Four types of loans you can use for investment properties are conventional bank loans, hard money loans, private money loans, and home equity loans. Investment property financing can take several forms, and there are specific criteria that borrowers must be able to meet. An investment real estate loan is a mortgage for the purchase of an income-generating property. That includes buying properties to generate rental income or to renovate and sell for profit (more commonly known as a house change).
Using other people's money to get a loan on a rental property can be a good way to increase potential returns, as long as you balance risk with reward conservatively. As a general rule, loans for residential rental property come with slightly higher interest rates and require larger down payments. Rental property loans are still fully repaid for 30 years, so the payment amount is the same every month, making it easy to build an accurate pro forma for cash flow. However, the slightly more restrictive terms of a rental property loan may favor the real estate investor.
Interest payments can be deducted in full as a tax deduction by investors. A larger down payment creates a lower loan-to-value ratio (LTV), with a lower mortgage servicing amount and potentially higher cash flow. Conventional or compliant loans are mortgages that most people are familiar with. They are offered by traditional lenders, such as banks or credit unions, and also mortgage brokers who work with a variety of lenders and can help you find the best deal.
Interest rates are usually lower than other options, as long as you have a good credit score and down payments can be less than 25%. Compliant loans must meet Fannie Mae or Freddie Mac guidelines. While Fannie and Freddie allow up to 10 mortgages from the same borrower, banks usually set a lower limit of around four loans in total. Traditional mortgage lenders and brokers also offer Federal Housing Administration (FHA) loans.
Credit rating requirements and down payments are often lower than those of a conventional loan, and income from an existing rental property can be used to help qualify. FHA loans are a good option for multifamily property investors looking for a rental property loan for a new purchase, new construction, or renovation of an existing property. To help qualify for an FHA multifamily loan, the investor will need to use a unit as a primary residence for at least one year. Veterans Affairs (VA) multifamily loans are a third option for rental property loans offered by banks, credit unions and mortgage brokers.
The Department of Veterans Affairs is available to active duty service members, veterans and eligible spouses. There are several benefits to using a VA loan for rental property if you qualify. There is no minimum down payment or minimum credit rating, and you may be able to purchase up to seven units. However, one of the units must be your primary residence.
Portfolio loans are mortgages on individual, single-family or small multi-family properties from the same lender. Although each property has its own loan, mortgage brokers and private lenders who offer portfolio loans can offer the borrower a “group discount” for multiple loans. Loan terms, such as interest rate, down payment, credit score, and loan duration, can be customized to fit the borrower's specific needs. However, since it's easier to qualify for portfolio loans when an investor has multiple properties, there may also be higher fees and prepayment penalties.
A global loan is a good option for real estate investors who want to buy several rental properties and finance them all with a single loan or refinance a portfolio of existing rental housing. Mortgage brokers and private lenders are two sources for finding a general mortgage loan for any type of income-generating property. The interest rate, loan duration, down payment, and credit score vary from lender to lender, and loan terms can often be customized to meet the needs of the borrower and lender. Rental properties on a global loan are usually cross-collateralized, meaning that each individual property acts as collateral for the other properties.
However, you can request an exemption clause that allows you to sell one or more group properties under the global loan without having to refinance the remaining properties. Private loans are offered by experienced real estate investors and entrepreneurs who pool their capital and offer debt financing to rental property owners. Because these private investors know how the real estate business works, they often offer loan terms and fees customized to match the potential of the deal and the borrower's experience. Some private lenders may even take a small equity position in the project and accept potential future gains in exchange for lower rates or interest rates.
If the investment is carried out according to the plan, private lenders can also be an excellent source of funding for future rental property investments. Seller financing may be a good option for homeowners who want to spread capital gains tax payments over the life of the loan as an alternative to conducting a tax-deferred exchange 1031. However, because the seller offers the mortgage, borrowers should expect similar underwriting requirements, such as credit checks and minimum down payment. A home equity line of credit (HELOC) and a home equity loan are two options for taking money out of an existing property and using it as a down payment on another rental loan. This strategy is an example of the waterfall technique in which investors use the cash flow and capital accumulation of existing rental properties to finance future purchases.
A HELOC acts as a line of credit secured by the equity of an existing property that an investor can take advantage of at any time, and repay the loan with monthly payments similar to how a credit card works. On the other hand, a home equity loan is a second mortgage that provides funds to the borrower in a single lump sum. With both a HELOC and a home equity loan, lenders generally set a loan limit of between 75 and 80% of the equity of the property. Interest rates and fees may also be higher compared to a cash-out refinance with a conventional loan.
The capitalization rate (capitalization rate) compares the net operating income (NOI) of the property with the purchase price or value of the property and is a way of measuring potential return. The NOI includes operating expenses, but not servicing the debt of the payment of. Loan to Value (LTV) compares mortgage loan amount to property value. While using a smaller down payment may increase your cash-in-cash return, investors also risk not having enough cash flow to pay operating expenses and mortgage if the vacancy is higher than expected or repair costs increase.
Debt Service Coverage Ratio (DSCR) compares net operating income (NOI) available for mortgage repayment (P&I or principal and interest) with general mortgage debt. Lenders typically seek a DSCR of between 1.25 and 1.40 on a rental property loan. Stessa helps novice and sophisticated investors make informed decisions about their property portfolio. With your property management, Stessa can start building your portfolio and take you to the first step in maximizing the value of your real estate assets.
One option to take advantage of the equity in your home is a home equity loan. The advantage of these loans is that they are guaranteed by the net worth of your home. This allows interest rates to be relatively low, with repayment terms of up to 30 years. For those with good credit, interest rates can be even lower.
In real estate investing, taking out a conventional mortgage loan is the most common investment property financing option among real estate investors. You may already have experience with conventional mortgage loans if you own your own home. A conventional mortgage is simply a loan that private entities, such as banks or mortgage brokers, offer for real estate investment purposes. It follows the rules and regulations set by Fannie Mae or Freddie Mac and the federal government does not support this type of loan.
Compared to hard money loans, conventional mortgages are relatively cheap. However, they are more expensive than loans for owner-occupied properties. In general, you'll probably pay a half to one percent higher interest rate for a conventional real estate investment mortgage. If you like to invest in commercial real estate, the types of loans mentioned above for investment properties are not right for you, as they are loans for residential investment properties.
We've created a crash course on everything you need to know before you get a loan for your first investment property and start making money. Real estate investors often see positive cash flow with their investment properties in today's market, but smarter investors calculate their approximate return on investment (ROI) rates before buying a property. Like hard money loans, it's easier to get approved and get a fixed loan compared to conventional mortgage loans. Margin loans are a line of credit that can be used to finance a property and are backed by the borrower's investments.
If you don't have enough cash saved, applying for investment property loans is a great option. While this is one of the most common types of real estate investment property loans, it does come with a list of paperwork, documentation, and guarantees. In fact, borrowers with a lower credit score may end up paying mortgage points to get an investment real estate loan. In addition, hard money lenders don't look at the real estate investor's credit score, but rather assess the value of the income-bearing property they plan to buy to decide whether or not to lend them.
Interest rates are higher and down payments are higher because lenders consider investment property loans to be riskier compared to a mortgage for an owner-occupied home. Investment decisions should be based on an assessment of your own personal financial situation, needs, risk tolerance and investment objectives. . .