Buying an investment property is a substantial expense. Most new real estate investors finance their investments with conventional mortgages.
And to get a mortgage, you need to make a down payment, a substantial expense itself.
What is a down payment?
It is an upfront payment you have to make to secure financing for substantial purchases, such as real estate and other assets.
Lenders often require down payments before they issue loans, whose terms, interest rates, and payment amounts are determined by the amount of the down payments.
In other words, the amount you spend on your down payment determines how much your interest and payments will be and how long you have to pay back the loan.
Your down payment on a property immediately becomes your equity in that property.
Should you put 5 percent, 10 percent, or 20 percent down?
Usually, the bigger the amount you put down, the better. You might qualify for lower interest rates if you make a bigger down payment. Also, you may waive the requirement to pay for private mortgage insurance (PMI). Bigger down payments also typically mean smaller monthly mortgage payments, more starting equity, and more future borrowing power.
The typical down payment requirement to get most conventional mortgages is 20 percent. If you put down 20 percent or more, you’ll avoid having to pay PMI. But 20 percent is a significant expense for many new investors.
Many lenders offer mortgages with smaller down payment requirements — some as low as 10 and even 5 percent — but your monthly payments will be more and your interest rate higher, and you’ll have to pay PMI.
Can you get a mortgage with a smaller down payment?
You can get a Federal Housing Administration (FHA) loan, which requires a down payment of only 3.5 percent, to invest in real estate. But there’s a catch: you must live in your investment property.
Most investors relying on FHA loans buy multiunit houses, live in one unit, and rent out the others. You can get an FHA loan to buy a duplex, triplex, or fourplex, too, as long as you live in one of the units.
Can you borrow your down payment for an investment property?
You can get a personal loan to cover the cost of a down payment, but many mortgage lenders may see your down payment loan as a red flag since they see borrowers with excessive debt as risky borrowers.
Usually, new investors without the cash to fund a down payment will tap into their retirement accounts (such as a Roth IRA), their friends or family members, investment partners, or a home equity line of credit or home equity loan.
The bottom line
You don’t have to get a conventional mortgage to finance a new investment property. You can get an FHA loan, borrow hard money or private money, use funds in a self-directed or Roth IRA, and use 100 percent of your own cash savings, if you have it. If you want to know more about investing in real estate, head over to this article.
