In preparation for choosing a lender for your investment property, you’ll need to familiarize yourself with loan qualifications and underwriting requirements and decide which factors to consider when choosing a lender. With some preparation, you can position yourself as an ideal candidate for lenders and be prepared to present the best offer when you find your investment property of choice.
What to know about financing an investment property
If you are financing a rental property investment for the first time, it’s critical to understand that it will be more challenging to qualify for an investment property loan. Lenders consider real estate investment loans to be higher risk than loans for primary residents.
If you want to make the qualifying process more manageable, familiarize yourself with the underwriting standards used for investment property financing. In general, you’ll need to show that you can afford your existing mortgage and the monthly loan payments on an investment property. Underwriters will also consider your down payment amount, credit scores, and debt-to-income ratio and evaluate your current savings.
Down payments for investment properties
Real estate investors should expect to make a larger down payment than they might have with their primary residence. When purchasing a primary home, you may have qualified for a loan with as low as zero to 3% down. In contrast, you should expect lenders to ask for a larger down payment, often between 20% and 35%. A larger down payment will also help you secure better terms for your loan.
Credit Score
As with a residential mortgage, lenders will use your credit score as a determining factor in the loan pre-approval and underwriting process. While everyone’s circ*mstances are different, lenders typically like to see a minimum credit score of 680. If you have a credit score at or above 740, you can expect better interest rates for your investment property loan.
Debt-to-income ratio (DTI)
The loan underwriter for your investment property lender will use DTI to evaluate your future ability to repay your loan. DTI is calculated by measuring the percent of your monthly income that goes toward paying off debt. If you currently have a mortgage, car payment, or student loan, those debt payments will limit the amount of money your lender will be willing to offer you for an investment property loan.
Ideally, you want a DTI that falls between 36% and 45% to qualify for a rental property mortgage. Remember that future rental income is not factored into the debt-to-income (DTI) calculations.
Savings
In addition to reviewing your down payment, credit score, and DTI, underwriters will look to see if you have enough money in savings to cover 3-6 months of mortgage payments. Mortgage payments include the loan principal, interest, taxes, and insurance. The more savings you have access to, the more likely a lender will approve your investment property loan.
Additional underwriting requirements for real estate investment financing
In some cases, loan underwriters will ask for additional documentation for investment property financing.
Additional underwriting requirements for investment properties can include:
- Banking statements
- Documentation that you are buying the property for business or investment purposes
- Operating agreement for your business entity, if applicable
- Purchase and sale contract
- Lease agreement (if the property already has a tenant in place)
We encourage you to discuss these requirements with your real estate agent and potential lenders. Understanding what you need for underwriting can help you be more prepared and quickly act on opportunities.
How to Compare Mortgage Lenders for an Investment Property
Once you have a clear idea of what factors will influence the pre-approval and underwriting process, you can begin to compare potential lenders. Finding the right lender will help eliminate headaches as you progress through the process and can ensure you make financially sound and advantageous decisions.
Types of investment property loans a lender underwrites
As you begin your research into potential lenders, you’ll need to ensure that any potential lenders will underwrite your chosen type of loan. Not every lender will underwrite every kind of loan. Carefully research each lender's loan options, terms, and rates before moving forward.
Down payment requirements
Down payment requirements will vary depending on the loan type but can also vary from lender to lender. Even with a seemingly similar loan, the down payment requirements can differ vastly. Carefully even with a similar loan review all the details to ensure that you compare loans accurately.
For example, one loan may offer a lower down payment, but the interest rate will be higher. Depending on the particulars of your financial situation, you can choose a set of terms that will help you best meet your financial goals.
Interest rates and APRs
Interest rates for your investment property loan will vary from lender to lender. Remember that it’s not enough to compare interest rates outright. You also need to carefully consider the terms of each loan to ensure that you are comparing loans apples to apples. With so much information, it can be overwhelming. Take your time to evaluate each lender, loan, and terms carefully.
