11.6.2023 PropStream
Real estate investing is becoming an increasingly appealing career option for people who want to be their own boss, have endless earning potential, and build generational wealth.
That being said, high housing costs can be a barrier for many aspiring investors. But what if it didn’t have to?
Whether you’re interested in wholesaling, flipping, or buying and holding real estate, there are plenty of funding options to help you secure an investment property. Since so many options are available, it can be daunting to start learning what funding sources are available to you depending on your credit, borrowing history, or income.
This is why we broke down what loans are available for the different types of real estate investors and the qualifications for each. Keep reading to learn more.
Table of Contents
Loan Types for Buy and Hold Investors
Disclaimer: This article is intended for information purposes. Before applying for a loan or financial assistance, please get advice from a financial professional to determine if a financing option is right for your situation and determine your tax and legal responsibilities.
Loan Types for Wholesalers
In most wholesale transactions, the wholesaler will assign the contract rather than sell the property themselves.
In this type of transaction, the wholesaler (in most cases) never technically owns the property. Because this is the easiest and least complex option for a wholesaler, assigning contracts is the ideal method of closing a wholesale deal.
However, in some contracts, the seller does not permit the wholesaler to sell the contract. Instead, the wholesaler must purchase the property for a very short period (typically 1-3 days) before selling it to the buyer they’ve found.
In this situation, a wholesaler will need a transactional loan.
Transactional Loan
A transactional loan is a short-term loan that allows wholesalers to close a deal without tying up their own assets in the transaction.
With a transactional loan, the wholesaler will use it to purchase a property before turning around and selling it to their buyer. Transactional funding for wholesalers is beneficial because it typically doesn’t require a certain percentage down, a credit check, or proof of employment.
As long as the deal is strong, a transactional lender will likely provide wholesalers with the short-term funds they need to close their next deal.
Loan Types for Flippers
For flippers, securing a funding source that will cover both the property purchase and renovations is important. Many beginners don’t have enough cash for a down payment and to pay for labor, materials, etc.
There are a few different types of loans flippers can lean on, depending on their circumstances:
Fix and Flip Loan
A fix and flip loan is a form of short-term financing that enables flippers to finance both the property they want to flip and the necessary renovations.
Also known as a “rehab loan,” a fix and flip loan is a subset of a category of loans known as “bridge loans.” While fix and flip loans have higher interest rates, investors can typically pay them off once they’ve sold their flip.
Additionally, these loans often have more flexible terms than conventional loans, and the flipper may be able to access the funds sooner. To receive the necessary funds for your flip, your lender will typically use the ARV (after repair value) of a potential flip to determine how much they can lend. This ensures they aren’t losing money on the deal.
Pro tip: When financing a fix and flip property, you may find it helpful to follow the 70% rule. The 70% rule means you shouldn’t pay more than 70% of the ARV after subtracting the renovation costs to profit from the flip.
Example (feel free to plug your own numbers into this table to calculate):
| Fix and Flip Loan | |
| Expected ARV | $400,000 |
| Cost of Repairs | $60,000 |
| Apply the 70% Rule | $340,000 ($400,000-60,000) x 0.7= |
| Suggested Purchase Price Max | $238,000 |
Renovation or Personal Loan
Some fix and flip investors like to perform “live-in flipping.”
With live-in flipping, an investor will make the house they’re flipping their primary residence, often selling for a higher profit after about two years. Once they sell the live-in flip, they will repeat the process. Eventually, this method may help investors save the funds they need to begin purchasing separate properties to flip, eliminating the need to move every couple of years.
This flipping method works well for investors who are just starting and only need to use flipping as a side hustle. Full-time flippers will need to perform more flips to make a livable income.
With a live-in flip, you may be able to lean on a renovation or personal loan to afford your renovations. Since you don’t need to account for the purchase price if you already own the home with a conventional loan, you can take out a smaller loan to fund renovations separate from your mortgage.
If you’re looking at buying a property to live in for a couple of years to flip, you may be able to have a renovation loan added to your mortgage so you can get the funds to renovate right when you purchase the property.
Loan Types for Buy and Hold Investors
While wholesalers and flippers are limited to a few loan types, buy and hold investors have quite a few more options.
