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What Newbies Need To Know About Investment Property Financing
Fundamentals of Investment Real Estate Financing
You have big dreams of owning real estate and retiring young. You don’t have the cash to buy the property (most of us don’t). This will lead you down the path to financing with a local bank. Perhaps you already own your own home and have secured and signed a mortgage. It should be easy, right? Wrong, an investment property loan is not like your traditional home loan.
Lenders are stricter with underwriting investment properties than private home mortgages. You may be wondering, but why? If you own an investment property or a personal home, then if you lose your job or your finances start to take a turn for the worse, you will pay off your personal mortgage before anything else. You won’t want to pay your mortgage because you live here!
The interest rate will be higher than your home loan, and that’s okay. Add 1-3 percentage points more than the owner’s interest rate. This means that if a lender charges 4.00% interest on a home owner loan, you will likely pay 5-7% on an investment loan. That’s how it works, folks. Because loans are riskier, banks want more loans.
As with any type of credit, your credit is important. It shows the bank your past credit history and basically tells you why you should and shouldn’t get a loan. Here’s what you need to do before you jump into the real estate game to ensure your credit is top notch.
Investment real estate doesn’t have the same impact on your credit score as it does with a home loan. If your credit isn’t perfect, you have options. If you score below 740, you have to pay more in interest, lender fees, and lower LTV payments. This doesn’t mean you shouldn’t invest with a credit score below 740, it just tells you what to expect.
20% learn it, love it, live it. This is the down payment you will be asking the bank for on your investment property. Of course, there are exceptions to the 20% down payment, but most banks require it.
20% is a lot of money, right? Yes, I know, but the good news is that you won’t have to pay for mortgage insurance! No one likes mortgage insurance. The bad news is that this is the only good news. And 20% down is best, if you have bad credit the bank will expect more or not look at your deal at all. Finally, you will need at least three months of payments as a liquid cash reserve. Cash reserves are important, yes, you may have saved that 20% in the end, but if you have no more than 20% of your working capital in the first month when the furnace is off, you will be asked again if the bank will give you a loan. .
To start, hack the house
The idea of house hacking is simply to reduce your expenses and use the spread (the money you save) to invest in rental properties. It’s great to live in a nice house with an indoor pool and a movie theater, but that house isn’t creating your monthly cash flow, it’s destroying your monthly cash flow.
The basic idea of this “house hacking” mentality is to rent out a part of your house to someone else, or share a house with another person. And that now means selling your primary residence, buying a multi-family property, and renting out the rest. Basically, when it’s all said and done, you’re renting out a place you’ve already lived in to lower your monthly expenses to save money for your dreams of real estate fame!
If you have yet to purchase your first home, or if you are looking to sell your home to acquire real estate, a multi-unit property may be right for you. By buying a multi-family home, you can live in one of them and pass all the expenses to the tenant, which is more attractive to most people than having someone live in their home.
For example, if you buy 4 units, live in one, and rent each of the other units for $600 per month, that means you are earning $1,800 per month in rent. If your loan, savings (taxes + insurance) and other expenses only add up to $1,600, you can earn $200 a month to live at home. Even better, when it’s time to move into your future home, you can rent out your 4th home for extra income. Sounds like a great idea, right?
Interest rates on investment properties are high
Lenders are more lenient with credit scores
20% down payment required (exceptions may apply)
Try hacking your house to get real estate
Small time investor
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