Rental Loans: 7 Top Options for Real Estate Investors

Owning a rental property is a well-known way to make passive income. And if you’re looking to really increase your cash flow, having multiple rentals is usually the way to go.

Now, you might be scratching your head, thinking, “How on earth can I afford that?” Valid concern, but hold that thought! Because the truth is, you can invest in real estate with little to no money; what you just need is a reliable financing on your side. For rental properties specifically, rental loans are one solution.

However, it’s important to note that not all rental loans are the same. Some come with high-interest rates or expensive fees that would cut into your profits. Others may offer better rates but have stricter requirements. In the end, finding the right investment property loan with terms and rates that work for you can help you make the most out of your investment.

Wondering which rental loan is the best fit for you? Read on to learn everything you need to know about rental loans, how they work, and the seven different types for real estate investors.

TL;DR

• A rental loan is a type of financing for real estate investors looking to purchase or refinance rental properties.

• The different types of rental loans include conventional mortgages, government-backed loans, portfolio loans, blanket loans, HELOC, private lenders, and seller financing. Each of these comes with unique terms and eligibility criteria to suit different investment strategies.

• Key considerations for securing a rental property loan include a good credit score, a significant down payment, a favorable debt-to-income ratio, and potential rental income. Lenders look at these things to decide if you qualify for the loan.

• Applying for a rental loan includes finding the right property, preparing financial documents, choosing the suitable loan type, and negotiating terms to reduce costs.

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What are Rental Loans?

Rental loans help you finance the purchase of investment properties you want to rent out, like single-family homes, multifamily units, and other commercial real estate properties. The idea is that the rental payment should help you pay back the loan and, eventually, make some profit on top.

Banks and other lenders offer several types of loans for rental properties. They assess the potential rental income of the property to determine how much you can borrow. They want to make sure the rent money coming in is enough to cover your loan payments, taxes, insurance, maintenance – all those related costs. If it looks like a good deal, they will likely approve the financing.

Rental Loans vs. Traditional Mortgage Options

If you’ve ever bought a house, you know the drill with traditional mortgages: spruce up your credit score, show off your income, and get that approval. But it’s a different story when it’s about getting a loan for a rental property.

As mentioned above, one big difference is that the lenders closely examine the potential rental income of the property as part of the qualification process. They’ll look at factors like the property’s location, condition, and the rental market in the area to estimate how much income it might produce.

Another thing is that a rental loan usually has higher interest rates and possibly shorter repayment periods than a conventional mortgage. Lenders see rental properties as riskier since you won’t live there or take care of it like a primary home. So, they charge higher investment property mortgage rates as a cushion.

Also, expect higher down payments. You might need to put down 20% to 30% or even more, depending on what the lender wants and the details of the property.

But one reason why investors turn to rental loans is because they often come with easier requirements and faster approvals. Plus, some lenders are open to financing different kinds of properties that wouldn’t normally pass for a traditional mortgage.

Types of Rental Property Loans

There are several investment property loan options available to investors. Each type has distinct qualifications, rates, terms, and uses. Here’s a rundown of the most common ones:

1. Conventional Mortgages

These are the standard loans you’ll get from banks or mortgage companies. Conventional mortgages usually require a down payment of at least 20% for rental properties and have strict credit score and income requirements.

You can choose between fixed or adjustable rates, with the loan term stretching anywhere from 15 to 30 years. If your credit score is solid, you’re in a good position to get a lower interest rate.

The catch is that these mainstream mortgages have to follow the Federal Home Loan Mortgage Corporation (Freddie Mac) and Federal National Mortgage Association (Fannie Mae) guidelines. Even though Fannie Mae says you can have up to 10 loans, banks often play it safe and usually only let you have about 4.

2. Government-Backed Loans

These loans, supported by various government agencies, provide several benefits, like lower down payments and more flexible qualification criteria than conventional loans.

The catch? You’ve got to live in part of your investment for a while. It’s how they make sure these deals are helping to house people, not just to make investors money. But it’s a trade-off that can mean getting started with much less money down.

• FHA Loans: Backed by the Federal Housing Administration, these loans let you buy up to a 4-unit multifamily property if you agree to live in one of the units. If your credit score is at least 580, you might only need to put down 3.5%.

  

• VA Loans: If you’re a veteran, active service member, or a qualifying spouse, a VA loan is an amazing deal as it can cover 100% of the financing for a multifamily property, assuming you’ll live in one of the units.

3. Portfolio Loans

Portfolio loans are a bit different from your usual mortgage because the bank or private lender keeps them instead of selling them off into the secondary mortgage market.

This means lenders can establish their own standards for credit scores, income requirements, interest rates – you name it. There’s more flexibility because they don’t have to abide by Freddie Mac and Fannie Mae guidelines.

What does this mean for you? If you’re an investor, it means you might qualify even if your credit isn’t perfect or your income doesn’t fit the usual mold. What’s more, the approval process can be quicker than with traditional loans, which is a big plus when you’re trying to snap up a property in a hot market.