Here are some financing options to help you secure a rental property:
Conventional Loan
Conventional loans are long-term loans with lower interest rates than private or hard-money loans, often provided by a bank, credit union, or other financial institution.
Because these loans enable you to pay off the mortgage over a longer timeframe and the interest rates are lower, it is an ideal loan for rental owners if they fit the stricter criteria to qualify for a conventional loan
Requirements include
- Clean borrowing history: No liens, foreclosures, short sales, etc.
- Promising financial history: Conventional loans require higher credit scores (typically at least 620) and your history should be clear of financial red flags like bankruptcies.
- Employment history: Many conventional lenders require proof of 1 year or more of employment to qualify for a conventional loan.
- Down payment: For a conventional loan, you’ll typically need a down payment of 10% or more.
- Low debt-to-income ratio: Your debt-to-income ratio should be less than 50%.
FHA (Federal Housing Administration) Loan
An FHA loan is a type of home mortgage backed by the Federal Housing Administration.
It’s meant to help buyers with low-moderate income levels afford homeownership with fewer up-front costs. It is considered a non-conforming loan.
While FHA loans aren’t technically supposed to be used for investment properties, there are ways you can get around this technicality. For example, you can’t use an FHA loan to purchase a new property solely for investment purposes, but you may be able to rent out parts of a property you buy to live on.
Many investors purchase multi-family properties with up to four units and live in one of the units. This is also known as “house hacking.”
If you can have your mortgage paid off by your tenants, an FHA loan doesn’t enforce pre-payment penalties, so you may be able to sell your home for a significant profit if it appreciates in value. If you can profit from these tenants in addition to having your mortgage paid each month, in time, you could use these extra funds for a down payment on a separate rental property.
Important note: Your ability to have multiple families on your property will depend on local regulations. We recommend researching and understanding the legality of house hacking for your property before taking on tenants.
VA Loan
A VA loan is a type of mortgage loan available to eligible military borrowers.
The VA loan is available through the U.S. Department of Veterans Affairs. This loan is meant to help service members, veterans, or their surviving spouses purchase a property without a high down payment or interest rate.
Like the FHA loan, you can’t use a VA loan to purchase a separate investment property. Instead, you can use it to purchase a multi-family property in which you live in one of the units and rent the others out to tenants, either breaking even and having your mortgage paid for or earning a profit.
Blanket Mortgage
A blanket mortgage is one mortgage that covers two or more separate pieces of real estate.
This type of mortgage loan is ideal for developers or real estate investors who plan on investing in several properties at once, as it allows them to finance multiple properties under one loan. Many borrowers use blanket mortgages to purchase several properties before building on them or flipping the structures that already exist on them. They’ll then sell each piece of property for a profit.
If you already own several properties with different loans, you may even be able to consolidate those loans into own blanket mortgage. This can help you lower your interest rate and increase your capitalization rate.
Another benefit of using a blanket mortgage is the ability to cut down on upfront fees you have to pay to take out separate loans. If you take out several mortgage loans, each will come with its own application fees and closing costs, whereas a blanket mortgage only requires one.
Additionally, many blanket mortgages have what’s known as a “release clause.” The release clause allows you to sell individual properties at separate times before putting the profits from the sale toward a new investment property.
With blanket mortgages, you may have to pay a larger down payment to secure your bundle of properties, or you may need to pay off the entire loan within a designated period. Also, if you fail to make the mortgage payment, the lender may be able to take control of all of the properties under that one loan.
Portfolio Loan
Many mortgage loans are originated by a lender before being offloaded and sold to the secondary mortgage market.
What is the secondary mortgage market?
The secondary mortgage market connects lenders, investors, and homebuyers nationwide in one efficient system to help millions of families and renters find their homes.
Portfolio loans are the exception to this typical structure. Instead, portfolio loans are originated and retained by the original lender. Why is this important? Well, when a lender doesn’t send a loan into the secondary mortgage market, they can set their own requirements for the loan (credit score required, the amount borrowed, income history, etc.).
When a lender can set their own loan terms, they don’t have to follow the standards required by Fannie Mae and Freddie Mac. For borrowers with lower credit scores who need to borrow larger sums of money, a portfolio loan may be the best option. Also, portfolio loans can be ideal for self-employed borrowers, as many lenders require an employment history if they’re lending on your deal.
