Congratulations investor! Why are we congratulating you? Because if you are looking for information on investment rental property loans, it means you are “in the real estate investment game.”
It doesn’t matter whether it’s your first property purchase or your tenth, there is excitement when purchasing a new property.
A: You are on your way to gaining passive income and
B: You also have some great tax deductions and depreciation advantages coming your way!
However, did you realize that getting funding for a rental property loan is loan is not the same as getting a loan for your primary residence? There are more types of lenders available to you, and the loan rates, terms, and requirements are also different. One great piece of news is that you can often close a rental investment property loan much faster than you can your personal home loan.
The more you understand about the rental loan process, the smoother your experience will be in your journey to closing on your investment!
What Type of Property Are You Purchasing?
To find the right rental property lender for you, you’ll want to think through your investment strategy.
Some investment property lenders will only fund loans for long-term rental properties (properties with 6-month leases or longer). Others may lend on a short-term vacation home rental, but they will only qualify your loan based on the area’s long-term rental rates. Finally, some lenders may fund a loan based solely on the expected short-term vacation home rental income.
Are you purchasing single-family homes, condos or townhomes? If you are purchasing condos or townhomes, be aware that there may be some issues you are not aware of that could limit your funding. Are you looking to buy a condo that is situated above a commercial business? Traditional lenders may balk, whereas alternative or hard money lenders may approve it. The same may be true for townhomes with an HOA or a front desk in the complex’s entrance.
Are you purchasing more than one property or a portfolio of properties? Again, be aware that some lenders have limits on how many rental properties they will fund for one investor.
None of these things are deal-breakers, but it’s good to understand what limitations exist for your chosen property type when you are talking to lenders.
What Types of Lenders Do Investment Property Rental Loans?
You can go a few different ways in getting your investment loan.
- Traditional/Conventional Lender (Bank)
Traditional or conventional funding means financing your property through a bank, credit union, or through a mortgage broker. This type of financing will generally offer you the lowest loan rate—but you’ll need a good credit score, a 15% to 25% down payment, and the time to wait to close your loan (a month or two). However, these “conforming loans” are backed by Fannie Mae and Freddie Mac, with strict guidelines for the properties so, for example, this type of loan may not work for certain condos and townhomes, as those mentioned above.
- Alternative Lender (like iFC)
Another way to get an investment rental loan is to get something called a Debt Service Coverage Ratio Loan (DSCR), through an Alternative Lender (like i Fund Cities). There are some major advantages to using a lender like us for this type of loan, one of the primary ones being that, in qualifying the loan, we are more interested in the asset itself than in your income. In addition, we can close quickly and have the creativity and flexibility to fund properties that others cannot.
- Hard Money Lender
Typically, hard money lenders are used mostly for short-term bridge loans. This could apply to a rental property, but generally these shorter-term hard money loans are rolled over into longer-term rental loans through the other types of lenders.
- Private Money Lender
You might also find funding through a Private Money Lender, like a friend or family member, or a private lending group. These loans from private individuals or groups may rely more on the investment experience of the borrower and the potential cash flow of the borrower, rather than the borrower’s income.
- Federal Housing Authority (FHA) Multifamily Loans
These are government-backed loan that are available to investors who want to purchase multi-family properties, offered by traditional lenders.
- Home Equity Loan/Home Equity Line of Credit
This loan accesses the equity you have in your current primary home to buy the rental property.
- Portfolio Loans
Portfolio loans finance multiple properties through one lender. Borrowers may be able to get a discount for purchasing these properties as a group.
How Will My Property Be Valued?
You will need to get an appraisal on the property to find the value of it for the loan. Some lenders have in-house appraisers, others will use outside appraisers. (HOT TIP: Be sure to find a lender that uses local appraisers, rather than large national companies, which can bring in inaccurate valuations and slow your lending process considerably.)
What Type of Documentation Will I Need for the Loan?
