Well, you know, there are actually a bunch of reasons and ways to get into real estate investing. You see, it can be a pretty smart move when the stock market gets all crazy and unpredictable. Plus, there are all sorts of cool benefits that come along with owning an investment property. It's like having your cake and eating it too!

Buying an investment property can be a smart move to add variety to your investment portfolio. Whether you're planning to develop the land in the future, flip the property for a quick profit, provide a home for an elderly family member while benefiting from its appreciation, or generate passive income through renting, it's a fantastic way to diversify your investments.

So here's the thing, if you're thinking about investing in real estate, it's gonna cost you a pretty penny to get started. Unlike throwing some cash into the stock market, real estate investing has a higher upfront cost. But if you've done your homework, found a great opportunity, and decided that real estate is the way to go, now you need to figure out how to get the money to make it happen. How are you gonna secure that financing for your investment property? That's the next step.

⚡Important:

Four types of loans you can use for investment property are conventional bank loans, hard money loans, private money loans, and home equity loans.

When it comes to financing an investment property, there are different options available to you. But it's important to know that not all loans are created equal. Picking the wrong loan could really affect the success of your investment, so it's crucial to understand the requirements and workings of each loan type before you talk to a lender.

KEY TAKEAWAYS

• There are a few ways to finance investment properties, including using the equity in your personal home.

• If you don’t have the cash to fund a down payment yourself, it may be possible to use gifted funds, but the gifts of cash must be documented.

• Buying properties and renovating them to resell for a profit is called flipping in real estate jargon.

• Hard money loans act as short-term financing, and most often have a shorter payback period than a conventional mortgage.

• Banks do not offer hard money loans, only conventional mortgages.

Option 1: Conventional Bank Loans

If you already own a home that you live in, you're probably familiar with conventional financing. Basically, it's a mortgage that follows the rules set by Fannie Mae or Freddie Mac and doesn't have the backing of the government like FHA, VA, or USDA loans.

When it comes to conventional financing, most people expect to make a 20% down payment based on the home's purchase price. However, if you're buying an investment property, the lender might require a higher down payment of around 30%.

With a conventional loan, the approval and interest rate will depend on your credit score and history. Lenders will also consider your income and assets. Of course, you need to prove that you can afford both your current mortgage and the monthly payments for the investment property loan.

Remember that future rental income won't be included when calculating your debt-to-income ratio. Most lenders also expect you to have at least six months' worth of cash saved up to cover your mortgage payments. So, being financially prepared before jumping into an investment property is important.

Option 2: Hard Money Loans

A hard money loan is a short-term loan that's best for flipping a property rather than buying and holding it, renting it out, or developing on it.

If you're not planning to flip your property, it's more convenient and cost-effective to start with a conventional, private, or home equity loan instead of using a hard money loan and then paying it off right away.

The good thing about using a hard money loan for a house flip is that it might be easier to qualify for compared to a conventional loan. Your credit and income are still factors, but the focus is mostly on how profitable the property is.

To determine if you can repay the loan, the lender looks at the house’s estimated value after repairs. You might also get the funding in a few days instead of waiting weeks or months for a conventional mortgage closing.

But the downside of using a hard money loan for a fix-and-flip is that it can be expensive. The interest rates for this type of loan can be as high as 18%, depending on the lender. Plus, you might have a short time frame to pay it back, usually less than a year. The origination fees and closing costs may also be higher than conventional financing, which could affect your profits.

Option 3: Private Money Loans

Private money loans are basically when you borrow money from someone you know instead of going to a bank. Usually, these types of loans come from family and friends who believe in your investment goals. But if you don't have that kind of support, don't worry! You can attend real estate networking events to find individuals who are willing to lend you the money you need for buying an investment property. And guess what? BiggerPockets, a famous real estate podcast, has a list of local real estate investment clubs where you can meet potential private money lenders. It's a great opportunity to connect with like-minded people and get the financial help you need.

Private money loans can have different terms and interest rates depending on how close you are with the lender. The terms can be really good or not so great, depending on the situation. You'll usually have to sign a contract that allows the lender to take possession of the property if you can't make your payments. If you're new to real estate investing, make sure you think about how it might affect your relationship with a loved one if things go south and you can't pay them back.

Option 4: Tapping Home Equity

Sure thing! So here's the deal: if you're looking to invest in property, there's a cool way to do it by using the equity in your home. You can tap into that equity by getting a home equity loan, a home equity line of credit (HELOC), or doing a cash-out refinance. With these options, you can borrow up to 80% of your home's equity value and use that money to buy, fix up, and repair an investment property. It's a pretty sweet setup if you ask me!

So, here's the deal with using equity to finance a real estate investment. It's got its perks and downsides depending on the kind of loan you go for. Let's take a HELOC, for example. It works just like borrowing with a credit card where you tap into the equity you have in your property. The cool thing is that the monthly payments are usually only the interest. But, watch out for the catch - the rate is often variable. That means if the prime rate goes up, your rate can go up too.

So here's the deal: if you're thinking about doing a cash-out refinance, you'll get a fixed rate. But here's the thing, it might make your mortgage last longer. And that means you could end up paying more interest on your main home. But hold on, there's more to consider. You gotta think about the potential returns you could get from an investment property. It's all about weighing the pros and cons, my friend.

What is required to be approved for investment property financing?

Different lenders and financing options have different requirements. Private lenders might just want to have a good relationship with the borrower. If you're dealing with hard money lenders, they might only care if the real estate market is hot and if the estimated after-repair value (ARV) is good. But when it comes to home equity loans, home equity lines of credit (HELOCs), and conventional loans, they have the toughest rules when it comes to income and credit scores.

Is a home equity loan or a HELOC better for investment property financing?

They're kind of similar, but they have their own special qualities. If you're only looking to buy one property and you know exactly how much money you need for all the purchasing, fixing, and rehab work, then a home equity loan is a solid option. On the other hand, if you're planning to buy and sell many properties in a short time, a HELOC is way more convenient. With a HELOC, you'll have this revolving access to cash. So, you can draw money from your credit line when you need it for a purchase and pay it off when you sell. It's way easier than going through the whole process of taking out multiple home equity loans every time you buy and pay off a property.

The Bottom Line

Investing in a rental property or flipping a house can be a bit risky, but if things go well, you could end up getting a nice chunk of money. The problem is, how do you come up with the cash to get started? Well, there are actually different ways to borrow the money you need, but you gotta be careful and think about the costs in the short and long term. After all, these costs can seriously impact your investment and how much money you make in the end.