Buying An Investment Property: Is it the right move?
For buying an investment property consider the rental property and real estate investment loans that are available. As a landlord, especially a new landlord, learn all you can about it. Be aware that investment property mortgage rates will be higher than owner-occupied property. What is an investment property loan?
Defining an Investment Property Loan
An investment property loan refers to the mortgage used to purchase real estate for profit.
Eligible properties for conforming loans range from single-family homes up to 4-unit properties. For properties with 5 units and more, non-conforming loans are available.
Owners can benefit from two types of returns on their investment. This includes rental income, appreciation in value, or both. Most investment property loans require a 20% or more down payment to receive the best terms. Real estate investment loans with less than a 20% down payment will require mortgage insurance.
Investment property loans require a different mindset to think about the property. Since you are not purchasing the property as your home (unless you plan to live in one unit), your total consideration about your proposed purchase requires a rational thought process.
What is an investment property?
This means there is no room for any emotional element as you consider this purchase. This investment property needs to generate a return through a positive cash flow and/or an increased market value. The property may be acquired and owned by:
- an individual investor
- a group of investors
- a corporation
The investment property loan for one to four units can amortize over as much as 30 years. House renovation, remodeling, and flipping can also be included depending on the loan type.
As you consider an investment in real estate, carefully assess what type of loan, or if any loan, will be beneficial. Financing can make it more possible to invest in real estate. However, that leverage also makes investment properties more risky and less profitable.
What are the different types of investment properties?
Investment properties include Residential, Commercial, and Mixed-Use.
Of course, residential properties are housing for individuals and families. Managed properly, residential investment property can be a stream of income from monthly rents.
Conforming rental property loans for residential properties are available up to 4 units. For five or more units, commercial financing options can be used. These property types include:
- Single-family Homes
- Apartment Buildings
- Multi-family Units (Duplex/Triplex/Fourplex)
- Second Home/Vacation Home
A commercial investment property is income-generating real estate such as warehouses, retail, office gas stations, professional, industrial, metal buildings, hotels, AirBnB, places of worship, strip malls, restaurants, farms, etc.
Mixed-use investment property is a real estate used for both residential and commercial, normally in buildings with more than 1 floor.
The main floor is for commercial purposes like a restaurant, retail or office space. The upper floors are for residential lodging. This is an example of a rental property that would require a commercial loan for financing rather than a conforming loan.
About an Investment Property Loan
Buying an investment property is a serious decision. Getting loans for real estate as an investment can be a good strategy, but it increases your risk and reduces your profit. The advantage is allowing you to purchase when you otherwise could not. Careful and thoughtful analysis of the risks and potential for a positive return will be essential before committing.
High Loan Limit
Compared to conforming financing, an investment property loan for a commercial property will likely be for a higher purchase price and loan amount.
Flexibility in Size, Type & Number of Properties to Finance
Commercial financing is necessary for most investment properties. This commercial loan financing can accommodate the many various types of investment property. See the “Commercial” section above for the property uses.
Unlike conforming financing, multiple properties can be financed with one commercial loan. Equity from one property can be used to qualify for another property.
Reasonable Interest Rate
The investment property mortgage offers reasonable interest rates, similar to conforming financing, if you have a good credit record. Your Real Mortgage Consultant at Winner’s Mortgage can help you by suggesting the best use of this financing.
Clear Standards in the Mortgage Application
An investment property loan underwriting focuses more on the property and its cash flow. This depends on the loan program and the lender’s guidelines.
Besides rates, the investment property mortgage can increase your buying power. This gives the potential to profit from the investment.
With this potential, though, comes a downside risk. Cash flow is critical, made more challenging by the monthly interest payments. Consider how the interest payments and the potential for vacancies and lost rent will impact the cash flow and profitability.
When buying an investment property, net worth can increase when the financing is structured properly. As the property increases in value and the loan is paid down as planned, net worth increases. Pay the loan down faster and net worth increases even faster.
The investment property loan is tax-deductible, considered an expense of owning the property for business purposes. Depreciation as non-cash expense will assist in reducing the taxable income for the property. Additional expenses include management, property maintenance, possibly utilities, repairs, etc.
Types of Investment Property Loans
Several types of investment property loans are available for buying an investment property. Winner’s Mortgage has the formula for success and can help you out with this decision.
Understand the types of real estate investment loans.
