Purchasing an investment property can be a smart long-term investment, provided the building is in good condition and located in a desirable area and you’re able to attract and retain tenants. Investing in a rental property is inherently risky, which means lenders need to be careful when offering mortgages to investors. Lenders typically have stricter requirements for real estate investors than for people borrowing money to purchase their own residence.
How to Qualify for an Investment Property Loan
Your credit history will be a critical factor. If you have a large amount of debt, work on paying it down to raise your credit score and lower your debt-to-income ratio. Also be sure to make monthly payments on time so you’ll be an attractive loan candidate.
You’ll need to provide proof of income for at least the past two years, and a lender will base its decision on your average income over that time period. A lender can only consider a portion of projected rental income when deciding whether to approve a mortgage. If you haven’t previously invested in a rental property, a lender might not consider future rent at all.
If tenants don’t pay their rent on time or apartments sit vacant, you may struggle to afford the mortgage. A lender will, therefore, most likely require you to have three to six months’ worth of reserves to cover all your mortgage payments, including interest and principal, as well as taxes and insurance for each property.
To obtain a rental property mortgage, you’ll probably have to put down at least 20 percent. When someone puts down less than 20 percent to purchase a residence, private mortgage insurance (PMI) is required to protect the lender if the borrower defaults. PMI does not apply to investment properties, however, so lenders require more money down to shield themselves from potential losses.
How to Choose a Lender and Get a Good Deal
Government-backed mortgages offered by the U.S. Department of Agriculture, Federal Housing Administration (FHA) and U.S. Department of Veterans Affairs (VA) are typically only available for primary residences, but an FHA or VA loan might be an option if you plan to live in one unit and rent out the rest. Otherwise, you’ll need to obtain a conventional or nonconforming jumbo loan.
The interest rate for a rental property is typically up to 1 percentage point higher than the rate for a residential mortgage because of the higher degree of risk for the lender. That means you could pay significantly more for interest on an investment loan than you’d pay if you took out a mortgage to buy a primary residence. It’s essential to get your credit in good shape and then shop around for a competitive interest rate.
Approach Real Estate Investing Carefully
Investing in a rental property can be both lucrative and risky. If you’re thinking about buying a property to rent out, make sure you understand all the mortgage requirements and carefully choose the right lender.