3 Easy Steps To Getting A Loan For an Investment Property
I will never forget the first time I tried to buy a multifamily property.
It was a triplex in an amazing area and I had it under contract for $85,250.
It was empty, but I knew I could get it rented for $600/unit with $15K in expenses, or $500/unit as is.
If you are crunching the numbers you can see this was a good deal.
Here are some other points to consider: My business partner and I both had six-figure salaries. We also had around $200K in cash between the both us to pay for it all in cash. We both have 800+ credit scores and no personal debt other than our mortgages.
Here’s that catch – this is 2009.
Banks weren’t lending for multifamily property. I called 10 banks and all of them turned me down on the spot, but I got referred to a small community bank. I got a 7% interest rate, 80% LTV on a 20-year amortization. All of this is pretty standard for an invest property with a community bank.
Now I’ve developed several relationships with several community bankers and structure the same type of deals.
Below is a Resource Guide for you to use for How To Get A Loan on An Investment Property
Taken an honest evaluation of your current financial resources. Fill out a Personal Financial Statement if you don’t already have a business financial statement.
If you don’t have all the money yourself, should you take on an equity business partner (the most expensive) or a debt partner (a bank) or a combination of both.
Decide what the economics are of the types of properties you will be involved with.
The number 1 mistake people make is approaching people prematurely, without a deal, and they speak to lenders and investors in generalities.
When I approach a bank I already have the following:
My current cash flow and debt service
My business cash flow and debt service
What I’m buying and the projected cash flow and debt service
And the totals with how my financial picture will look after the project is purchased.
Another mistake people make is telling people what they don’t want to hear. I’m a banker, and a lot of people talk about how much money they are going to make. I don’t care about that! I care about my loan being repaid. Instead, people should be telling me if the flip doesn’t work out they will still be able to rent it out to cover the loan and they still have a job to cover the loan.
Decide on what type of capital structure you are going to use. Simply, how are you going to get the deal funded?
Below is a list of the major sources of funding for investment property.
Community Banks – this is the option I use in-combination with my business partner, since I buy all my investment properties with him. I eat my own cooking as I use community banks for funding my real estate investments and I work for one. Be prepared: community banks are not going to be your cheapest option. Cheap as in referring to the interest rate. Additionally, the typical community bank uses antiquated technology when compared to a large national bank.
However, I use community banks for the following reasons:
1) Fast – community banks are always faster.
2) Competence – The community bankers I use are extremely competent and very helpful. They go well beyond just providing me money for deals.
3) Referrals – Community bankers will often refer you great deals and you will be the first on their list to call for their bank-owned property.
The general type of loan I get is based on a 20-year amortization schedule with a balloon or maturity every 3 or 5 years. You can negotiate a much lower rate if you offer a pre-payment penalty or a higher down-payment. Another way to get a lower rate is to offer a completely floating-rate loan.
Most people view this ask too risky. By all means its risky. However, I think a lot of people forget that you can always refinance into a longer-term if rates start moving too unfavorably. Note, a lot of my friends that own hotels use this strategy. It helps their cash-flow significantly when they are trying to grow a portfolio of hotels. Additionally, they also use the extra cash-flow to make extra principal reductions.
I typically buy a “C” class multifamily property in an “A” location. I then rehab it to a “B” or “A” class property. Community banks will give you a 3 or 6 month interest only period to help you with cash flow while you rehab the property. This helps tremendously! The first property I bought the banker offered this and I thought it was cool, but didn’t think I need it. I even told him we didn’t need this. However, he highly encouraged us to structure the loan this way.
I’m extremely glad he did! We finished the rehab in early November! In-case you haven’t gotten the memo nobody moves in November or December, therefore it sat empty for 2 months. Thankfully, we were still in our interest only period so the cash outflow didn’t hurt that bad.
Another type of loan that community banks offer real estate investors is a secured line of credit.
This is where you might own some properties free and clear. You pledge these properties to secure a line of credit. Whenever you need to make a draw you can use this line of credit like any other line of credit. This is very helpful when you need to act fast and need to buy a property in all cash!
Having the ability to close a property within 24 hours and all in cash puts you at a significant competitive advantage with your peers.
One type of loan that offers investors a lot of flexibility is if you purchase a property that needs a lot of rehab work that you are going to hold as a long-term rental. You send the community banker the purchase contract plus the list of estimated repairs and upgrades you are going to make. The community bank orders a “subject-to” appraisal as opposed to an “as-is” appraisal. If the appraisal is high enough the lender can fund the entire purchase price and an investor can leave the closing with a check.
The caveat, is the check is then deposited into the the community bank with a hold on it. Once the work is completed the investor simply tells the loan officer to order a construction inspection (sometimes banks do this themselves and sometimes they have a third party do it). Once the work is verified complete, the hold is taken off and you can use this money to pay for the work that is done. You are still usually required to fund a portion of the renovations and upgrades yourself. Usually the amount is 10% to 20% of the total cost of the project.
Purchase Price $20,000
Loan amount: $27,000
Cash out of pocket: $3,000
Hard Money Lenders
I used to be extremely negative about hard money lenders discouraging everyone from using them. My pessimism wasn’t baseless, it was based on the numerous real estate investors that I knew that had completed several successful real estate deals, but all of their profits were eviscerated by the high interest and points hard money lenders charge.
I have since changed my opinion and am more open to other hard money lenders. At the end of the day, they are like any other profession as in there are good hard money lenders and bad hard money lenders.
Hard money lenders typically charge 1% to 4% for origination and 10% to 18% for an interest rate, depending on your states usury laws. Make no mistake, this is an expensive way to finance your real estate investing. However, hard money lenders are a lot faster than the bank and don’t require appraisals.
