Owning investment property can generate a steady stream of income each month, but most people will need financing to make that a reality. Qualified borrowers can use mortgages specifically designed for investment properties, hard money loans, home equity, or seller financing to help them become a real estate investor.
Many people dream of ways to create various income streams for financial security.
One of the most common ways to achieve additional (and consistent) income each month is by owning rental property or a second home. However,investing in real estate isn’t as easy as you might think if you don’t have enough cash set aside to do so outright.
The majority of those who ultimately purchase investment properties are able to do so with the help of financing. Some financial institutions offer mortgages specifically designed for real estate investments, while others avoid them altogether.
This guide provides an overview of the types of investment property loans you may have access to, as well as the important details to consider when financing investment properties as part of your long-term financial plan.
On this page:
- How to Get Investment Property Loans
- Investment Property Lenders to Consider
- What to Keep in Mind When Comparing Options
- Alternatives to Traditional Mortgages
- Risks & Benefits of Investment Properties
How to Get a Loan for an Investment Property
Lenders who offer investment property loans typically have similar eligibility criteria when it comes to income, credit score, and loan-to-value ratio. You need to present as a strong borrower in order to meet loan requirements and lock in the lowest possible interest rates. This means coming to the table with:
- A good credit score, positive credit history, and track record of on-time payments for other home loans
- A suitable down payment depending on the lender (often 20% because mortgage insurance is not available for investment properties)
- All financial documentation required by the lender
You’ll submit an application just as you would with a conventional home loan, but each of these details will be looked at much more closely if you have an existing mortgage on your current home.
It is important to note that higher interest rates on investment property loans cut into your potential profits. If you haven’t saved enough for a down payment or your credit score isn’t where it should be, consider waiting to purchase an investment property.
Taking time to improve your credit report and save additional funds for a down payment will help you qualify for a lower interest rate and generate the most income possible.
Investment Property Loan Options
Not all lenders offer financing for investment properties, but here are a few you could consider:
Watermark Home Loans
Watermark Home Loans is a licensed mortgage lender that offers investment property loans. Borrowers may qualify for a mortgage with an interest rate as low as 5.125% for an investment property, based on credit history, income level, and property location.
Watermark offers both fixed- and adjustable-rate loans with no prepayment penalties and repayment terms extending up to 40 years.
In most cases, Watermark requires a minimum down payment of at least 3%. The higher the investment property loan amount, the higher the down payment requirement. The lender only provides loans in 39 states and the District of Columbia.
New American Funding
Another licensed mortgage lender offering investment property loans is New American Funding.
This lender offers a variety of mortgage options for buyers, including fixed- and adjustable-rate loans with repayment terms ranging from 15 to 30 years. Interest rates vary based on the type of loan, but currently start as low as 2.875%.
Borrowers can submit a quick application online to see if they are pre-approved, but the process for full approval can take several weeks to complete.
Although New American Funding is not available to lenders in New York and Hawaii, it does work with borrowers with nontraditional credit histories and can also help borrowers find state and local down payment assistance programs.
A more well-known lender offering investment property loans is Chase Bank. Chase works with borrowers either online or in-person at a branch location to help them determine the best type of home mortgage for their real estate needs.
Interest rates vary based on the type of loan, but currently start as low as 3.625%.
Borrowers must meet fairly stringent eligibility requirements, including a low debt-to-income ratio, clean credit history, high credit score, and positive cash flow.
What to Consider When Comparing Investment Property Funding Options
As with any other loan, you should also take the time to comparison shop with various lenders before making a final decision. Although a loan offer may look solid on the surface, you may have to dig deep into the fine print to ensure it is really the best fit for your next real estate purchase.
Be sure to look at the following for each investment property loan offer you receive:
- Interest rates
- Down payment requirements
- Loan amounts, including maximum borrowing ability
- Monthly mortgage payments
- Loan terms
- Special conditions, like prepayment penalties or balloon payments
- Closing costs
Once you have completed this comparison, it is also necessary to spend some time calculating your expected income from the property and if you can really afford it.
If the cost of carrying a mortgage and maintaining the property is higher than what you could receive in rent, you may consider waiting until you have more funds to use as a down payment, which would reduce some of your ongoing expenses.
What are Some Alternatives to Investment Property Loans?
If an investment property loan is not available to you, there are other types of loans you might consider. The most common include hard money loans, seller financing, and forming an investment group to pool funds.
Hard Money Loans
If you have some experience in purchasing rental real estate, you may be a good candidate for a hard money loan. With this type of financing, a bank may provide funding for an investment property even if you don’t have the best credit or if you have other mortgages.
Hard money loans offer fast approval and funding, sometimes in as little as three days. However, you have to bring to the table between 25% and 30% as a down payment, and the repayment terms are between one and five years. Interest rates on hard money loans are often higher than other investment property loans, too.
In some cases, the seller may be open to discussing private financing. Through seller financing, you are allowed to make payments after signing a promissory note which details the interest rate, repayment terms, and what happens if you default.
Investment property buyers may use this as a fast alternative to other loans if they have less-than-ideal credit or a lower down payment. However, interest rates are often higher than other loan options, and the repayment term is relatively short.
When loans aren’t an option or are too costly, it might be time to get creative. Purchasing an investment property as a group requires you to find other investors who are willing to pool their funds with yours.
You each own a portion of the investment property, and you are each responsible for your share of the costs and the profits. This can be time-consuming and risky, especially if you don’t vet the other investors carefully.
However, it is an alternative to more conventional investment property loans. There are also many real estate crowdfunding sites that can help you find like-minded investors.
Risks and Benefits of Investment Property Ownership
Investing in real estate outside of your primary residence can have many benefits, including:
- Ongoing rental income
- The potential for income to increase over time as improvements are made and home values rise, depending on the real estate market
- Diversification of your investment portfolio
However, there are also plenty of risks involved as well. The most pressing concerns with investment property include:
- Additional debt, which can eat away at your profit margin
- Potential vacancies that mean no rental income at all
- Ongoing property management expenses
It is important to weigh the pros against the cons before deciding to invest in real estate.
For many, real estate investing can be a very lucrative endeavor. The ability to generate passive income that can grow over time, combined with the potential for an increase in the market value of the real estate, may create long-term financial security.
However, getting an investment property loan for the initial purchase is not always an easy task. You will need to have savings ready for the down payment, and the mortgage rates charged on these financing options are often higher than other real estate loans.
Be sure to consider your income potential from investment properties as well as the costs of borrowing before pulling the trigger on an investment property loan.