If your credit score is on the lower end, you may find portfolio loans are a viable option for refinancing existing mortgage loans as well.
You may pay a higher interest rate with portfolio loans since the loan terms are often less flexible. The riskier a deal is for a lender, the higher return they’ll typically expect from it. Also, a lender may charge higher fees to take out a portfolio loan if they know a borrower is unlikely to secure a loan elsewhere.
HELOC (Home Equity Line of Credit) or Home Equity Loan
If you own your primary residence and you’ve built up a decent amount of equity in it, you may be able to tap into this equity to purchase an investment property using a home equity loan or line of credit (HELOC).
A HELOC is a line of credit from which a homeowner can withdraw to perform renovations, fund a personal expense, or even invest in a property. The amount of equity you have in your property will determine your credit limit.
A home equity loan is similar to a HELOC because it allows you to use home equity to borrow money. However, where the HELOC allows you to put expenses as they come up on credit, a home equity loan is provided to you in a lump sum that you can use as you see fit.
While a home equity loan and a HELOC have several similarities, they differ regarding interest rate percentage and payment plan options. For example, a HELOC may require a variable rate, and the monthly payment will depend on what you’ve borrowed, while a home equity loan may have a set monthly amount with a fixed interest rate.
It’s important to note that just because you have a certain amount of equity built up in a property, that doesn’t mean a lender will offer you the funds to invest in a rental property. Willingness to lend using home equity on an investment property will vary from lender to lender as they may consider it a riskier investment. Also, they may have stricter requirements when it comes to credit, debt-to-income ratio, number of open accounts, and more to qualify.
Important: With the HELOC and the home equity loan, you’ll likely need to use your home as collateral if you can’t make your payments on what you’re borrowing. We recommend extensive research and consulting with a financial advisor before committing to anything.
Seller Carryback
Seller carryback financing allows the homeowner of a property you’re interested in to become the lender as well.
To do this, the homeowner will carry a second mortgage on the subject property, which the buyer will pay down. Seller carryback financing is often called “owner financing” or “seller financing” as well.
This financing can benefit both the buyer and seller because the seller can collect interest on the property if they plan the deal right. Rather than selling the property and getting one lump sum, they may be able to make passive income on the interest.
For the buyer, seller carryback financing is helpful if you can’t convince a bank or lender to provide the funds you need to purchase the property. Additionally, the homeowner may be flexible with what they require.
For the homeowner to make the deal worthwhile (they’re taking a pretty large risk by attempting to offer this financing option), they will need to charge a higher-than-average interest rate.
Subject To
When using subject to for a property investment, a real estate investor takes over the homeowner’s existing mortgage. Subject to can also be referred to as a “subject 2 deal.”
This type of deal can be beneficial for the homeowner and the investor for various reasons. For example, a homeowner may be unable to make payments on their mortgage. If an investor can take over that mortgage, the homeowner can avoid having the property foreclosed on, which would negatively impact their credit score.
For the investor, a subject-to deal saves the trouble of going through a lender and securing financing themselves. When working with a bank, credit union, or other financial institution, an investor will often have to meet somewhat strict credit, income, and borrowing history requirements. While a private or hard-money loan has looser requirements for qualification, the interest rates may be extremely high.
If an investor can secure subject-to financing, they may be able to get a lower interest rate if that’s what the original mortgage had without qualifying for a conventional loan.
Additionally, in a subject-to deal, the investor may have fewer closing costs and they may be able to gain ownership of the property sooner, allowing them to start making money on it immediately. Once an investor owns a property with subject-to financing, they can either rent out the property and begin making passive income or sell the property and get a lump sum of profit.
While subject to can be a great deal for all parties involved, many mortgage lender agreements prohibit the transfer of one mortgage to another party with what’s called a “Due on Sale Clause.” Before attempting a subject-to deal, make sure you understand the restraints and conditions of the homeowner’s mortgage.
What Type of Loan is Right For You?
Whether you’re a wholesaler, flipper, or buy and hold investor looking to fund your next project, there are various options to help you out, including real estate investment software.
With PropStream, you can find a variety of creative funding sources by targeting homeowners who may want to lend on your investment. Notable homeowners who may offer funding are owners who purchase with cash, have multiple properties, have paid off properties, and more.
Try our 7-day free trial today to start browsing and enjoy 50 funding leads on us.