Some hard money lenders don’t even make you make payments and simply accrue the interest so you only pay when the loan matures or you sell the property. These loans typically mature within one year.
One of my friends uses hard-money loans for his flips and his long-term rentals. The hard-money lender will fund the purchase and renovation. My friend either sells the property or rents it out. If he rents it out he uses a community bank to pay-them off. He buys such good deals by the time the community bank refinances the property he is already at 70% LTV. Therefore, when they refinance him out he has no money in the deal, yet has 30% equity and a good rental property.
Crowdfunding is a new way to get a loan for an investment property. You would want to use this option if you have completely exhausted all of the other options. Why do I say this? Well because to me it looks expensive with all of the fee’s involved AND it’s an unproven platform.
Essentially investors contribute capital and use a platform to pool the funds.
The funds are then disbursed as a loan or as equity to a given real estate project. You actually choose the project. The crowdfunding platform is simply the organizational website
Most people get confused and automatically think all real estate related loans are mortgages. This might be true, but I don’t look at it this way. I think of a mortgage as a loan that is generally sold in the secondary market. Additionally, most mortgages are government-guaranteed (i.e. Fannie Mae, Fredie Mac, USDA, etc). These programs are generally used to support home ownership. Therefore, its contradictory that these programs would help real estate investors.
However, with all things there are loop-holes.
The most widely used mortgage product by real estate investors that my friends have used is the FHA 203k loan.
For a full list of details regarding the FHA 203k program go here: http://portal.hud.gov/hudportal/HUD?src=/program_offices/housing/sfh/203k
My friend Tim Gordon wrote up a great case study on how he used a FHA 203K loan. In his words:
“This is a loan specifically designed for home owners, to purchase a property in need of repairs and to have the costs of the repairs rolled into the mortgage. The $30,000 you’ll need to fix the house will be amortized over the duration of your mortgage.
Basically, you’re getting assistance to buy a fixer upper you otherwise couldn’t because it wouldn’t pass for financing in its current condition and they are bankrolling your rehab.”
Tim used this loan to buy a 4-unit apartment complex with 3.5% down. To read more about his case study go here:
The first property I ever owned I used a traditional 15-year mortgage and put 20% down. After 5 years, my wife and I moved out and instead of selling just rented it out. Over the next 5 years all rent I received I simply made to the mortgage company. I used my own money for the repairs needed.
After 5 years of renting the property out magic happened….the mortgage was gone.
This is why I encourage people to get 15-year mortgages. I know its painful, but as we say in the Marine Corps:
Home Equity Lines of Credit for an Investment Property
When my wife and I were living in our first house I had the opportunity to buy into a great partnership. However, I need a significant amount of cash. At the time we got a Home Equity Line of Credit (commonly referred to as a HELOC).
We paid it off rapidly with the cash flow that the partnership produced but have since used it every now and then for other investments. It’s been a tremendous asset to use the HELOC to cover short-term cash needs.
Usually HELOCs don’t cost much as most banks offer them to get new customers or retain good customers.
Be forewarned, most banks don’t let you take a HELOC out on investment property. This is simply a secured line of credit that we mentioned above.
A HELOC is only a personal line of credit secured by your primary residence.
Private Lending can be a huge accelerator to your real estate investing. What is private lending? In its simplest form, its a private loan made from an individual to you. Everything is negotiable. Some private loans can be super-cheap and some can have interest rates in the double-digits. It’s all what you negotiate.
I actually have a private lending presentation in powerpoint that you can get for $2.99 here: https://gumroad.com/l/privatelending
J Scott who is an expert at flipping properties uses private money a lot and wrote an excellent blog post on the topic which you can find here:
I received a private loan at 2%. How did I do this? I didn’t pull some expert sales move. There was somebody I knew that was complaining about the fact that they weren’t receiving much interest for the amount of money they had at their bank.
I blindly offered that I would pay 10x what they were receiving in their savings account. It turns out the person was earning 20 basis points, or 0.20%. Therefore, I offered to pay 2%. I structured it so I paid the loan back within 5-years. I’m not making much on the rental, but I will have a house paid-off within 5 years.
For the vast majority of my rentals I have a business partner. Yes, this is expensive as he has a 50% equity position in everything we do. In reality, I do most of the work with acquiring properties, getting them finances, and getting them leased. Some of you might think this is dumb. However, it’s smart for me to have this option. He manages all the tenant headaches, manages the books and handles on-going maintenance issues. I absolutely hate these tasks.
The three primary reasons I like having a business partner is this:
1. Accountability – I have a natural drive to want to grow and acquire properties at a fast rate. My business partner is more even keel and keeps me tempered which is good for when properties go empty and things get tight.
2. Management – In reality, I take off every now and then and go to Africa for a missions trip. Once I took off for a month and rode my bike across the country. When this happens I don’t worry about a thing. My business partner handles everything and I’m very grateful for him.
3. Action – My business partner and I went to college together and since the time we knew each other we have talked about starting a business together. We actually tried starting a solar business but the numbers never worked out. We keep each other not only accountable for managing the business but also growing the business.
You could write an entire book on how to structure business partner deals for real estate.
I have people always wanting to partner with me from an equity side. In reality, this is a very expensive proposition for anyone with just money to offer.
Think long and hard about taking on a long-term business partner. I’m very grateful for my business partner. However, I’m also grateful I haven’t taken on all the business partnerships that have been offered to me.
In summary, as Tony Robbins says:
If you have a good deal, hustle to find funding for the deal, just as much as you did to find the deal!
Did I leave any out? Share this on facebook and let me know!