Managing Your Mortgage Payments
Purchasing a 30-year fixed loan means making consistent payments for three decades. Thats a long time, so you must stay on top of your payments. This is why its important to secure a stable career and build savings. You must keep paying your loan even during emergencies. The same goes even when youre retired and not yet fully paid on your loan.
Before you agree to any real estate deal, you should understand how mortgage payments work. One important document you should use is the amortization schedule. This breaks down your monthly payments so you know how much goes toward your interest charges and principal loan.
- Principal This is the amount you borrowed from your lender. It also indicated the outstanding balance you still owe after making several payments.
- Interest This is the payment lenders charge to service your loan. Interest costs are higher when your principal is large. Likewise, interest increases the longer it takes to pay down a loan.
Calculate Your PITI Costs
Mortgage payments are not just comprised of interest and principal payments. You must also pay for real estate taxes and homeowners insurance. When taken together, this is called PITI costs or Principal, Interest, Taxes, and Insurance. If you check your PITI expense, you can calculate the total cost of your monthly payments. Finally, while principal and interest payments remain the same, your insurance and property taxes may change over the years.
What Can I Do With An Investment Property
There are several uses for a residential investment property, including:
- House flipping, which can be done after making home improvements that increase the propertys value
- House hacking a multiunit home, which allows you to live in one unit and rent out the other unit to cover your mortgage payments and create a passive income stream
- Providing short-term rentals through a platform like Airbnb
- Providing long-term rentals in six- to 12-month increments
Can I Use The Equity In My Home To Buy An Investment Property
Yes. Provided you qualify, you could tap your equity through a cash-out refinance, home equity loan or home equity line of credit , and use those funds to cover the down payment on an investment property mortgage.
A cash-out refinance allows you to take out a new mortgage for more than your current loan and withdraw the difference in cash. A home equity loan is a lump-sum payment thats repaid in fixed monthly installments similar to a traditional mortgage while a HELOC is a revolving credit line that works much like a credit card. Your main home is used as collateral for all three of these options, and you could lose it to foreclosure if you fail to repay any of these loans.
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Build Your Wealth Carefully
Rental properties can be excellent sources of income for the right buyer, and in the long run can be valuable assets in a diversified portfolio. They are also a good choice for first time investors who are looking for creative ways to build their personal wealth.
However, purchasing any investment property can be a complicated matter. First-time investors should take their time and carefully consider all of their financing options, as well as their responsibilities as a borrower and a landlord, before agreeing to any long-term financial and social commitments.
Seasoned investors tend to be well aware of the benefits found in owning rental properties. Wealth and cash flows are often managed best by an asset such as some rental real estate, which is why it has consistently remained a solid investment idea for more than 145 years.
When it is time to build your wealth, a careful review of rental property ownership will no doubt be a foundational part of the best laid plans.
After Steep Rise Mortgage Rates Appear To Be Stabilizing
With inflation still running hot and the Federal Reserve responding aggressively, the average rate on 30-year mortgages has climbed significantly.
The bump comes as the Fed has moved to raise rates in 2022. The central bank is ramping up efforts to fight inflation, which has remained high after a bout of pandemic stimulus. In May, annual price increases clocked in at 8.6 percent.
Inflation is out of control and until it peaks, neither will mortgage rates, says Greg McBride, chief financial analyst for Bankrate.
While the central bank directly moves interest rates on some mortgage products, namely adjustable-rate mortgages and home equity loans. Fed policy has fewer ramifications for fixed mortgage rates, which more closely follow the 10-year Treasury yield. The 10-year Treasury does react to inflation, however, and also to investor sentiment, with the benchmark yield recently trending upward.
For borrowers, the spike marks an end to the historically low rates that characterized the period following the global financial crash of 2008 and 2009. Rates were as low as 3 percent in August 2021. In June 2022, they approached 6 percent. However, there are signs that the rate is leveling off and may even fall amid signs inflation is easing a bit.
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How Are Mortgage Rates Set
At a high level, mortgage rates are determined by economic forces that influence the bond market. You cant do anything about that, but its worth knowing: Bad economic or global political worries can move mortgage rates lower. Good news can push rates higher.
What you can control are the amount of your down payment and your credit score. Lenders fine-tune their base interest rate on the risk they perceive to be taking with an individual loan.
So their base mortgage rate, computed with a profit margin aligned with the bond market, is adjusted higher or lower for each loan they offer. Higher mortgage rates for higher risk lower rates for less perceived risk.
So the bigger your down payment and the higher your credit score, generally the lower your mortgage rate.
» MORE: Get your credit score for free
How Are Investment Properties Different From Second Homes
Its important to distinguish between investment properties and second homes because mortgage rules and interest rates are different for each type of property. The biggest difference between the two is that you must occupy a second home for at least part of the year, while you the owner dont live in an investment property.
