It may come as a surprise to many, but your own portfolio may hold the money to fund your next real estate deal. In many cases, you may have all the equity you need right in front of you. Whether you should tap into it or not, however, is another story. Cash out refinances were a popular method for pulling cash out of your portfolio last decade. There were numerous programs that catered towards investors and investment properties. Even though most of those programs are long gone, there are still cash out options available.
Before you get into any numbers or guidelines, you need to have a clear idea of what your goal is. Are you looking to pull cash out of your property, regardless of the rate, fee or term? Do you want to lower your rate and reduce your monthly payment? Would you be comfortable adding on years to your term for the ability to get cash now? These are all questions that you need to consider before you explore the process. While looking at your portfolio may be a good start, there are other options available. If pulling cash out now sets you back in the long-run, now is the time to reconsider. Having said that, there is a time and a place for cash out refinancing. If you have decided that it is something you want to explore, here are some guidelines for you to consider:
The basic starting point for any investment property loan is with the amount of available equity. As you probably know from your purchase, the down payment and your equity are integral to the transaction. You can have a strong credit score and a low debt-to-income ratio, but if the equity isn’t there you won’t get very far. Most conventional lenders will limit your loan to 75 percent of the appraised value on a single family property, and 70 percent on anything between two and four units in size. These numbers can be tricky for a couple of reasons.
For starters, the loan amount is based off of the appraised value. You may have done great work on the property that does not impact the value. An appraisal is really just an estimate of the value that is based on comparable sales in the area. The lower the appraised value, the lower your loan amount. Secondly, the loan amount includes any prepaid property taxes and all the closing costs. After these are added up, they will equal thousands of dollars. The bottom line is that the cash out figure you may have originally thought will probably not be the number you walk away with at the closing. This number is all based on the realistic amount of equity you have available.
Outside of equity, your credit score is just as important. Investment loan guidelines typically require credit scores over 700, and in some cases 720. Any scores below this threshold may make it difficult to get approved. Assuming you have strong credit and equity, you are still not out of the woods. Lenders still have strict rules in place regarding how long you need to own the property for. Conventional guidelines will allow you to pull cash out before you own the property for six months, but only at 70 percent of the appraised value, regardless of the number of units. Some lenders go so far as to only use the sales price for any refinance under six months. If you are considering putting your home on the market while trying to figure out if a refinance is a better option, don’t. Lenders will not allow you to refinance with an active listing, and may even make you wait thirty days before you can try again.
Different lenders may offer options that other lenders do not. It is important to contact as many local lenders as possible, just to see what is out there. It is also important to run the numbers before you get too far in the process. On the surface, a reduction in interest rate may lower your monthly payment. Anytime you increase your loan principal, your payment will most likely increase. Also, there are many hits and add-ons to the interest rates that primary residence loans do not have. Even if your credit is perfect, your rate will be higher than you anticipate. This increase in rate, coupled with the additional loan amount, may make taking cash out counterproductive.
Taking cash out of a property makes sense when you use that money to grow your business. By using the capital to purchase other properties, start a mass marketing campaign, or even pay down existing debt, you are using the money for good. If you are taking the cash out to have a nice vacation or furnish your home, you may be doing more harm than good. Cash out loans for investment properties will be time consuming, and at times very frustrating. In the end, however, they can be worth it if used properly.