Many financial experts will back the claim that real estate is one of the best long-term investments that you can make. A real estate investment trumps investing in stocks and bonds, and it can provide an excellent stream of passive income. Real estate investments also tend to appreciate in value if they’re maintained, and have good year-on-year growth.
However, financing a real estate investment can be tricky, and there are many pitfalls to this type of purchase initially.
Financing options come in many different shapes and sizes, and unless you can afford to buy a property in cash, you’ll need to find the best option for your budget. This means taking out a mortgage or loan that benefits your investment and doesn’t negate profits by charging exorbitant lending fees or interest rates.
As a new investor or one that’s just started building up their property portfolio, the following options are the most popular.
A conventional loan or private money loan is a mortgage backed by a private lender. In the US, this can also be the Federal government, as they’ve recently made the move to back mortgages of more than $1 million.
In general, private loans provide a quick solution to obtaining funds for a real estate investment. A private money loan is usually a short-term loan used to purchase or refinance real estate. It’s primarily used for real estate investment acquisitions.
The loanee here has to have a higher minimum credit score as the loan is secured by a private individual. This individual will want more proof that you’re able to meet the repayments and that your financials are in order, and have been for a period of time. This is a great option for any real estate investor that wants a simple, repayable loan with clear terms and a repayment structure.
One of the best aspects of investing in real estate is that you’ll accrue equity over time. Your properties will increase in value, and you can gain a steady income stream from renters. In the US, you can use this built-up equity to secure a loan in the form of a HELOC loan.
A HELOC loan is reliant on the equity you hold in your home. In other words, the difference between the value of your real estate investments vs the amount left in your mortgage contract. So, the loans are completely secured against the equity that you hold in your property. The more properties you own and are paying off, the more likely you are to receive a secured HELOC loan.
Growing Equity with Real Estate Investment
Continuing with the theme of equity as a form of security, we move to what real estate investment industry experts call mezzanine loans or financing. Mezzanine loans are generally a mix between debt and equity that provides the lender with the right to convert the debt to an equity interest in a company if a default occurs.
Mezzanine loans are normally given to someone who has seizable assets in the case of default— normally a stake in a company. This is why real estate investment firms or developers that buy and sell properties frequently use mezzanine financing as a way to fund their purchases.
The number one advantage of this type of loan is that it generally provides much more generous returns to investors compared to typical corporate debts.
Many experts in the real estate industry believe that a high-balance loan falls under the conventional loan umbrella. And truthfully, they wouldn’t be wrong in assuming that.A high-balance loan is a loan with a balance exceeding the conventional loan cap.
It falls under the conventional umbrella because it stays within the loan limit of the Federal Housing Finance Agency. These types of loans tend to have set localities that mainly refer to high-cost housing areas. If you’re considering investing in property on the higher end of the cost scale, a high-balance loan may be what you’re looking for.
A high-balance loan also offers lower interest rates than a jumbo loan. Plus, these types of loans tend to have lower requirements when it comes to down payments.
Balancing Act of High-Balance Loans
A jumbo mortgage is similar to a high-balance loan in that it works out better for those buying real estate in expensive areas. The difference here is that a jumbo loan doesn’t fall within the conventional loan limits.
A jumbo mortgage is usually only granted to investors who show that they have the personal finances to make a large repayment. As any real estate school graduate will tell you, these are referred to as luxury home loans for good reason.
A jumbo mortgage loan allows for higher loan amounts, and these amounts often exceed conventional loan limits. They also have much stricter credit requirements and generally require a large down payment.
So far, we’ve spoken mainly about privately granted loans. An FHA loan refers to a Federal Housing Administration loan—a loan that’s provided by the federal government. FHA loans are a little bit laxer in terms of the credit and down payment requirements in comparison to a private conventional loan.
FHA loans do, however, have mandatory mortgage insurance premiums. Experts in the real estate industry often suggest that first-time investors opt for an FHA loan as they’re ideal for those starting a real estate investment journey. You can use this loan to buy cheaper properties to rent out and to build up an investment portfolio that generates passive income.
Lastly, we have yet another government-backed loan. Military service members are the primary beneficiaries of VA loans, making them ideal for veterans and serving military who want to build their own investment portfolio and generate a passive income.
This type of financing option is extremely relaxed, as it seeks to provide veterans with easy access to real estate investment. As such, a VA loan usually doesn’t require any form of down payment. It also doesn’t have any minimum credit score. However, the idea of a VA loan is to purchase a main residence for occupation and there are laws that apply to occupancy and renting. This means that active military or retired veterans may need to live in the property for a set period of time and adhere to other loan terms. For long-term property investment, this option is still financially sound.
VA Loans: Supporting Our Veterans in Real Estate Investments.
There are numerous ways that you can secure the funding you need to invest in real estate. You can grow your property portfolio and generate additional income by choosing the option that best suits your requirements and budget.
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