Becoming a real estate investor is a great way to make passive income. However, starting a venture in real estate requires financing. And if you don’t have a huge bankroll to finance a property, taking loans may be the most viable and the best alternative for sealing deals.
There are different types of loans available for investors and knowing the appropriate one for you can save you a lot of stress. So, if you are still confused about the type that is best for you, here are different types of loans for investment properties.
Traditional Lenders (Banks)
The traditional lenders offer conforming loans i.e. loans that strictly follow rules set by Freddie Mac and Fannie Mae. If you own a property of your own, you should probably be familiar with the traditional lenders. They offer the most common type of financing option among investors and homeowners. Traditional lenders offer the cheapest investment loans to homeowners and property investors. Alternatively, getting loans from the traditional lenders is usually stricter, requires a higher down payment (20-percent and more), the approval time is slow and requires more documents and paperwork from the borrower.
The process for qualifying for loans from these lenders may vary by states and cities but some general rules would increase your chances of getting loans. For example, a lender is required to have a minimum of 620 credit scores to qualify for a loan while a minimum of 740 is required for good rates. The down payment should be at least 20-percent of the property’s purchase price.
Furthermore, W-2 form showing at least two years of steady employment would be requested from the borrower. And if you have existing loans, the traditional lenders would need to see enough cash on hand to cover your loan expenses.
Hard money lenders are professional lending firms or individuals that offer non-conforming loans to investors or homeowners. They offer loans for investment purposes with different criteria to the traditional loans. The benefits of working with a hard money lender include faster loan processing time, quick funding and credit score is not very important because they lend based on collateral. Furthermore, they don’t report to the credit bureau and there is no limit on the number of mortgages you can apply for. Conversely, the hard money loans are expensive at a very high rate and the loan terms are usually short term (from 3 to 36 months).
To qualify for a hard money loan, you are required to provide documents that conform to the equity underwriting guidelines. Furthermore, a down payment of over 20-percent (and up to 10% higher than the traditional loans) is also required.
If you are applying for a loan from these lenders, you should note that this loan type is suitable for financing the fix-and-flip investment strategy because of the short term and the high rates.
Private Lenders (Friends and Families)
Private money lenders are individuals who have extra money they can lend out in exchange for a good return on their investment. They are similar to hard money lenders in every way except that they are nonprofessionals. They can be your family, friends, other investors, colleagues at work or those people you’ve met on your real estate investing journey.
The loan type is suitable for investors rejected by banks or hard money lenders. The loan type comes with few formalities like the hard money loans. Which include less stringent conditions, faster processing time and quick funding. Alternative to hard money loans, the rates are low and the loan term is flexible and negotiable.
If you are applying for a private loan, you should always keep in mind that a promissory agreement would be signed between the lender and the investor. Thus, if the investor refuses to pay, the lender can foreclose the property.