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Investment property loans: How they work and where to find them

Yahoo Personal Finance· naruecha jenthaisong via Getty Images
Aly J. Yale
·Freelance writer
8 min read

Investing in real estate can be profitable, but getting started — at least financially — is often a challenge. That’s because some mortgage programs won’t allow you to purchase investment properties or homes you don’t intend to live in. To make matters more complicated, you might also need to use future rental income to qualify for your loan, which is another thing many traditional loan programs don’t allow.

Fortunately, there are financing options that can help. Here’s what to know about investment property loans, how to qualify for one, and where to start your search.

Learn more: How to invest in real estate — 7 ways to get started

In this article:

“Investment property loan” is a catch-all term for mortgage loans used to finance the purchase of an investment property: a rental property, a fix-and-flip, or some other type of property you intend to use as a source of income.

Though some traditional mortgage programs allow you to buy income-producing properties, not all do — and even then, there can be catches.

When financing an investment property, you have many options. The right choice will depend on your lender, financial situation, and goals as an investor. Here are some options:

You can use conventional mortgages to pay for investment property purchases, including one-, two-, three-, and four-unit properties. You’ll need a debt-to-income ratio (DTI) of 45% or less to qualify, and you can’t be affiliated with the builder, developer, or seller of the property (if the home is new construction).

Read more: What is a conventional loan, and how does it work?

Fix-and-flip loans are designed for home flippers who intend to purchase, renovate, and resell a property at a profit. These let you finance the purchase price and updates all in one loan. They are short-term loans that must be repaid within a few years (typically after you sell the property).

Non-QM loans — or non-qualified mortgages — are types of mortgages that don’t have to adhere to standard loan program requirements set by the Consumer Financial Protection Bureau. This gives lenders a little more leeway in who they can lend to and how much they can loan out.

There are many different subsets of non-QM loans that investors may find helpful, including:

  • Bank statement loans: Bank statement loans let you qualify for your loan based on trends in your bank account rather than traditional income documents like pay stubs, W-2s, or tax returns.

  • DSCR loans: DSCR loans — or debt service coverage ratio loans — allow you to qualify based on the property’s potential cash flow, and you don’t need to provide income or employment information to be eligible.

  • Asset qualifier loans: These loans look at your total liquid assets, including retirement accounts, business accounts, and more. The lending decision isn’t based on your employment, income, or DTI ratio.

  • P&L loans: Profit and loss loans base your eligibility on your business’s profits and losses over a certain period. They can be helpful if you’re a seasoned real estate investor or small business owner.

Other types of non-QM loans could be a good fit too, depending on your financial situation. Talk to a mortgage broker if you need help finding the right product. They can point you in the right direction.

Read more: How to buy a second home

Hard money loans, also known as bridge loans, are collateral-based loans. These are usually easy to qualify for and offer quick funding, but they must be repaid quickly. Finding hard money loans at traditional banks can be difficult, but private lenders and investment companies often offer them. They can be a good choice if you can’t qualify for other mortgage options.

If you own any other properties, home equity loans can help you pay for your next investment. These let you borrow from the equity in your current property, which you can then use to cover the price of your new property.

You might also use these in tandem with other mortgage options, using the home equity loan to cover your down payment and another mortgage to finance the remaining purchase amount.

You could also consider a home equity line of credit (HELOC), which is similar to a home equity loan in that both are second mortgages that let you tap your home equity. It’s good to explore both options, but a home equity loan might make more sense for a down payment — you’ll receive all the money in one lump sum, whereas a HELOC lets you draw money over a period of time as you would with a credit card.

Dig deeper: HELOC vs. home equity loan

You can technically purchase an investment property with a Federal Housing Administration (FHA) loan, but only in certain scenarios. For example, if you have to relocate for a job, you can rent out your first home when you move as long as you’ve lived in the house for at least a year. You can also buy a multiunit property and then live in at least one of the units to qualify. If you have an FHA loan or are considering using an FHA loan to buy a home you hope to use as an investment later, talk with your mortgage lender about your options.

Read more: Best FHA loan lenders

Lenders tend to be more cautious about investment loans. Investors depend on the property’s income to make payments, which means they could have trouble paying their mortgage if there’s a vacancy or a tenant fails to pay rent.

On top of this, investors tend to have less skin in the game. Unlike a traditional home buyer — who needs their property to live in — investors aren’t necessarily as attached to their properties. This could make them more likely to default if they start having financial difficulties.

As a result, lenders are often stricter when financing an investment property. This means you may have to deal with the following:

A higher interest rate helps lenders compensate for the extra risk of investment property loans. Rates vary depending on your personal finances and mortgage lender, but you can generally expect investment property mortgage rates to be 0.25% to 0.75% higher than rates on traditional mortgages. That can equate to a much higher monthly payment and significantly more long-term interest.

Learn more: 5 strategies to get the lowest mortgage rates

Lenders may also require larger down payments on investment property purchases. This ensures the borrower has more money on the line in the transaction and means the lender is on the hook for less cash if the borrower defaults.

You will likely need a down payment of at least 15% to 25% of the home’s purchase price. This is significantly more than the 3% to 3.5% minimum required on most mortgages.

Finally, you might also need more cash in savings if you’re going to get an investment property mortgage. This money can serve as a financial safety net if you ever have trouble paying your mortgage (or your tenants skip out on rent for a month, for example). You can expect to need up to 12 months’ worth of mortgage payments in reserves, according to US Bank.

Many banks and mortgage lenders offer investment loans. Read Yahoo Finance reviews about popular lenders with loans specifically for real estate investing:

You can also look to specialty investor property lenders. Angel Oak Mortgage Solutions, for instance, offers a wide range of non-QM loan options for investment property purchases, including bank statement loans, DSCR loans, asset qualification loans, and more. Griffin Funding, Visio Lending, and Kiavi are other options offering investor-focused loan programs.

Whatever lender you choose, the application process for an investment property loan should be similar to any traditional mortgage. You’ll need to fill out the lender’s application, provide documentation, and have the home appraised.

In some cases, you may need to provide additional documentation regarding your finances or your history as a landlord or investor when applying. If you already own some income-producing properties, you may also need to provide copies of your current leases and proof of past rental payments from your tenants.

To get a loan for an investment property, you’ll usually need a larger down payment and more cash reserves than a regular mortgage. You’ll also usually get a higher interest rate. However, the exact requirements and terms depend on which mortgage lender you use.

You may be able to put down less than 20% on an investment property, though it depends on your lender. In general, you can expect to need a larger down payment when financing an investment property than when buying a primary residence.

It depends on your lender and loan program, but expect to need a score in the mid-600 to 700 range for most investor-focused loan products.

There are many loan options, but the right one depends on the type of investment property you’re buying, your goals for the property, your financial situation, and more. A mortgage professional can help you pinpoint the best type of loan product for your specific scenario.

This article was edited by Laura Grace Tarpley.