent out small basement apartments or other similar situations. In my situation, my housemates and I shared all of the common areas of the home.
Claiming a Loss
Next, you would apply the remaining 75% to your Schedule E. The expenses from the home, including depreciation against the fair market rent, would most likely cause a loss for the year.
Note: Do not charge your friends or family less than fair market rent, otherwise you may end up paying the difference if you are ever audited by the IRS. Plus on top of that, there is a chance that you may lose the deductions that you were claiming on the rent.
So when I first saw that I had more expenses than income that first year renting out my house, I was ecstatic. I thought I could use some of these deductions to offset against the salary that I earned on my 1040 form.
Once again, this is WRONG. If you live in the house, you cannot take a rental expense deduction on the property. So that nice deduction that I thought would offset against my meager government salary quickly disappeared.
With all that said, if you do take on housemates, enjoy your time with them. It is a fun and unique opportunity that you might not have forever. But don’t get too content with their company– it is much better to wake up to your gorgeous wife 🙂