4. Blanket Loans

Blanket loans allow you to finance multiple properties under a single mortgage. It’s a nice streamlined setup if you are tired of managing multiple mortgages with different terms and rates.

Another feature of this loan is the release clause. This lets you sell off a property without having to settle the whole loan first. But some word of caution – since one loan covers all your properties, if you slip up on payments, you could risk losing more than one property. They also usually come with higher interest rates and fees because they’re riskier for the lender.

And not just anyone can get their hands on a blanket loan. Lenders usually look for seasoned investors who deeply understand real estate, have a solid financial background, and have a smart investment plan.

5. Home Equity Loans and Lines of Credit (HELOCs)

A home equity loan is pretty much a second mortgage. You borrow a big chunk of money all at once, using your home’s equity as the backup for the loan. It comes with a fixed interest rate and set monthly payments.

Then there’s the HELOC, which is more like a credit card tied to your home’s equity. You have a limit you can borrow, and you can take out money, pay it back, and borrow again as needed. The catch is that the interest rate can change over time. HELOCs are flexible and perfect for ongoing costs like fixing up a place before you rent it out.

But remember, your home is on the line. If you can’t pay back what you borrow, you could lose it. Also, with a HELOC, your payments could go up if interest rates rise. And you need to have enough equity in your home to start with—lenders usually want you to keep 15-20% of it untouched.

6. Private Lenders

Private lenders can be individuals or companies who lend their own money directly to real estate investors. Since it’s their own money on the line, private lenders can make quick decisions without all the hoops and hurdles you find at banks.

They’re often the go-to for investors looking to purchase a property quickly, especially those who might not qualify for a bank loan. But it’s important to be cautious, as many scammers are out there.

Two choices I highly recommend are Lima One Capital and New Silver.

Lima One Capital specializes in rental property lending for real estate investors. They offer loans from $75k to $1M for single rentals, and they don’t cap the amount or number of units for portfolio loans. You can choose repayment plans of 5, 10, or 30 years, with either fixed or adjustable rates. Plus, you don’t need to show personal income to qualify, and they offer cash-out refinance options, too.

New Silver lets you borrow up to $3 million, with rates starting at 7.5%. They have a 30-year fixed rate option for rental properties that are all set up and stable.

7. Seller Financing

In seller financing, the person selling the house basically becomes the bank. They let the buyer pay them in installments instead of needing a loan from an actual bank. It’s a pretty sweet deal for buyers who might not get a regular loan since they can often work out better terms directly with the seller, though sometimes the interest might be a bit higher.

Requirements for Getting a Rental Property Mortgage

Getting a rental property loan comes with its own set of requirements, which can vary by lender but generally include:

1. Credit Score: A good credit score is crucial. Many lenders look for a score of 620 or higher, but for the best rates, aiming for 700+ is wise.

2. Down Payment: Expect to put down a larger down payment than you would for a primary residence, typically 20% to 30% or more of the property’s purchase price.

3. Debt-to-Income Ratio (DTI): Your DTI ratio, which compares your monthly debt payments to your monthly income, should ideally be below 36%. Some lenders may allow a higher DTI, especially if the rental income is strong.

4. Rental Income: Lenders will assess the potential rental income of the property. They may require a history of rental income or an appraisal to estimate future income.

5. Cash Reserves: Having cash reserves in the bank to cover several months of mortgage payments, taxes, insurance, and maintenance costs can be a requirement.

6. Experience: Some lenders prefer borrowers with experience managing rental properties, though this isn’t always a strict requirement.

7. Property Type: The loan may have restrictions on the type of property you can purchase, such as single-family homes, multifamily units, condos, or commercial properties.

8. Interest Rates and Terms: Be prepared for higher interest rates than primary residence mortgages. The loan terms can also vary, with some lenders offering 15 to 30 years and possibly adjustable-rate mortgages.

9. Insurance: You’ll need to have landlord insurance, which covers the property, potential liability, and loss of rental income.

10. Legal and Financial Documentation: This can include tax returns, W-2s or 1099 forms, bank statements, and any other documents that prove your income and assets. Be sure to check the specific documentation required for the investment property loan programs you are applying for.

The Application and Approval Process

Applying for a rental loan might seem tough, but it’s really about convincing a lender that you’re a safe bet for them to invest their money in.

Here’s how to tackle the application and approval steps without stress:

Step 1: Finding the Right Property

Start by researching the real estate market to find a promising rental property. Look for areas with high rental demand and potential for property value appreciation. Figure out your budget for this investment, considering your current finances and the potential rental income.

Step 2: Preparing to Apply

Know where you stand financially. This means understanding your credit score, how much you’re earning, your debts, and the specifics of the property you’re interested in. Be ready with your financial documents, like proof of income, bank statements, and property details.

Step 3: Choosing the Right Loan

We’ve just gone through the different kinds of rental properties you might be interested in. If anything catches your eye, take a closer look and don’t hesitate to get expert advice. With Lima One Capital, for example, they pair you up with your own sales consultant who’s an expert in the field to help you reach your investment goals.

