5 Things you need to know
When it comes to residential mortgage financing, I always ensure I have the answer to this very important question before going any further into the conversation. Is the property going to be your principle residence that you owner occupy or is it a rental property, also known as a revenue or investment property? In other words, if you or a member of your family is not going to live in the property as a principle residence as it will be occupied by a tenant who is going to pay rent, you require rental property financing. Given approval guidelines and requirements differ so greatly between the two property types, it is important to be informed on what to expect with the rental property financing process so you can be prepared with what is required to obtain a mortgage approval. This week, I will cover the 5 things you need to know when applying for mortgage financing on a rental property.
To purchase a rental property you must have access to at least 20% of the purchase price as your minimum downpayment amount. Majority of lenders require the downpayment funds for a rental property purchase come from your own resources, such as, savings, investments or a home equity line of credit. Though some alternative lenders who are a bit more costly will allow you to use borrowed or gifted funds for your downpayment or even seller financing and private 2nd mortgages are acceptable. If you’re refinancing a rental property, you are also restricted by that same 20% equity position in that you can only borrow up to 80% of the property value.
Owning a successful rental property portfolio depends on many factors including the type of property you own, location, tenant selection and most of all, determining acceptable and accurate mortgage and maintenance costs in order to cash flow the property. I can’t emphasize how important it is when buying rental properties to consult with professionals who have experience in dealing with small and large rental property portfolios. This may include though not limited to a realtor, mortgage professional, lawyer and accountant. It’s important to consult with your accountant at the beginning of the process to determine if it’s better to buy rentals under your personal name or under a corporation. If you are new to investing in rental properties, the experience of the team you work with can make the difference between a rental property that cash-flows and one that doesn’t. Don’t be afraid to ask some preliminary questions about rental property experience when you’re picking a professional to guide you through the process.
Picking the Right Lender is Critical
Right behind picking the “right” professionals to work with, come’s another decision! Selecting a mortgage lender whose guidelines fit your financing needs is vital to finding an ideal mortgage solution for financing your rental property. When it comes to a mortgage application for rental properties, the lender requires some additional details that would not be required for an owner-occupied property. For example, rental income can be used to help qualify for the mortgage financing on the property in that it helps to cover the carrying costs for that property. How that rental income is calculated varies between lenders so do ensure you’re working with one whose guidelines are compatible with your financial situation. The many lenders guidelines also vary on which properties they prefer to finance as rentals, for example, some lenders require a larger downpayment when you’re purchasing an apartment condo that will be used as a rental property, versus a single detached house. Important to work with an experienced mortgage professional to locate a lender that fits your individual financing needs.
Rate can no longer be a priority
Rental property financing is not as accessible as it used to be and in today’s mortgage market, it is not uncommon for some mortgage lenders to add a premium to the interest rate on their rental products. While some lenders are offering best rates on rentals, their approval requirements are very strict and therefore are not always the best place for you to go for rental property financing. To qualify for best rates your approval will likely be subject to the following conditions; downpayment from own resources only, qualifying income must be confirmable on paper, strong net worth in addition to equity in real estate, good credit score, and overall strong financial profile. Rates are still quite low so even with any rate premiums the resultant payments should still hopefully support your cash-flow analysis requirements for the subject property.
More Rentals = Less Lender Options
As I mentioned earlier, all lenders are not easy to finance rental properties with these days and as your rental portfolio grows, the pool of lenders that cater to larger-scale landlords gets smaller. The majority of lenders will consider borrowers who own less than 4 rental properties and one owner-occupied one though when you get to your 5th rental property, many lenders encourage you to consider commercial or blanket financing options.
I can’t stress how important it is to do your research before you enter the rental market. As property requires a large cash out-of-pocket component, you need to be prepared for potential losses that could be incurred relating to rental property ownership and management. If you’re looking for more information about rentals, talk to people you know, look for online resources or check out some local networking groups that include rental professionals and existing rental property owners. There are many ways you can access useful information about buying, owning and managing a rental property portfolio.