Don't have enough saved up to purchase a rental in cash? There are several strategies that an investor can use to finance a rental property if they are short on cash. In this article, we will discuss options investors have in order to get their foot in the door in real estate. Here are some options to consider:
Partner with another investor: You can find a partner who has the cash to invest and is willing to finance the property with you. This can be a good way to share the costs and risks of the investment. By partnering with an experienced investor you can gain more experience and have the opportunity to diversify your portfolio.
Take out a mortgage: You can apply for a mortgage to finance the rental property. This will require a down payment, but it may be possible to find a lender who will approve the loan based on the potential rental income from the property. Investors have a variety of options. Investors can choose to buy a primary residence, live in it for a couple of years, and house hack. Loan terms vary with the property type. You can choose between an FHA loan, where you can put as little as 3.5% down. First time homebuyers can put as little as 3% down on a conventional loan depending on the property type. On a conventional loan, borrowers will have to pay private mortgage insurance (PMI) until 22% of the loan is paid off. VA loans are another great option for those eligible, With VA loans you can put as little as 0% down and potentially avoid the PMI.
The downside of these options is the time it takes to get pre approved. One of the most common contingencies in a real estate transaction is the borrower's ability to obtain financing. During the preapproval process, lenders perform credit checks, employment verification, income verification, appraisals, inspections, and a debt to income ratio check. Lenders also have strict requirements for counting income sources from investments such as another investment property you may already own. Overall, There are a lot of great financing options. It is important to consult with a lender to discuss your situation and options.
Home Equity Line Of Credit (HELOC)/ Cash Out Refinance: If you already own a home, you may be able to take out a home equity loan to finance a rental property. This will use the equity in your current property as collateral for the loan. In a cash out refinance you take on a new mortgage that replaces the current mortgage. The new mortgage will be for a larger amount, You will receive cash for the amount of difference between the new and old mortgage.
Consider a 401(k) loan: If you have a 401(k) account, you may be able to borrow against it to finance the rental property. This can be a risky option, as it could affect your retirement savings if you cannot repay the loan and you will have to pay fees for early withdrawal.
In addition to the options listed above, Seller financing and hard money lending are two alternative forms of financing that investors can use to acquire real estate properties. Here are some potential benefits of each option:
Benefits of seller financing:
Easier qualification: Seller financing typically does not require a credit check, income verification, as well as debt to income ratio check. This makes the process easier for the borrower to get approved.
Expedited closing and Flexible terms: The terms of the loan, including interest rates, repayment periods, and down payments, can be negotiated between the buyer and seller. This can provide flexibility and customization that may not be available with traditional financing options. Since seller financing does not involve a bank or lender, the closing process can often be faster and more streamlined.
Investment opportunity for the seller: By offering financing to the buyer, the seller can potentially earn a higher return on their investment than they would by selling the property outright. With seller financing, Sellers have tax benefits where they defer capital gains taxes pay periodically in the future instead of paying a lump sum. Seller financing is also a source of passive income for sellers.
Benefits of hard money lending:
Faster approval: Hard money lenders can often approve and fund loans more quickly than traditional lenders. This is a good option for buyers and sellers due to expedited closing.
Less strict qualification requirements: Hard money lenders are typically more flexible with their qualification requirements, Borrowers with poor credit or less cash have the opportunity to secure financing with hard money lenders still. An investor can get their foot in the door of a property with a hard money lender.
Flexible loan terms: Hard money loans typically have shorter repayment periods than traditional loans, allowing borrowers to quickly buy, rehab, and flip properties for a profit. This is a popular financing option for investors looking for the BRRRR method.
Investment opportunity for the lender: Like seller financing, hard money lending can be a way for lenders to earn a higher return on their investment than they would through other investments, Lending money is a source of passive income for the lender.
It's important to carefully consider the costs and risks of each financing option before making a decision. Both seller financing and hard money lending can come with higher interest rates and fees compared to traditional financing options. It is still recommended to have an inspection made on an investment as well as a market analysis prior to an investment purchase. Investors should carefully consider the costs and risks of each option before choosing a financing strategy. Investors should do their due diligence prior to purchase and consider what option best meets their financial situation. Be sure to consult with a financial advisor, lender, or real estate professional to determine the best strategy for your specific situation.
At Intrigue Indy, we manage long term rentals in the Indianapolis market and believe real estate investing is a long term wealth building strategy. If you would like more information, schedule a call with us!