Conventional Conforming Mortgage Loans
Conventional conforming mortgage loans are a common option for investment mortgages used in buying an investment property. Conforming financing follows the standards set by Freddie Mac or Fannie Mae. These loans can be used for residential properties up to 4 units in a structure (single-family, duplex, triplex, fourplex).
Requirements depend on different factors, including the lender, loan program, and state. A 20% or more down payment is common.
Choosing conventional loans to fund your real estate investment requires more strict qualifying standards, for example, a minimum 620 credit score. Better investment property mortgage rates requires a minimum 740 score.
Real estate investment loans often require a minimum of six months cash reserves. Requirements depend on the loan program, check with Winner’s Mortgage for available options.
Private Lending for Investment Properties
When buying an investment property, also consider private lenders. Private lenders have more flexibility to offer financing without conforming to traditional mortgage guidelines.
Real estate investment can be costly with high rates for loans. Conventional banks, mortgage brokers, and lending institutions may require higher rates. With private lending, more negotiation on the details and terms of the mortgage can be possible.
Consider private lenders’ loans for purchasing rental investment property, especially when not approved by other loan providers.
Home Equity Loans
A home equity loan could be used to borrow the equity in your personal residence toward the purchase of investment rental property. These loans are an excellent option for a rental property with long-term income. Before deciding on this investment property loan, consider your balance from your home mortgage and if the investment will be worth it.
Buying an investment property with a home equity loan can be a viable option when you have significant equity in your home but need more cash for the purchase. Be aware that this puts your primary residence at risk of foreclosure should there be a problem keeping the payments current.
This home equity loan could be either a fixed rate and term second mortgage or a home equity line of credit. The fixed rate loan balance has a fixed interest rate and a defined number of payments over a specific term. The line of credit functions more like a credit card with a variable balance and adjustable interest rate.
It is a second mortgage, second in priority to the the security of the first mortgage. The second mortgage rate used for buying the investment property will likely be higher than existing first mortgage loans in the market.
Commercial Investment Property Loans
Commercial investment property loans are used for rental properties such apartment buildings, shopping centers, retail malls, office buildings and hotels.
Business entities such as corporations, limited partnerships, trusts, etc., typically borrow money for commercial investment purposes. The loan term tends to be shorter, as little as 5 years up to 20 years with a longer amortization period. This results in a balloon payment at the conclusion of the loan term.
The required down payment is around 20 to 35 percent. The interest rate for this investment property mortgage will be significantly higher than owner-occupied residential rates.
Hard Money Lending
Hard money lending can be an option for investment property. It offers more flexibility in terms. The property is the primary qualifying factor to determine the loan approval, amount and terms. Additional factors that may be used can include credit score, payment history, tax returns, employment status and experience in real estate.
Rates will be higher than market rates with this mortgage to buy investment property. The term will be shorter, as little as one year up to maybe 5 years. Funding can happen quickly with fewer requirements.
Hard money can be a more convenient and accessible means to finance renovations of investment property. Hard money is not subject to traditional underwriting guidelines of conventional and conforming financing. Terms are negotiable.
Higher risk comes with the higher interest rates plus a shorter term increasing the likelihood of foreclosure.
Fix and Flip Investment Properties Funding Loans
This particular hard money investment property loan is for house flips, borrowers who want to profit by buying a property and rehabbing it. After a short renovation period, the plan is to sell the property for a higher price.
Through this mortgage, properties that do not qualify for other types of financing can be financed. This includes necessary renovations that banks would decline, including the following:
- Foundation issues
- Storm-damaged homes
- Roof problems
With the more flexible guidelines and negotiable terms come higher investment property mortgage rates and costs. Funding might also be limited experienced investors only, or with even higher costs for first-time investors.
While rental property loans can have a good potential for income, they do come with higher risk. And while flipping a property is more risky, it does avoid the necessity of dealing with tenants. Experience with excellence of flipping houses will be a great advantage.
Mini-perm loans are intended as an interim financing for commercial rental property before the long-term financing is in place. This financing can apply to commercial and mixed use properties that have not proven the ability to produce a stream of income.
As an interim type of financing, mini-perm loans cover a possible 3 to 5 year term, or even less. Due to the unproven nature of the income stream and other risks, costs will be higher than longer-term financing. Additionally, the risk of higher than expected renovation costs can reduce the viability of this loan.