Minimum and maximum funding limits
When choosing a lender for your investment property loan, you may also need to assess the lenders based on the minimum and maximum funding limits. These limits indicate the minimum or maximum amount of money the lender will offer to loan you if you qualify. Funding limits will be critical if you want to purchase a real estate investment in a higher-priced market.
Complexity of the lender’s underwriting process
Finally, you should evaluate the underwriting process of each lender for its difficulty and complexity. If you have a shorter timeline for your real estate investment purchase, it may be advantageous to work with a lender who can expedite the process. If you plan to purchase an investment property in a competitive market, it may be helpful to have a lender with a smooth, efficient underwriting process. Sometimes, the more quickly you can close, the more competitive your offer will be.
Discuss the underwriting process with your lender and your real estate agent for an ideal outcome. In some cases, there may be aspects of the underwriting process that you can begin before identifying a property.
After you’ve found a lender for your investment property, consider Belong
Your real estate agent and lender are critical professionals who will aid you in purchasing an investment property. Once you’ve purchased and financed your investment property, you can consider what other professionals will best support your new investment.
Belong offers you an opportunity to increase the return and limit hassles related to your new investment property. We help you price your rental home for maximum cash flow and can guarantee rental payments. When the time comes to find tenants, we attract, screen, and retain residents who will value your new property as much as you do. Finally, we assist with any maintenance or repairs that you might need.
If you have a new investment property or want to do the maths before you commit, check out our back-of-the-napkin calculator to do some quick sums on how Belong can support your real estate investment strategy.
FAQs
Investment property loans are more difficult to get than traditional mortgage loans. However, this is because investment property loans are considered more high-risk investments for lenders. If your investment property falls through, you may not pay back the loan.
Is it harder to get a mortgage for an investment property? ›
Investment property loans are more difficult to get than traditional mortgage loans. However, this is because investment property loans are considered more high-risk investments for lenders. If your investment property falls through, you may not pay back the loan.
Is it smart to take a loan to invest in real estate? ›
Taking out a loan to purchase an asset can make sense in some regards and is even often necessary in a few areas (such as when buying real estate or a business). For the majority of people, however, sticking to their income flow or savings to invest is often the better choice.
How to get a low mortgage rate on an investment property? ›
There are a few ways to ensure you get the best possible mortgage rate on an investment property loan:
- Improve your credit score (or maintain an already-strong score)
- Make a higher down payment.
- Get and compare quotes from several mortgage lenders, including community banks or credit unions.
- Work with a mortgage broker.
Generally, a good ROI for rental property is considered to be around 8 to 12% or higher. However, many investors aim for even higher returns. It's important to remember that ROI isn't the only factor to consider while evaluating the profitability of a rental property investment.
What is the 1 rule for investment property? ›
What Is The 1% Rule In Real Estate? The 1% rule of real estate investing measures the price of the investment property against the gross income it will generate. For a potential investment to pass the 1% rule, its monthly rent must be equal to or no less than 1% of the purchase price.
What credit score is needed for investment property? ›
Investment Property Loan Requirements
Most fixed-rate mortgages require at least a 15% down payment with a 680 qualifying credit score for a one-unit investment property. Your credit score should be at or above 620 if you're applying through Rocket Mortgage®.
How much debt should a real estate investor have? ›
The average ratio for debt-to-equity for real estate investors is around 2.0, which is what lenders prefer. This gives investors the highest chance of loan approval; however, some investors have much higher or much lower ratios based on their risk tolerance and preferences.
Can I borrow money from the bank to invest in real estate? ›
Conventional Mortgage Loan
The first type of loan that real estate investors have access to is the conventional mortgage loan. Similar to financing the purchase of a home, this investment loan is usually borrowed from a bank, which can be a large national bank or a small local bank.
Is it better to save money or invest in real estate? ›
Real estate investment has undoubtedly proven to be the safest type of investment. Real estate is the first choice of almost every investor who saves. Residences, hotels, commercial properties, lands. All these real estate types bring profit to the investor if they are chosen correctly.
What does it mean to buy rental property with no money down?
- Make your primary residence a rental and buy a new home.
- Leverage your home equity to buy a rental property.
- Be a resident and a landlord with a multi-unit property.
