With the total value of the U.S. housing market increasing $1.9 trillion in 2018, it is no surprise that real estate investing is becoming more and more of an investment tool leveraged by many Americans looking to create wealth. More and more people are wanting to get into the market of real estate investing, yet most don’t know where to start.
Whether you are using your first home to gain equity in the market with the goal of reinvesting that equity into your first true investment property, or you have a diversified portfolio of real estate investments, there are a number of different ways to finance that investors of all kinds should know about and understand. While it is easy to decide to start investing in real estate, it can be difficult to navigate through the complexities of real estate investment financing. Understanding the options available – as well as the implications of each – is a crucial first step.
A traditional mortgage (also known as a conforming mortgage) typically originates with large national banks, online mortgage providers and lenders that only work with real estate investors. While they are a very common tool for financing, given they generally offer favorable interest rates and longer terms, they do have their limitations. The real estate crash of the 2000s changed the face of the traditional mortgage forever, making the process much more rigorous. Low down payments and limited documentation are now a thing of the past. You should expect to put down a 20% down payment, have a healthy credit rating (typically a 600+ credit score is considered favorable) and a low ratio of debt to income in order to secure this type of mortgage. Each stage of the procedure is analyzed, and the underwriting rules are far more stringent than 10 years ago. Some of the benefits associated with a traditional mortgage are lower monthly payments (given the large down payment) and favorable interest rate trends, along with longer terms – which allow you to develop equity and increase your cash flow.
Traditional loans are often the recommended option if you want to focus on “buy and hold” properties, where the investor plans on relying on a tenant to offset mortgage costs, and doesn’t plan on “flipping” the house (by definition, a “house flip” is sold within two years of purchase). However, if the property requires rehab (a “fixer upper”) this type of loan likely won’t work, and you may need to explore “fix and flip” financing options.
Even once you have decided that a traditional mortgage is the best option for your investment, there are a number of providers to consider. From online mortgage lenders, to business investment lenders to the online loan marketplace, there is due diligence that you must be done first to decide where you should get your investment property loan from.
If your real estate strategy is to buy, rehab and sell, then you are in the market for a different kind of financing tool. Fix-and-flip loans are short-term and are secured by the property itself, and can come from a number of different places. This is typically a short term, high interest loan, which can carry some risk compared to a more traditional loan. While these loans can be more straightforward, your credit worthiness will still be a factor, and you should only consider this type of financing if you believe you can turn a profit on an aggressive timeline.
There are additional ways to finance your fix and flip. Many investors will use the equity they have built on an existing property to finance the rehab of the fix and flip property, through a Home Equity Loan. Additionally, hard money loans can be secured – typically available to more seasoned investors.
Cash financing, while not a viable option for the masses, is a simple, straightforward approach to financing your investment property. There are many tangible benefits to cash financing – like shortened time to close and more negotiating power to secure the best price for the property.
While it may seem dauting, a little education goes a long way. Seek out expert opinions and do your homework to decide which is the best financing strategy to help you achieve your real estate investment goals.
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