By Anthony Gilbert, REALTOR, Seattle, WA
It’s no secret that investing in real estate can be a smart decision. Still, for those looking to break into the world of renting out properties for income, there’s that first challenging obstacle to get over: financing. Getting approved for financing on one’s first rental property can sometimes be an ordeal, but by being aware of your options and ultimately choosing the one that best suits your needs, you’ll be on your way to managing your first rental property in no time.
Obviously, paying cash for a rental property is the most cost-effective and convenient option—but it’s also not very realistic for most investors just getting started. Still, for those who have the means, paying cash for an investment property can yield a number of benefits.
For starters, paying cash means not having to jump through the hoops involved in getting approved for financing from a bank or other lender, which is a little tougher for non-primary residences. And of course, with no loan, there is also no interest being accrued on money borrowed. This, in turn, frees up cash to make renovations on the property and pay for other routine maintenance as a landlord.
Finally, making a cash offer on an investment property automatically gives you a competitive advantage against any other offers that might be on the table.
For those who are just getting started with their first rental property investment, an owner-occupy approach may be best for financing. With this approach, you take out a traditional mortgage (usually a 30-year mortgage) just as you would if you were buying a home that you planned to live in yourself for many years. From there, you live in the property for the required 12-month minimum before turning around and renting the property out for a profit.
The best thing about this option is that, even after you’re no longer living in the property itself, you’re still able to enjoy the original loan terms, including your interest rate. One thing to keep in mind with this type of financing, however, is that it’s not practical if you want to hold multiple rentals at once.
If cash or owner-occupy aren’t viable options, a conventional bank loan may be worth exploring. When you opt for a conventional bank loan, you will generally be expected to put about 30% down on a rental property. However, the nice thing about this option is that when you take out a bank loan for an investment property, most banks will factor in estimated rental income from the space into the debt-to-income rations they use to determine your interest rate and other loan terms. This, along with having a decent credit score, can help to reduce interest rates and ensure reasonable terms on a loan.
For those with less-than-perfect credit or those who want to save on closing costs, shopping around with private lenders may be a smart option. Because private lenders can set their own loan qualification requirements, it’s generally easier to get approved for a private loan than a conventional bank loan. Furthermore, interest rates usually tend to be lower on these loans because the repayment terms are shorter—meaning you’ll pay off your loan sooner and pay less in interest when all is said and done.
Knowing the options available to you when seeking financing for a rental property is important. By keeping these options in mind and assessing your own current financial situation, you’ll ultimately be able to make the smartest and most cost-effective choice for your first residential investment property. If you’re still unsure what’s right for you, consider speaking with a financial advisor, rental property management company or real estate professional.
Anthony is a full-time real estate broker with Coldwell Banker Danforth, located in Seattle, Washington, and specializes in working with clients in the Eastside Seattle communities of Bellevue, Redmond, Kirkland, Issaquah, Sammamish, Snoqualmie Ridge, Fall City and North Bend, located in the picturesque foothills of the Cascade mountains.
He takes great pride being in-tune with both the professional and human element in every real estate transaction, and truly enjoys helping clients through the entire home-buying and/or selling process.