A second home or vacation home might count as an investment property if you intend to rent it out even for short periods. However, lender policies vary over this.
For example, Fannie Mae lets you rent out a second home provided you occupy it yourself for a period each year, retain exclusive control of the home, and dont rely on your anticipated rental income when you apply. Lenders will also expect a second home to be in a tourist area for a vacation home or a certain distance from your main house if you plan to use it as an occasional residence.
There are three main loan types used to finance investment properties:
- Conforming loans: By far the most common option
- Jumbo loans: Used when the loan exceeds conforming loan limits
- Government-backed loans: Used only when you occupy one unit yourself and rent out the others
Most of those seeking investment property loans will require conventional mortgages. The majority of these are conforming mortgages, meaning they conform to lending rules set by Fannie Mae and Freddie Mac.
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Generating Income With Investment Properties
In 2019, the average gross return of house flipping purchasing, renovating and quickly reselling homes was 39.9%.
In other words, the average house-flipper earned $39,900 for every $100,000 invested.
The average return on rental properties in 2019 was 15%. This means the average buyer of a $500,000 apartment building earned $75,000 in a single year!
By contrast, the average stock market return over the past 50 years was about 8% while the average investors return on mutual funds was between 4-5% over the last 30 years.
In this article:
Investment Property Loans Vs Residential Property Loans
If you choose to go the conventional loan route which many people do when buying investment property you should know that this type of financing differs from residential loans in some key ways.
- Limited down payment options
- No government-backed loan options
- Appraisal review may be less forgiving
At the end of the day, your mortgage lender wants to minimize risk as much as possible. Lenders are going to be very judicious about who they choose to extend investment property mortgages to because borrowers will need to carry two mortgages at once.
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Opt For A Larger Down Payment Where Possible
Whenever possible, reduce the interest rate in exchange for a larger down payment. In some cases, it might also make sense to pay upfront fees to lower the rate. If you apply for a big loan, and plan to hold the property for a long time, paying upfront fees and/or a higher down payment could trim thousands of dollars from your repayment total.
Why Is A Short Term Loan Better
The biggest advantage of a 15-year mortgage is the interest rate is less than a 30-year loan. The difference in rates changes daily and varies with different banks, but a 15-year loan is usually about .5 percent less than a 30 year fixed mortgage. With a lower interest rate, you are paying more towards the principal and less towards interest.
Some people think the biggest advantage of 15-year loans is the shorter length of the loan. I dont agree because you can pay a 30-year loan off early if you want too. You will have a higher interest rate, but .5 a percent is not a huge rate difference, especially when you consider how much you can make buying more properties.
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Don’t Forget About Debt Coverage Ratio Requirements
The requirement for Debt Coverage Ratio varies from one lending institution to another. Some institutions will use rental offset for qualifying purposes, while other lending institutions will use a 1.10% debt coverage ratio â arrived at by dividing the net operating income by the debt service.
What does rental offset mean? A lending institution will calculate 50%-70% of the rental income and off-set it against the principle, interest and tax mortgage payments you would make on the property. Any rental ‘shortfall’ of this calculation will be included in the Debt Ratio, and a rental ‘surplus’ would be added to your net worth.
For example, assume a rental property with a PIT of $1432 and rental income of $2000. Then take 70% of the $2000 income and deduct that from the PIT . The shortfall of $32 is then added to your Debt Ratio.
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You Can Invest The Extra Cash And Get A Better Return
Mortgage rates are historically low. I recently refinanced my rental property to 3.5%. Instead of paying off my low-interest mortgage, I would rather invest the cash in the stock market or buy another rental property both will give me a higher return than 3.5%.
Also, the interest rates will undoubtedly increase in the future. Although CD rates are still low, if in a few years CD rates jump back to 3.5% or higher, it is still definitely a better idea to save the cash in a CD than of paying off the mortgage.
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Investment Property Mortgage Types
If youre looking for the best investment property mortgage rates to finance your second home, you should know which types of loans you can take out. Here are your options:
- Conventional Loans: This is the standard loan, sometimes referred to as a conforming loan. The 30-year mortgage rate averaged 4.41 percent for a conventional loan for a primary residence. The typical down payment is from 15 to 20 percent.
- Government-Backed Loans: These are great for real estate investors who invest in a multi-family home, live in one unit and rent out the others. You can choose from an FHA loan or a VA loan depending on the requirements you meet. 30-year VA mortgage rates averaged just 4.20 percent. FHA mortgage rates averaged 4.49 percent. The great thing about these loans is how low the down payment is- as low as 3.5 percent for FHA and 0 percent for VA.
