Currently, more than 30% of American households are renters. Due to foreclosures, tougher financing rules and a fear of the market among some who might otherwise own homes, that percentage is growing, reversing a trend toward wider homeownership. Whatever the reasons, owning investment properties and multi-unit buildings works: there are tens of millions of American households who need properties to rent.
If you own your own home, you are already a real estate investor. For some, that is enough, but others want more. How do you go about acquiring investment property? At a time when the demand for rental properties is growing, the rules for financing them are getting more restrictive. With bad loans still reverberating throughout the financial system, lenders are sensitive to any loan that appears higher risk and, unfortunately, real estate investment properties are viewed as being just that. One of the best strategies in recent years has been to use your residence as the entry into the next level of real estate investing. Most people who purchase another home usually sell their current one in order to move up to a larger one.
Instead, you could simply keep the first home as a rental property. Many investors have patiently converted a succession of residences to investment homes, steadily accumulating properties whose rents serve as an annuity! This can still work, but like virtually every mortgage financing arrangement, has become more difficult in the current restrictive lending environment.
Fannie Mae has added new requirements: you will have to have 30% equity before you can count part (75%) of the rental income toward offsetting the mortgage payment. If converting your home to a rental is a possibility, advance planning is extremely important. Before you start looking for a new home you need to free up any available equity from the old home for your downpayment and closing costs, as an owner-occupant. Understand that, as a first-time investor, you will be required to maintain substantial reserves, as much as 12 months worth of mortgage payments. If your current home has little equity or is not a viable rental possibility, there is investor financing. Like most mortgage programs, it comes with greater restrictions and higher costs than in the past. With investor financing you will pay more than owner/occupants and the rules have gotten and are getting even tougher if you want to get in with a minimum downpayment.
Freddie Mac has announced that, as of August 8, it will only purchase loans on investment properties where the owner has no more than four other units. Previously, the limit had been ten. Mortgage insurers are pulling away from writing insurance on investment properties, limiting or eliminating programs that allow greater than 80% loan-to-value ratios. Currently, only Genworth and RMIC of the big four MI companies will insure investor purchases up to 90% LTV, and the minimum credit score is 720. A major caveat: though Genworth and RMIC will insure investor loans to a maximum of 90% LTV, even they will not insure these purchases if the property is located in a “declining market.”
None of the major MI companies will insure a 3-4 Unit purchase nor will they insure a condo, nor will they do a cash-out or a rate-term refinance on an investment property. Even with a 20% initial investment (and no mortgage insurance), be prepared for rates that are 0.5 to 0.625 percentage points higher than owner-occupied rates. This translates to an additional 1.5 to 2.5 discount points and can increase further depending on your credit scores.
Understand that these days with less than 20% down you will be at the mercy of a fickle and wary market. Secondary financing is virtually nonexistent for investors, but will return eventually. Investor programs exist, but some require extra effort to find them. Working with an experienced mortgage professional can save you lots of money by finding the right investor financing program to minimize your monthly mortgage cost.
© 2007, Real Estate Information Services, Capitol Assets, Choice Real Estate, Inc. & Choice Finance®
Bob Kearns, Choice Finance®
