If you’re new to the world of real estate investing, you might be surprised to find that securing a mortgage for an investment property is sometimes more difficult than getting a loan for a regular home mortgage.
The reason for this is quite simple— anyone who borrows from a bank will always default on their real estate-related loans before they default on the loan that is tied to their primary property.
For this reason, investors looking to finance their first investment property must think differently about how to pay for their investment real estate than they would if they were financing their family home. Paying for real estate isn’t harder than paying a mortgage on a primary property necessarily, but more planning and knowledge is needed to responsibly finance real estate. This article offers a few tips and tricks on how to finance your investment properties.
What Loan-To-Value Ratios to Expect
According to real estate investment experts, investors should expect to pay approximately 20% of the home’s purchase price if they are buying a property. But, depending on how hot the real estate market is, some investors might have to put down up to 40% of the home purchase price upfront. The amount of money an investor has to put down upfront to secure a property loan relative to the total value of the property is known as the loan-to-value ratio.
In a best-case scenario, investors can find loan-to-value ratios worth 80% of the property value. Generally speaking, though, investors looking to finance real estate should budget for loan-to-value ratios between 20%-40%. Put simply, the more your property is worth, the more money you need to have set aside to secure a favorable property loan.
Financing Investment Properties with Credit
Because investors are more likely to default on secondary real estate properties, banks care about the value of a property than they do the borrower’s credit. However, an investor’s credit score still matters if they approach a bank looking for financing.
If your credit score is below 740, it will cost you more to borrow from a bank than it will if you have a superior credit score. This is why it is recommended that you focus on building and maintaining great credit.
Keep Lots of Cash on Hand
One of the best ways to finance a real estate investment is to keep plenty of cash on hand. Investors with ample cash can potentially negotiate lower loan-to-value ratios, giving them a better deal on their loan. Just as importantly, keeping a large sum of cash on hand during a purchase ensures that an investor can pay for things like closing fees and renovation costs with ease.