- Partner up with a co-borrower.
- Look for a lease purchase option.
- Assume a pre-existing mortgage.
Along those lines, organizations like Fannie Mae and the Mortgage Bankers Association forecast that the average rate on 30-year fixed-rate mortgages will decline throughout 2023, continuing into the first quarter of 2024.
Can you put 3% down on an investment property? ›
There's no universal minimum down payment required for buying an investment property. The size of your down payment can range from 0% – 25% of the purchase price and will depend on several factors, including: The lender's specific requirements, such as credit scores, debt-to-income (DTI) ratio and credit history.
How do you calculate if a property is a good rental investment? ›
All the one-percent rule says is that a property should rent for one-percent or more of its total upfront cost. For example: A property that costs $100,000 should rent for at least $1,000 per month. A property that costs $200,000 should rent for at least $2,000 per month.
How much should a rental property cash flow? ›
A good rule of thumb is the 1 percent rule. This is a formula that rental property investors use to size up a property's cash flow quickly. The rule stipulates that the property's total rental income should be 1 percent of the purchase price at a minimum.
What is the 50% rule in real estate? ›
Like many rules of real estate investing, the 50 percent rule isn't always accurate, but it can be a helpful way to estimate expenses for rental property. To use it, an investor takes the property's gross rent and multiplies it by 50 percent, providing the estimated monthly operating expenses. That sounds easy, right?
What is the 80% investment rule? ›
The 80/20 rule can be effectively used to guard against risk when individuals put 80% of their money into safer investments, like savings bonds and CDs, and the remaining 20% into riskier growth stocks.
What is the 4% rule in real estate investing? ›
For more than 25 years, the most common guideline has been a rule known as the '4% rule. ' This rule suggests that a withdrawal equal to 4% of the initial portfolio value, with annual increases for inflation, is sustainable over a 30-year retirement.
What is the 5% rule in real estate investing? ›
Applying the 5% rule would look like this: Multiply the value of the property you own/like to obtain by 5%. Divide by 12 (to get a monthly amount). If the resulting amount is costlier than you would pay to rent an equivalent property, renting your home and investing your money in rental properties may work better.
What is the 30 percent rule in real estate investing? ›
You may have heard it—the old rule that says, “Homeowners shouldn't spend more than 30% of their gross monthly income on housing.” The idea is to ensure they still have 70% of their income to spend on other expenses. The intent is good. But is it realistic today? That depends on your financial situation.
Real Estate Is a Hedge Against Inflation
“Real estate assets are typically the best inflation hedge available,” he said. “Real estate will grow in value with inflation, cash in the bank will not. …
What is one major disadvantage to investing in real estate? ›
Real estate investments tend to have high transactional costs, especially in legal and brokerage fees. The process of acquiring a new property is also very long and tedious with lots of legal formalities.
What are 4 benefits of real estate investing? ›
The benefits of investing in real estate include passive income, stable cash flow, tax advantages, diversification, and leverage. Real estate investment trusts (REITs) offer a way to invest in real estate without having to own, operate, or finance properties.
Is it a good idea to borrow money to invest? ›
Borrowing to buy investments can be an effective way to boost your potential returns. This is called using leverage. The more you invest, the more money you can make. But if things don't work out, you will have bigger losses.
Are real estate investments a good idea? ›
The benefits of investing in real estate are numerous. With well-chosen assets, investors can enjoy predictable cash flow, excellent returns, tax advantages, and diversification—and it's possible to leverage real estate to build wealth.
What is the success rate of real estate investors? ›
95% Failure Rate for Real Estate Rental Investors
One reason is that too many real estate rental investors treat it like a hobby or a part-time job. Instead, you must treat real estate investments as a “real business”. That's because it takes a lot of work for a successful investor. Especially for rental investments.
Is it illegal to borrow money to invest? ›
It's generally possible to take out a personal loan and invest the funds in the stock market, mutual funds or other assets, but some lenders may prohibit you from doing so. Among popular online lenders, SoFi, LightStream and Upgrade explicitly exclude investing as an acceptable way to use your personal loan funds.