Depending on your lender, you will need some, or all, of the following documents in this list. Keep in mind that some investment lenders require more documentation than others.
In the case of iFC, our underwriting process is less extensive than a traditional bank, and the exact documents we need will depend on the loan type you apply for. We generally ask for the following:
- Contact info for Buyer (and Guarantors), and your title and insurance companies
- Loan application + driver’s license
- Agreement of Sale or Deed
- Buyer’s real estate experience/history
- Project/entity information
- Construction budget
- 2 months’ bank statements
- ACH wire transfer info and W-9
- Property leases (when applicable)
(For answers to more FAQ’s on i Fund Cities’ Rental Loans, click here!)
What About Loan Rates and Terms?
Because rental properties rely on rental income to pay the mortgage, which may fluctuate depending on the economy, investment rental properties are considered a higher risk than a primary home. For that reason, loans for rental properties generally have slightly higher interest rates, approximately 1-3% more than those for primary homes.
What Down Payment Will l Need to Qualify for the Loan?
The minimum percentage of loan required to get an investment rental loan will vary, depending on the lender and the type of loan you are applying for. This number can fluctuate among lenders (it usually ranges between 15 to 25%). Some may require less of a down payment depending on your credit score, experience owning rental properties, etc.
In our case, we can fund up to 80% of the value (loan-to-value or LTV) of the property on up to 12 units for both long- and short-term rentals.
What about my Debt-to-Income Ratio?
A lender’s Debt to Income (DTI) requirements (the percentage of your income that is used for debt payments) will vary, based on the type of loan, the income expected from the property, etc. A lender wants to see a DTI around 36%. The good news is that, unlike a loan for a personal residence, lenders may consider both personal income and income from the property for the loan.
What about my Credit Score?
This will vary by lender, but generally lenders want to see a credit score of 640 to 660, and up.
What Type of Reserves and Cash Flow Do I Need?
A lender wants to make sure that you have enough money to complete the project and cover unexpected expenses, and periods of vacancy. A good rule of thumb is to have at least six months in liquid cash reserves. The lender will assess the property’s positive cash flow potential to help make this determination.
What is the Best Loan Type and Length for Your Investment Property Loan?
Lenders who fund long-term rental loans offer a range of amortization periods for loans and loan types, including variable and fixed rates, for periods ranging from 5 to 30 years. Each loan type and term has different advantages and disadvantages. The best option for you will depend on your investment goals, the economy and how you feel about taking risks.
For example, longer-term (i.e. 30-year) fixed rates are great for stability and predictability, allowing you to plan your rental property finances. And, the longer amortization period can reduce your monthly mortgage payment, increasing your monthly cash flow and giving you more cash for the next deal. Fixed rates also protect you against rising rates in the future.
ARM’s (Adjustable-Rate Mortgages), on the other hand, typically offer a lower interest rate for the initial period of 3, 5, 7 or 10 years, after which the rate adjusts based on market conditions. When interest rates are high, an investor may use an ARM thinking that the rates will go down in a few years and hoping they can refinance at a lower rate. For the investor who is planning to sell or refinance the property before the rate adjustment kicks in, the ARM could also make sense.
BTW, DO YOU NEED A RENTAL LOAN?
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Rental Loan: What Can Go Wrong?
Why are investors sometimes turned down for investment property loans? Here are a few common reasons:
- Not having enough money for a down payment.
- Not having a good credit score.
- Not having enough income to qualify for the loan (for some lenders)
- Not having a clear understanding of the loan terms.
- Not having enough rental income to cover the loan payments.
- Not having enough reserves to cover unexpected expenses.
At iFC, we know all the ropes of rental loans. We have the creativity, flexibility, and reliability to get you and your property to the closing table, whether it is to buy your first rental property, or your twentieth!
Our team can not only provide you with great rates and terms but, because we are experienced investors, we can offer our insight into your deal, and help you figure out the best loan product for your goals.