The method in which you fund a specific deal can greatly impact its outcome. Any acquisition plans you make must be accompanied with the right investment property financing plan. Without the right real estate financing, your business won’t get off the ground or won’t grow to the level you desire. There are a few different ways to fund your purchases. Each of them has their own set of pros and cons, depending on the property and the situation. As is the case with most things in real estate, what works for someone else may not be best for you. Using the right type of financing can help you achieve maximum returns. Here are a few investment property financing ideas to use on your next deal:
Investment Property Financing 101
1. Lender financing
A common investment property financing starting point for many new investors is traditional lender financing. Even though guidelines and programs have changed over the years, it is still a viable option. The biggest hurdles with lender approval are down payment, credit scores and documentation of income. Long gone are the stated income programs that many self-employed borrowers leaned on. In today’s market, you need to verify all income, either through tax returns, or – in some cases – bank statements. The down payment requirements for 1-4 unit properties is anywhere from 15 to 25 percent. The final piece for approval calls for credit scores to be at a minimum of 680, with most lenders requiring at least a 700 score. While getting approved and the approval process may seem prohibitive, it does have some advantages.
For starters, interest rates are still far below historical averages. With a traditional 30-year fixed-rate loan, you can lock in your rate and have a very good idea of what your payments will be for the next 360 months. Lender financing closing costs may seem high, but they are much lower than a hard money loan. The bulk of the closing costs are actually property tax escrows. A bank loan is best used for long-term buy and hold properties. With your 20 percent down payment, you have built in equity and a good idea of what your cash flow will be every month. Interest rates will eventually go up, but until they do, lender financing is a great option for investment property financing.
2. Hard money financing
Another option for investment property financing is hard money. This is especially true if you have trouble documenting your income, as you may need to use a hard money loan. In many cases, this may not be the worst option. Hard money loans have changed quite a bit over the years. In the past there were only a handful of these lenders in any given area. They were viewed as a last option, primarily for desperate borrowers. In recent years, hard money lenders have increased in popularity and volume, as you can most likely find a handful of hard money lenders in your area.
A hard money lender is either an individual or group of individuals that lend money based on the terms they provide. Since it’s their money, they dictate the terms and guidelines they provide. They don’t necessarily need pay stubs and tax returns that a bank might. The loans typically need some sort of collateral, but the approval process is much quicker, and does not require nearly as much paperwork. Once you establish a relationship, you can have access to capital and close on your deals in a matter of days. Because of the speed and efficiency of hard money financing, these loans are perfect for rehab deals. These deals allow you to get in and out without penalty and turn your money over every few months. The fees and short-term interest rates are higher than a bank, but you can close many more deals over the course of a year.
3. Private money financing
A private money lender is any family, friend or co-worker that offers financial backing on a deal. Without realizing it, you probably know a handful of people who are currently looking to invest in real estate. It doesn’t hurt to send out an email stating that you are involved in real estate and are possibly looking for a investment property financing partner in the future. Odds are that you will get a decent response. From there, you just need to iron out the terms, conditions and work expectations. Success with the people close to you is always better than the alternative.
However things can happen on a deal that can cause there to be friction unless every possible scenario is hashed out before you start. Just like with hard money, private money is best used for short term rehabs and fix and flip deals. Most private money investors do not want their money tied up for anything more than six months to a year, tops. The return they can make on even a marginal rehab deal is still greater than the interest from a bank. You can make a profit without using any of your own funds, and begin to build your own capital for future deals.
The right real estate financing can make all the difference on your bottom line. Regardless of which area of the business you focus on, it is always wise to have multiple investment property financing options available. You never know when a deal presents itself that calls for private or hard money financing. There are times when lender financing terms are too attractive to pass up. The more different options you have, the better financing decisions you will make.