Strategy-Smart Mortgages For Real Estate Investors
Savvy real estate investors take great care when they finance their purchase of a property because they know the wrong form of financing can turn into a good investment into a cash-flow nightmare while the right loan can make a so-so investment into a winner. The trick is to match the term of the loan to the intended duration of the investment to gain flexibility and lower monthly interest expenses.
Suppose a novice investor wanted to purchase a foreclosure house in need of a substantial rehab. The property is to be repaired and then resold within a few months. A interest-only loan might be a good choice since that type of financing would offer lower monthly payments over the short time frame. The downside is that an interest-only loan--sometimes called "hard money"--often comes with a higher interest rate and higher fees as the price of added flexibility.
Next, suppose the investor wanted to purchase a current rental house that's in decent condition and could be held as a rental for perhaps two-to-four years. An adjustable-rate mortgage with an initial five-year fixed-rate period--sometimes called a "five-year ARM"--might be a good choice because the initial fixed-rate period would allow the investor to hold the property five years without an interest-rate adjustment. By then, the property might be sold, perhaps to the current tenant though a rent-to-own agreement. A renter who has a two-year history of on-time rent payments may be able to qualify for an "FHA loan" backed by the Federal Housing Administration.
Now suppose the investor wanted to purchase a property as a long-term investment to be held in a real estate portfolio. A 30-year fixed-rate mortgage might seem like a good choice. Unfortunately, however, lenders rarely offer such long-term financing for investment property today. Consequently, the workhorse five-year ARM might be a reasonable option, despite the risk of higher payments after the initial fixed-rate period ends.
If conventional financing isn't available due to the poor condition of the property or for other reasons, the investor might consider seller financing, which means the investor pays the seller of the property a stream of monthly payments rather than a lump sum at the time of purchase. This approach can work well with a variety of investment strategies, especially if the seller owns the property free and clear and wants to generate cash flow over time.
Regardless of the financing structure, it's important to understand the terms and mechanics of any real estate loan. If you opt for an interest-only loan or ARM, be sure to find out how the interest rate and payments will be adjusted and take into account the maximum possible rate and payment.
Copyright 2008, HomeVestors of America, Inc. All rights reserved. No part of this article may be used or reproduced in any manner whatsoever without written permission of the author.
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