7 Popular Methods to Finance Rental Properties
Without question, real estate investing had become one of the most highly sought after investment vehicles available and for great reasons. In a time of volatility within the stock markets, everyone wants to invest in tangible assets. As real estate is a tangible asset and one that provides for housing it just makes practical sense.
Add to this the fact that more and more people are opting to rent and tenant occupied housing is become a fad amongst all age generations, the need for rental housing is as strong as ever.
So with all the demand to purchase real estate investments, the one very common question I get asked is “how do you finance these rental properties”. There of course are many options available, and the options tend to be a moving target as these options are crafted to fit into current economic conditions.
Let’s take a look at some of these more popular options and visit the when and where to capitalize on them.
1) Independent retirement Account (IRA)
This is often considered the elephant in the room because this is not actually a financing option, but instead is a cash vehicle many people already have at their disposal to invest and are not even aware of it. So let’s take a look at this one in a little more detail. Do you know that there is currently 8.1 trillion dollars in IRA accounts? It is suggested only about 3% of the population actually know you can invest in real estate with your IRA funds.
Many people have a retirement account through their work. These retirement accounts account for 25 trillion dollars in funds for retirement and much of it is controlled by your employer. As an employee you put in monthly contributions and often your employer will match your contributions to help escalate your account over time.
When you retire or leave the company, the company no longer has any desire to manage your funds so you then have to roll these funds over into an account that someone else manages. You get to choose where these funds get rolled into and want to follow the strict IRA requirement to insure you keep these funds qualified as retirement accounts.
These roll over funds can roll into other managed accounts where you pay on going brokerage fees where they invest your funds for you and essentially manage the funds for you. These funds are what make up the 8.1 Trillion dollars in IRA’S.
Here is where it gets interesting. Another option is to roll these funds into a Self Directed IRA. So instead of paying a investment broker to invest in the volatile stock market you can choose to invest in real estate.
Example: You buy a rental property for $100,000. You have a tenant paying you $1000 per month in rent. Lets assume you have $300 per month in expenses for things like property management fees, property tax and insurance. The property manager manages the property and sends the positive cash flow back to your self-directed IRA each month.
In this scenario your Self-directed IRA grows by $700 each month (your positive cash flow). When you have an expense arise in the property you simply forward the invoice to the IRA Company and they pay the bill out of your IRA. This whole process is very simple and very much a passive investment with very little work on your part.
These are investments that allow you to sip your favorite beverage on the beach while your investment is busy making money for you. The best part (unlike regular stock market investing), your IRA has an asset that is accruing in value each and every year as well. Now if you fast forward 10 to 15 years our, the asset will grow in value exponentially and when you sell the dollars goes back into your IRA as well. You can see how secure and growth oriented this investment can be. I mean who cares more about the growth of your retirement account? You or an investment broker.
Actual Rental Property Finance Options
When you are looking at how to finance investment properties, there are some considerations that you need to bear in mind. Will the lender finance the type of property you want to purchase, how will your credit-worthiness effect the loan and will you carry the note or have a third party handle it.
Here are six ways to finance rental properties:
2) Multiple Property Loans
If you already own properties or want to buy more, you know it becomes more and more difficult to get financing. Well, you will love this one. This is a newer product for residential rental properties such as single family and properties that are 1- 4 units in size. This is a unique loan designed for the investor who wishes to acquire multiple properties.
Many residential lenders will only finance you up to 4 properties. This is a commercial product where you can literally buy as many properties as you want. The minimum is to have 5 properties and these can be properties you already own and put them onto one loan or buy multiple properties and put on one loan.
These properties can be anywhere in the U.S. and the great thing is they can also be non-recourse loans. Coming in with very competitive rates, check out this landlord friendly loan. This loan, depending on how you structure it, may or may not be attached to your FICO credit score. It can be structured as a non-recourse loan where it is simply financing on the financial merits of the property instead of your creditworthiness.
3) Private Money or Angel Investor Loans
There are many private investors who have lots of money that they want to get a good return on. They understand that a tangible product is a good source to get a safe return. These private lenders are found all over the country. Simply Google private lender and your city and you will find local sources that will connect to them.
These investors are often called angel investors as they are easier to work with and cost less than a hard money lender. Remember a private money (angel) lender is more interested in you as a person and the qualifications you have as an investor. Your credit score is usually not important. They are financing you as a person and your property for its financial merit. This loan does not attach to your FICO credit score.
4) Hard Money Lenders
Used typically when rehabbing properties. These are short term loans where the acquisition costs of the property as well as the rehab work can all be rolled into one loan. The lenders are private investors who typically have invested in large amounts of property over the years and understand the dynamics of investing. These loans are usually more costly to acquire but as they are short term loans can be a very lucrative way to finance a flip. Again you can Google hard money lenders in your city and be connected to many sources. This loan does not attach to your FICO credit score.
5) Seller Financing
Perhaps an investor’s favorite way to finance is the quintessential sellers financing. Typically found in economic times of hardship. When homes fail to sell due to a lack of liquidity within a normal banking market eager sellers are willing to sell their properties to you and take installment payments of the purchase as opposed to having to wait for you to get conventional financing. Remember, of course, typically a seller has to own the property free and clear or at least have a large equity position in the property in order to be able to carry the financing for you. This loan does not attach to your FICO credit score.
6) Subject To
This one is more controversial, there are right ways and wrong ways to do these. Essentially you are buying a property that has a loan on it. You are making payments to the seller and the seller is making payments to the bank.
For example a seller may pay $500 per month for a mortgage payment. You buy from him or her and agree to pay them $600 per month. The seller profits $100 per month.
Each existing lender and or state has their own laws and rules around the subject to loans so I always advise this agreement to be written by your attorney. You want to have provisions in the loan to insure when you make payment to the seller that indeed he makes payment to the bank or you may risk losing the house to a foreclosure if seller fails to make payment. These loans are typically available to properties that are sold from one investor to another as it requires a certain amount of real estate knowledge.
7) Bank Financing
This is your typical Bank loan that most everyone is familiar with. It attaches to your FICO credit score.