- Commercial Loans: These are better suited for financing bigger investment properties with more than 5 residential dwelling units. They are more expensive and have different rates. Learn more about commercial real estate investing.
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Tips For Getting The Best Investment Property Mortgage Rates
Even small differences in interest rates can add up to thousands of dollars over the full period of your mortgage. The mortgage interest rates for investment property depend on certain characteristics lenders look for when assessing a borrowers application for lower interest rates.Here are some tips for getting better interest rates.
The Driving Force Behind Mortgage Rates
Mortgage rates are a substantial element of the home buying process. While you likely know what a mortgage rate is if you have begun your home purchase journey, understanding what drives those rates may not be familiar territory.
The average interest rates affixed to home mortgages often fluctuate based on a few different factors. Understanding these can help you better comprehend when your chances increase for a lower interest rate.
How To Finance A Rental Property
Choosing a Loan Type
So, you are looking to finance a rental property and you want to compare investment or rental property mortgage rates. What are your options? You basically have three different types of rental loans, including:
Agency or qualified mortgage Bank portfolio mortgage Non-bank, non-qualifying mortgage
An Agency Loan is eligible to be purchased or guaranteed by Fannie Mae or Freddie Mac, often referred to as GSEs or government-sponsored enterprises. When you think of this type of mortgage, you should think about the process you underwent in obtaining the mortgage on the house you call your home.
You will qualify based on your ability to repay the loan from all of your sources of income along with the strength of your credit. As part of the underwriting process, youll need to provide pay stubs, tax returns , bank statements, retirement states, and brokerage statements.
A Bank Loan is not eligible for sale to or guarantee by a GSE, so the bank has to hold the loan on their balance sheet in their own loan portfolio. Most local banks focus on financing commercial real estate and small businesses. Some allocate a portion of their assets for residential mortgage lending, including on rental properties. Often these loans are reserved for existing customers.
If youre interested in beginning the rental property loan process, contact us today to get started.
Comparing Investment or Rental Property Mortgage Rates
Investment Property Mortgage Requirements
Mortgage lenders get to set their own requirements. And the guidelines for investment property loans are usually stricter than for a primary residence.
Though rules vary by lender, here are the broad guidelines you can usually expect to see for an investment property mortgage.
- Minimum down payment: Often 15%, though some lenders still require 20%. Youll get better rates with 25% down
- Minimum credit score: 680 with a 15% down payment 620 with 25% down
- Maximum DTI: This is your debt-to-income ratio. Typically, your non-housing debts should be no greater than 28% of your gross monthly income. And your total debts plus housing costs shouldnt exceed 36%. But some lenders are less strict, often allowing 36% and 45% respectively
- Cash reserves: Many lenders want you to have cash reserves that are sufficient for you to cope for six months without rental income
- Loan limits: Government-backed mortgages and conforming mortgages have limits on the amount you can borrow. These vary according to local home prices
- Documentation: Expect lenders to request two years of tax returns, two years of W-2s, and two months of bank statements at a minimum
In addition to your finances, mortgage lenders will also evaluate the property you hope to buy.
What Is A Fixed Rate Home Loan
Fixed rate home loans have a fixed interest rate for a set period of time. That means the interest rate you pay on your home loan doesnt change during that period.
Home loan interest rates can go up or down at different times, so fixing your home loan interest rate can provide greater certainty. If interest rates were to increase, you would continue to pay your lower fixed rate for the duration of the fixed period. However, if interest rates were to fall, you wouldnt be able to benefit from the reduction during your fixed rate period.
The fixed interest rate that will apply to your loan is the rate which applies on the day your loan is drawn down. If there is a great fixed interest rate on offer at the time of your loan application and youd like to secure that rate, talk to your lender about whether applying to lock in that rate is an option for you .
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Tips For Managing Your Housing Costs
- Work with a professional. While financial advisors typically associated with investment advice, they can also evaluate your housing costs and help you potentially find savings in your budget. Finding a qualified financial advisor doesnt have to be hard. SmartAssets free tool matches you with up to three financial advisors in your area, and you can interview your advisor matches at no cost to decide which one is right for you. If youre ready to find an advisor who can help you achieve your financial goals, get started now.
- Mortgage rates are more volatile than they have been in a long time. Check out SmartAssets mortgage rates table to get a better idea of what the market looks like right now.
- Consider your options. Dont know whether now is the time to buy or continue renting? SmartAssets Rent vs. Buy Calculator can help you determine which is the better financial move based on where you live.
- Dont forget about property taxes. If youre thinking of buying a home, dont forget to consider property taxes. Depending on where in the U.S. youre planning to buy, property taxes can vary dramatically. Use SmartAssets Property Tax Calculator to get a sense of how much your annual tax bill may be.
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