What to Know Before Financing Rental Property
By: Craig Garrow
It is often said that investing in residential real estate (be it single family, or multi-family) is the key to building generational wealth. Almost as important as the property itself, is the financing vehicle you choose when purchasing. There are many avenues in which to achieve your investment goals, and it all depends on which type investor you are.
The First-Time Investor: The first-time investor is likely the most risk averse of any of the five primary investor types. Here, conventional financing makes sense. Putting 20% down on a deal will normally get you a better interest rate on a 15-year or 30-year fixed mortgage. Additionally, putting more money down on a deal will increase your cash flow potential. (It is also worth noting that if you plan to occupy the property, you may qualify for an FHA loan, and be able to get in the game for just 3.5%-5% down!)
The Move-Up Investor: Already own a home? Maybe a small (2-4 unit) apartment building? No problem! You can still qualify for conventional financing with a sufficient down payment. But, what if you don’t have 20% down to do the deal? Here is where many owners will take out a home equity loan on their primary residence. (Your real estate is an asset, right?) It is not uncommon for a lender to loan up to 90% of the value of your primary residence in this scenario. This is a popular strategy to start ascending the ladder of Real Estate Investment success!
The Portfolio Investor: Also known as a buy and hold investor, this investor is interested in building long term wealth by creating a portfolio of cash flowing properties over time. (Typically purchase a property every 1-3 years) Once you have a few income properties under your belt, it can sometimes get trickier to find traditional financing, however, through time and a little networking, you may be able to find a sufficient portfolio lender. This is when a bank lends their own money, not necessarily adherent to Fannie Mae’s requirements. They normally charge slightly higher interest rates and mortgage origination fees. Another possible avenue is Seller Financing. Essentially, this means that the seller becomes the “bank” and you make your mortgage payments directly to the seller. The beauty of this type of financing is every aspect is negotiable, from down payment, to interest, to length of the loan. Seller financing won’t work with every seller, or every property, but can be a real home run when it does!
The Performance Investor: The Performance Investor is looking to close on multiple properties per year, possibly of various types. Several of the aforementioned strategies will work, depending on the situation or property. It is not uncommon to see this type of investor take on a partner, or partners to share the risks and profits with. Some investors also have money lying around in IRA accounts that you can roll over into Self Directed IRA accounts that allow you to invest in real estate. (Call and check with your IRA provider, and consult www.irs.gov for more information on this!)
The Rehab and Resell Investor: The R&R Investor, also sometimes known as a “fix and flip investor,” is also interested in closing on multiple properties per year, but these investors target distressed properties, or properties in need of repair. Here, it makes sense to pay cash wherever possible, use seller financing, or a private money lender. Using private money is usually considerably more expensive, however, if you’re in it for the short term, it becomes much more attractive, as you’re turning several properties per year.
In addition to the methods above, it is just smart business as an investor to develop relationships with local banks, mortgage brokers, real estate agents, and property managers. Often times, having these key people as part of your investment team will make or break deals for you. Mortgage brokers have the key relationships with the lenders, real estate agents have knowledge of market trends, and a great property manager will be worth their weight in gold once you start building your real estate empire. With the right relationships, and the knowledge of proper financing strategies, nothing can stop you from building generational wealth for you and your family!
