Real estate is a very lucrative investment option. Although it can be very profitable, one must proceed with caution, especially when it comes to financing the investment. Whether you are buying or selling a property or simply investing in the same, a comprehensive understanding of real estate financing can help you open the door to a host of opportunities in the real estate market. In the following sections, we will be discussing the nuances of real estate financing and explore some of the most secure financing options for property investors in real estate deals.
Understanding real estate financing
First things first, what does real estate financing mean? Essentially, this refers to the sources from which property investors secure the funds to invest in real estate. Although it can be applied to residential real estate, it mainly deals with financing for real estate deals that investment properties. It is a form of loan given to the borrower (property investor) and is repaid from the income from the rental property. It is how investors secure funds to invest in real estate.
You do not have to necessarily have a large cash reserve to be able to invest in real estate when a wide range of financing options are available to you. However, before securing these, it is important to understand how they work, as well as their pros and cons. This is because not all forms of financing can work for every investment situation.
There are many different ways in which an investor can secure financing for a property he/she is interested in. The most common way is through a conventional bank loan. While this may be the most common method, it is certainly not the only one. For instance, a lot of people also prefer using cash upfront to finance their investments. Both cash and bank loans are the most well-known ways of securing financing for property investments.
Real estate financing options for property investors
We have explained some of the most commonly pursued as well as safe financing options property investors have access to when it comes to real estate deals. It is important to understand that depending on the kind of property and investment, a particular financing option may work out. The same option may not work for other types of properties. This is where a thorough knowledge of the ins and outs of the market comes into use.
1. Mortgage
A lot of property investors tend to think that traditional mortgages can only be used to finance personal or residential real estate. The truth is, a mortgage can also be secured to finance investment property. All you need is money on hand for the down payment and closing costs before your application can be approved. Of course, you would need to meet the regulatory financial guidelines before you can apply for a mortgage.
There are numerous advantages of a mortgage. One of the most glaring ones is the lower rates of interest compared to other kinds of loans. This is why a traditional mortgage remains one of the most sought-after and secure financing options for property investors in the real estate market.
2. Hard money loan
These are given by professional money lending organizations. These loans are backed by the value of the property instead of the creditworthiness of the borrower. This is why hard money loans have lower loan-to-value ratios as compared to traditional loans and they also have higher rates of interest than most other forms of financing. They are usually known as the loans of last resort for this reason.
These are generally used in the short-term, mainly when the investor is in the process of securing long-term financing.
3. Private money loan
These loans are very similar to hard money loans, hence the terms are often used interchangeably. However, there is a considerable difference between the two, mainly because the loans are given by people who know the investor personally, as opposed to hard money loans where the loans are given by professional lenders. For example, networking contacts, acquaintances, relatives and co-workers can forward a loan to the property investor, and this would be a private money loan.
Since this is an informal form of financing, the terms of repayment as well as the interest rates are often very attractive. This is because the lenders usually have a vested interest in the investor.
4. Portfolio loan
Portfolio lenders offer specialized loan packages with different criteria requirements for income, credit and debt, than traditional mortgage lenders. This is because they do not sell the mortgages to bigger institutions, rather, they keep mortgages in-house for the term of the loan.
Usually, portfolio lenders are local financing institutions that loan their own money, since they do not meet regulatory requirements or guidelines. While this allows them to be more flexible, they do not offer long-term loans that traditional mortgage lenders offer.
5. Lease options
Also known as rent-to-own purchases, lease options can be among the easiest way to finance properties without the approvals of banks or lender requirements. In this method, a portion of the rent or lease is applied to the agreed purchase amount for the property. The property investor is not obligated to purchase the property, he/she simply has the option to do so. Usually, sellers looking to receive monthly payments while maintaining control of the property while it is being purchased offer this option.
6. Seller financing
Direct buyer-to-seller deals can lead to mutually beneficial as well as quick transactions, which also let the buyer avoid bank-related closing expenses. This is known as seller financing. In this method, the seller usually holds the option of selling the promissory note.
The bottom line
We have discussed secure financing options for property investors apart from traditional bank loans and cash payments. The advantages of using these financing methods are endless because they can provide a virtually unlimited supply of money for your investments. Moreover, the options are usually quite flexible with negotiable conditions. However, the interest rates on these options are generally on the higher end. Nevertheless, these are still considered lucrative as well as safe options because every property investment scenario is different, hence, they need specialized financing methods.