Bridge and Blanket Mortgage Loans
Buying an investment property with Bridge and Blanket Mortgage Loans is also possible.
A bridge loan is another form of short term to purchase a property until longer term financing is available.
A blanket loan allows the purchase of multiple properties with one loan until longer term financing is available.
Eligibility and Qualifications for Consideration
Real estate investment loans have many types. Therefore, eligibility requirements can vary depending on the loan type and the lenders.
In general, though, here are the requirements to consider.
Credit History and Standing
Buying an investment property using a mortgage may require an excellent credit score, depending on the loan type. (Some loans are more dependent on the property and less on the borrower, while others require the borrower to qualify well.) This means having at least a 620 credit score. If you have at least 720, you get better investment property mortgage rates. if your credit score does not meet the minimum requirement, here are actions you can take.
- Keep your credit utilization at most 30 percent
- Make sure to continue timely payments
- Build better credit habits and work on repairing existing credit problems in the next coming months
Alternatively, if it is essential to go ahead, or essential to borrow money for the project, consider financing that primarily qualifies based on the property.
In buying an investment property with a loan, the lender requires a reasonable proof that the loan can be paid back, or that they will have sufficient security in the property if needed. For some financing types, this is accomplished by providing your employment history and proof of income. To be qualified, your income must be reliable with a two year history.
Whether you will use these loans for a rental property or to flip a property, depending on the loan type, your proof of your income may be required.
This is more difficult for variable income based on commissions, tips and self-employment, also part-time income. Variable income requires proof of sufficient income with two years of tax returns.
Cash reserves are a requirement for some lenders. Investment property mortgages can have high rates. This means payment may be difficult for some borrowers. Cash reserves provide an extra cushion to assist with payments.
Lenders on many programs require at least six months’ cash reserves. Other factors can include the number of properties and the unpaid balance.
Debt to Income Ratio (DTI)
Debt-to-Income or DTI ratio is a standard qualification for conforming real estate investment loans. This is the percentage of your loan payments compared to your income. A lower debt-to-income ratio is better.
While some lenders will allow up to 50 percent DTI, other lenders will accept a lower maximum, for example, 36 percent. The DTI ratio provides additional proof that the borrower is likely to repay the loan on schedule.
Buying an investment property will require a down payment. Depending on the loan program, it can be as little as 10 percent, or as much as 35 percent, maybe more. A larger down payment for your investment property mortgage can result in lower rates.
Most lenders that accept a 10 percent down payment will require mortgage insurance. Paying 20 percent down can avoid mortgage insurance and lead to lower rates.
When buying an investment property with a mortgage, eligibility differs from one lender and loan type to another. These are the considerations for you to know.
Simple Tips for Using Investment Property Loans
Buying an investment property through a mortgage will require you to pay higher interest rates than owner-occupied property. By approaching the process wisely, especially with assistance from your Real Mortgage Consultant, you can develop the best approach while taking the rates into consideration.
To help, here is some additional guidance.
Turn to a Real Mortgage Consultant
From rental property loans to USDA mortgages, there are many options to choose from. With so many investment financing options available, consult the your Real Mortgage Consultant with Winner’s Mortgage for more information on the best choices in your situation. Start here with the no obligation “Get Started” Client Questionnaire loan application.
Pay a Considerable Down Payment
When buying an investment property, a larger down payment opens more choices for you. Rates for an investment property mortgage tend to be lower with a bigger down payment. A best practice is to save money for a considerable down payment.
A minimum down payment for an investment property is as low as 10 percent. More is better. Paying 20 percent down will remove the need for mortgage insurance on conforming financing. And paying even more can result in a lower rate.
Make the Most out of the Mortgage
Buying an investment property can help you earn an investment income with the right circumstances, if this type of investment is right for you and your situation. Winner’s Mortgage can help you decide on the right options for you. We’re there when you need us.
Be prepared before proceeding. That begins with setting yourself up in a strong position. Build an excellent credit history with cash on hand to easily pass underwriting standards for the type of financing you choose. This will give you a more smooth transaction process.
Real estate can be a good investment with the right long-term commitment from you. You could choose to flip a property or purchase and operate rental property. Adding the burden of real estate investment loans will allow you to proceed, but it also increases your risk and reduces your potential return on the investment. Choose all aspects of your investments wisely and determine wisely what you can do. Your due diligence on all aspects of the property, financing, and all other relevant factors will be critical.