A key source of my passive income used to come from renting out space in my home to lodgers. It’s not an experience that is for everyone and comes with its own unique set of risks, but I found it surprisingly straightforward to set up and not as personally uncomfortable as I’d anticipated. It was a quick win for income gains and a reliable source of additional stable income.
The purpose of this article is to share some of my insights on things you should consider when thinking about renting out a room(s) to lodgers for extra cash. But before that, we’ll also weigh up some of the advantages and disadvantages of renting out a room in your home.
Advantages of Renting Out a Room in Your Home
- Passive Income: Few sources of passive income are truly passive, but renting out a room in your home gets pretty damn close. Advertising, finding, contracting and maintaining a tenancy with the right tenant (emphasis on right tenant!) is a straightforward process that provides stable and predictable additional income.
- Tax Advantages: Many countries offer some tax exemptions on renting a room in your own home. For example, in the United Kingdom there is an annual rent-a-room tax allowance of £7,500 (at the time of writing) allowing tax free income up to this point. Such allowances are getting harder to come by without international geographic arbitrage, so these benefits are worth serious consideration.
- Meet New People: Renting out a room in your home is an opportunity to meet new people and learn about new things. Whether learning about another country from an international student or learning about another profession from someone that has moved nearer their place of work, meeting new people can educate and even open doors.
Disadvantages of Renting Out a Room in Your Home
- Inconvenience: Having a stranger walk around communal areas of your home isn’t for everyone. For those raising a growing family, this idea is probably even less appealing. What’s more, while reliability of income can be reasonably assured through proper reference checks, there are no guarantees on the behaviour and manners of tenants. To a point, this can be a bit of a lottery.
- Unreliable Tenants: Without proper checks (and even with them) income isn’t a cast-iron guarantee. Recent rent moratoriums and controls show us that government interventions can change the game. In addition, inadequate checks of a tenant’s financial status can leave live-in landlords with a serious legal headache.
- Insurance: Home insurance premiums will increase if you take on a lodger. This proportional increase will vary according to the risk in the area you live in. (Side note: I found the increase in insurance premium to be very small for one lodger).
What to Consider Before Renting Out a Room in Your Home
The advantages and disadvantages of renting out a room in your home will vary enormously according to your personal circumstances and your location. When weighing these pros and cons, it’s also worth thinking about the logistical steps involved in setting up a rental arrangement. In my view, the 8 below steps are the most important things to consider before taking the leap.
#1: Establish whether having lodgers in your home is for you
Rental income is a fantastic source of passive income. It monetizes your spare space and makes that mortgage begin to work to your advantage.
But despite the income benefits, having lodgers in your house isn’t for everyone. So before you do anything else, make sure you’re comfortable – or at least aware – of what this proposition entails.
Tip: If you’re unsure whether renting out a room in your home is for you, it’s an option to proceed on a rolling monthly basis. That way, if it isn’t working for you, you can retain the flexibility to end the arrangement without months of contractual commitment ahead of you.
#2: Figure out your ‘red lines’
If you’re like me, when thinking about renting a room you may have a particular profile of tenant in mind. It’s therefore important to consider what your ‘red lines’ might be for a potential tenant.
Ask yourself what types of tenant would cross this line. Will you allow pets? Would you be happy to live with a smoker? Will you accept couples? Would you sign up to a minimum one-year agreement?
Tip: Most advertising platforms now set out many of these questions when setting up your room advert. Provided your prospective tenant reads the advert properly, this can filter out your ‘red-line renters’ before they walk through your door to view the property.
#3: ‘Renter proof’ the property
Before you start advertising your space, you need to ‘renter proof’ it. That means ensuring everything that’s part of your offering is in good working order, but it also means taking a few precautions to de-risk the proposition of renting out space in your home.
My own experience of letting rooms in my property has been overwhelmingly positive. I have had very few tenants whom I considered to be unreliable and I’ve made some friends along the way. But there are always risks.
That’s why you should take some time to shore things up in the property. That might mean adding a lock to your own room and ensuring items with high financial and sentimental value to you are stowed away securely.
#4: Figure out what to charge and how to advertise
Check out your local rental market to get a good sense of where your proposition stands on price. It will become quickly apparent where your room to rent should sit within the market. If it benefits from its own bathroom, for example, that tends to give good leverage for a higher price, while if it’s a single bed ‘box room’ you’ll be competing at the lower price end of the market.
Having done your internet research on market value, you’ll probably have figured out the most popular websites for advertising rooms to rent. Personally I have always used SpareRoom.com. It’s a big national platform in the United Kingdom and delivers a good breadth of choice for prospective tenants. It also has a search function for landlords to identify people looking for rooms in the local area and go ahead and contact them.
Tip: Make sure you’ve got clear photos for the advertisement, emphasising the standout factors. If your property is close to local amenities, schools, shops and that brilliant local gym, mention it! And don’t forget to make clear the security deposit amount you will be requesting in your advertisement. This can be a game changer for tenants, so it’s best to be upfront so you’re not wasting anybody’s time.
#5: Verify identity, proof of income and get references
You will get an instinct for whether somebody viewing the property is the right fit for your room. Sometimes it’s important to use your gut in making this assessment. Respectfully ask questions and find out about their background – and be on the lookout for any gaps in their story.
Assuming you feel the tenant is the right fit for the room and you both want to proceed, it’s important to get identity verification, proof of income and references. A copy of a passport or driving licence can be taken as identity verification and contact details can be taken for previous landlords and their current employer for references. Be sure to speak to them over the telephone.
An additional option is to carry out a tenant credit check. I don’t personally do this (at my own risk) as I think my reference requests are sufficient proof of their reliability.
#6: Use a written tenancy agreement
This is fundamental. Draft a standard tenancy agreement document, to be signed by both parties before entering into the renting arrangement.
This should outline areas such as:
- the agreed monthly fee and when it falls due,
- the security deposit amount,
- the minimum length of contract and notice period required thereafter,
- if bills such as utilities are included and if not, how they will be divided,
- use of common areas
- room inventory
Important: Many countries have deposit protection laws where you must place a received security deposit with an independent provider to hold this amount as a ‘protected deposit’. Be sure to be aware of local laws on deposits where you are based.
#7: Be respectful and honour their right to peacefully occupy the premises
Always remember that your tenant is paying for the right to be in your home. It is your duty to respect that and give them the freedom to occupy the space they are renting peacefully.
Some tenants will have day-to-day habits that get on your nerves – in fact, that’s inevitable to a point. This can be difficult to sit by and put up with, especially when it’s your home. But unless these are set out in the tenancy agreement as ‘red lines’, you should treat the matter respectfully and remember that they are paying to be there.
#8: Keep track of rental income and deductible expenses
Any money you receive from renting rooms is taxable income, although some countries may offer tax-free allowances for rental income (as mentioned above).
You’ll need to consider what your taxable income is likely to be for each year and what the implications of this will be from a tax perspective in your country.
The good news is that taxable income is your total income on renting the rooms after deductible expenses. So make sure you keep a sound record of all rental income and any expenses directly associated with the room rental.
Key Concept: Deductible expenses for renting a room generally include any costs directly incurred in renting the room. Rules will vary by country but allowable expenses typically include repairs and maintenance (but not improvements), utilities, insurance and service costs.
I hope this short overview is of some use if you are considering renting out a room in your home.
Renting out space in your home can be an excellent and simple source of passive income, but make sure you’re aware of the risks and requirements on your part. If you decide to go ahead, make sure you are aware of how local legislation impacts this decision where you are.
Good luck and feel free to get in touch if you have any questions.