Step 4: Submitting Your Application

Fill out the loan application from your lender and attach all the needed documents. The lender will likely appraise the property to ensure it’s a worthwhile investment.

Step 5: Approval and Closing

The lender will review your credit history, financial stability, and the property’s potential to generate income.

If approved, you’ll move forward with the closing process, including signing the loan agreement and handling closing costs. And with some online rental loan services like New Silver, you might even get an instant approval right from your computer.

How to Reduce Rental Property Loan Costs

Cutting down the costs of your rental property loan can really boost how much money you make from your investment. Here are some no-nonsense ways to keep those expenses in check and increase your profits:

Improve Your Credit Score: Borrowers with higher credit ratings typically receive more favorable interest rates from lenders. Before you apply for a loan, double-check your credit report for mistakes and try to pay off any debts. This can bump up your score and potentially lower your loan costs.

Negotiate Loan Terms: Once you’ve received a few loan offers, don’t be afraid to negotiate the terms. Some lenders may be willing to lower their interest rates or waive certain fees to secure your business.

Choose a Shorter Loan Term: Although shorter loan terms typically come with higher monthly payments, they often have lower interest rates. Over the life of the loan, this can lead to significant savings on interest costs.

Make a Larger Down Payment: Putting down a larger amount upfront can lower your loan’s interest rate, reduce monthly payments, and decrease the overall cost of the loan. Plus, it can help you avoid private mortgage insurance (PMI), which lenders require for down payments of less than 20%.

Refinance Your Loan: If interest rates have dropped since you took out your rental property loan or your financial situation has improved, refinancing could be a smart move. Refinancing can reduce your interest rate, lower your monthly payments, and ultimately decrease the total cost of your loan.

Consider a Fixed-Rate Mortgage: Adjustable-rate mortgages (ARMs) may offer lower initial rates but can increase over time. A fixed-rate mortgage locks in your interest rate for the duration of the loan, protecting you from future rate hikes and making long-term planning easier.

Pay Off the Loan Early: If your loan doesn’t have prepayment penalties, paying off your mortgage early can save you a lot of money in interest. Even making one extra payment per year can significantly reduce the total interest paid over the life of the loan.

Review and Reduce Other Expenses: While focusing on loan costs, don’t overlook other ways to reduce expenses on your rental property. Lowering maintenance costs, property taxes, and insurance premiums can also improve your overall return on investment.

How to Measure Rental Property Performance

There are plenty of ways to figure out if a rental property is going to make you money before you even get a loan. Looking at the cash flow from all sorts of angles shows lenders you’ve really done your homework and helps you dodge a bad investment move.

Capitalization Rate (Cap Rate)

The capitalization rate is a percentage that shows the potential rate of return on a real estate investment. You calculate it by dividing the property’s net operating income (NOI) by its current market value.

Cash on Cash Return

Cash on cash return measures the annual return the investor made on the property in relation to the amount of mortgage paid during the same year. You calculate it by dividing the pre-tax cash flow by the total cash invested.

Loan to Value (LTV)

LTV ratio measures the value of a loan against the value of the property. You calculate it by dividing the loan amount by the property’s appraised value or purchase price, whichever is less.

Lenders use LTV to assess the risk of lending. For the lender, a lower LTV means less risk, which could result in better terms for the borrower.

Debt Service Coverage Ratio (DSCR)

DSCR compares a property’s annual net operating income (NOI) to its annual mortgage debt service (including principal and interest payments). You calculate it by dividing NOI by the debt service.

Conclusion

And there you have it – everything you need to know about investment property loans. From understanding the different types available to getting your finances in order for approval, it’s clear there’s a path for everyone, whether you’re just starting out or looking to expand your portfolio.

Where should you go from here? Start by considering your budget and financial situation objectively. Research lenders and loan products that match your investing objectives. Take it step-by-step. Seek guidance from professionals if needed.

And remember, while the process might seem overwhelming at first, with the right approach and a bit of negotiation, you can find a loan that fits your needs and helps you grow your investment.

Loan for Rental: FAQs

How many rental properties can I own?

There’s no legal limit to the number of rental properties you can own. The number you can realistically manage depends on your financial resources, ability to obtain financing, and capacity to manage or delegate property management responsibilities. Financing becomes more complex as you acquire more properties, especially after the first four to ten financed properties, due to stricter lending requirements.

How can I get the best mortgage rate?

To get the best mortgage rate, start by boosting your credit score. Higher scores often get lower rates because lenders see you as less risky. Also, saving for a bigger down payment can lower your interest rate, as it reduces the lender’s risk.

Lowering your debt-to-income ratio by paying off debt and increasing your income can also make you more appealing to lenders. Once you find a good rate, think about locking it in to avoid any future increases.

What is the 2% rule for investment property?

The 2% rule for investment property is a guideline some real estate investors use to evaluate the profitability of a rental property. According to this rule, a property is a good investment if the monthly rent is at least 2% of the purchase price. So, if you buy a place for $100,000, you’d want at least $2,000 a month in rent.