A Loan for Investment Property: What Is It? A loan will be necessary to finance the purchase of a residential or commercial investment property by partnerships, individuals, or companies. Loans for investment properties offer the funding required for homes intended for rental use or homes that will be improved and sold again, also known as “fix-and-flip” homes. These investments are typically funded by short-term loans, sometimes referred to as bridge loans, fix and flip loans, or hard-money loans.
Although the owner of a multi-unit property may be able to reside in one of the units and still be eligible for loan financing, these properties cannot be owner-occupied.
How Do Investment Property Loans Work?
The investment property loan’s collateral is either residential or commercial real estate. The acquisition of the property and any necessary renovations or modifications are financed by the lender. The loan-to-value requirements of the lender determine how much financing is available.
Up to 85% of the property’s assessed after-repair value (ARV) may be lent by hard money lenders. If a bank is the lender, on the other hand, the amount the bank will lend will depend on the property’s existing market worth rather than any upgrades. After a property is chosen, the lender will examine the asking price, the amount the borrower intends to spend on improvements, and the property’s expected value following repairs or improvements.
Within its loan-to-value parameters, the lender will make a loan offer with a certain interest rate and payback duration. The loan may occasionally be split into tranches, or discrete transactions, one for the purchase of the property and one or more for its rehabilitation and repairs. In the event that the borrower defaults on the loan, the lender will be able to confiscate the property because the borrower has consented to enable the lender to place a lien on it.
fix and flip investment
When a property is fixed up and sold, the borrower of a repair and flip investment loan can pay back the loan. A conventional mortgage loan will take the place of a bridge loan or hard money loan, which has a higher interest rate, so that investment properties can be fixed up and rented out.
What Are Common Types of Investment Properties?
- Single-family homes
- Multi-unit homes
- Duplexes or split residences
- Condominiums
- Commercial Building
Private domestic travel lodging, or homestays, is another growing category of investment property. These homes are bought with the intention of renting out all or a portion of them to tourists on a daily, weekly, or monthly basis. HomeAway.com and Airbnb.com, two well-known travel booking services, feature these privately owned, short-term rental units.
How Do I Qualify For An Investment Property Loan?
While a hard-money loan does not require exceptional credit to qualify for a low interest rate, a bank loan must. The borrower will be required to contribute 20 to 40 percent of the project or property costs in cash. Financial documents are needed, including pay stubs, bank, retirement, and investment statements, driver’s licenses, social security cards, and additional paperwork depending on marital status. Self-employed individuals might need to provide the last two years’ worth of business banking statements and tax return statements.
A business strategy for the project may also be required, along with a budget for the price of renovations, title statements, and property assessments. Hard money lenders need less documentation than banks do. Banks require a lot.
Where Do I Get an Investment Property Loan?
The preferred forms of financing for investment properties are bank loans and hard money lenders. Investors can obtain property loans from national banks, credit unions, and local banks. Hard money loans are available for those in need of them from hundreds of small and major private financial firms. Many of these lenders are easily located locally or online, but it’s still vital to check for compliance and complaints.
Occasionally, the current owner of the property could be able to finance the fix and flip project or investment. An established mortgage is another source for loans. With a home equity loan or line of credit (HELOC), you can borrow up to 80% of the equity value against your primary house if you currently own your home and have sufficient equity in it. For those who are not seasoned real estate investors, this method of obtaining finance may be riskier because your primary residence is being used as collateral.
Example of an Investment Property Loan Scenario:
A young professional couple named Brad and Jennifer would like to enhance their funds. They see a condo that has been foreclosed upon and think it would make a nice fix-and-flip project. The bank is willing to sell the property for $115,000, even though it was last bought for $195,000. Joe and Betty think that if they invest $35,000, they would have a property that, after repairs, will sell for $195,000.
A hard money lender accepts their ARV estimate and offers to lend them 70%, or $136,500. Jennifer and Brad use the loan proceeds to buy the house and cover half of the rehab costs; they consent to a lien being placed on the property and provide $19,500 toward the project’s completion; if the property is sold for $195,000 or more, they will receive a profit of $39,000, or a 200% return on their $19,500 investment.
Loans To Pay For An Investment Property
Hard Money Loan
A short-term loan secured by an asset, such real estate, is called a hard money loan. The majority of hard money lenders are either individual individuals or investment funds. The payback duration is normally two to five years, and the interest rate is higher than with conventional long-term bank loans.
Bank Loan
Long-term, well-maintained non-owner-occupied investment properties can be acquired with bank loans with periods ranging from 15 to 30 years. Compared to hard money private lenders, these loans have lower interest rates. For investment properties consisting of one single-family home, as well as condos, coops, mobile homes, and planned unit developments (PUDs), the government-sponsored lender Fannie Mae provides a Home Style Renovation Mortgage. Any repairs or renovations that are finished within a year of the loan being issued and are permanently attached to the property qualify.
Refinance/Cash Out
This happens when the borrower refinances one of their existing properties to pay for the acquisition of a new investment property. The recently granted loan is regarded as a “first lien.”This implies that access to the accrued equity cannot be granted until the original mortgage has been fully paid off. The amount of money the investor can utilize to fund home renovations or real estate investments is what separates the old loan from the newly refinanced one. There are no limitations on this money; it can be used for an owner-occupied home, an investment property, or a rental (up to four units).
Other Loans
A loan may occasionally be made available to the buyer by the seller of the property. Getting a loan from friends or relatives, borrowing from a 401(k) or retirement account, partnering with someone who has the money, taking out a personal or business loan, or taking out a home equity loan or line of credit (HELOC) are other unconventional ways to finance an investment loan.
Hard Money Loans vs Bank Loans
Securing bank loans is more dependent on having a high credit score. Property worth is given more weight by hard money lenders. Securing a hard money loan usually takes less than a week because the property worth is taken into account more so than the buyer’s credit or financial background. A bank loan, on the other hand, typically takes a few weeks to process because banks thoroughly check the borrower’s credit and financial situation.
The 80 percent loan-to-value ratio that banks use is based on the property’s value before upgrades. Hard money lenders, on the other hand, provide a lower loan-to-vale ratio; nevertheless, their estimate is dependent on the home’s expected value following renovations. A larger loan amount than what a bank will offer may come from this hard money loan amount.
Depending on the borrower’s credit score, bank loans have lower interest rates. Generally speaking, hard money mortgage interest rates are higher. Because of this, even if hard money loans have a longer term, most borrowers only use them for a little period of time.
Hard Money Loan vs Bridge Loan
A property that may be in transition and isn’t yet eligible for conventional financing is frequently financed with a bridge loan. Bridge loans are quick loans that are utilized while other long-term or conventional bank loans can be obtained. By supplying quick financial flow, a bridge loan enables the borrower to meet present obligations or renovate property.
Like hard money loans, these loans have higher interest rates and are typically secured by real estate or another type of collateral. These loans have a length of a few weeks to a year and can be granted privately or through a bank.