There is no doubt that securing financing for a rental property is complicated. Investments are a higher risk than a standard home mortgage, and to secure financing, borrowers need to have a healthy down payment and the stamina to undergo a rigorous underwriting process.
Once you know the process, securing capital is actually easy. In the lending world, housing investments are considered stable, and many lenders have dedicated financing options and loan products available that fit a wide range of investment needs. Here are our top five investment loans for your next deal.
Freddie Mac and Fannie Mae are ferderally-backed mortgage companies, and together, they own a tremendous share of the origination market for rental property investments. The two agencies lend on single-family homes and multi-unit and apartment properties.
For single-family home investments, both Freddie and Fannie lend up to 85% LTV, meaning that prospective investors can secure an investment property with only a 15% down payment. This is an attractive option for investors with little upfront capital or investors operating in a high-barrier-to-entry market. House hackers—a term for owners that plan to live onsite—can also buy a two-unit property through Fannie and Freddie with a 15% down payment.
The agencies are also the top choice for investors of apartment buildings. Last year alone, they provided more than $148 billion in apartment loans. Each agency has a separate loan product for apartment investments.
Freddie Mac Multifamily’s Optigo program provides conventional and small balance apartment loans as well as financing for targeted affordable housing and senior housing. Borrowers can secure a loan-to-value of up to 80% for apartment investment properties larger than five units. The small balance program provides loans of up to $7.75 million, while the conventional program provides $5 million to $100 million loans with fixed-rate, floating-rate and value-add products available.
Fannie Mae provides apartment loans for as little as $750,000 for apartment investments with terms of up to 30 years. The agency has conventional financing structures as well as specialty financing for niche asset classes, like student housing, senior housing and green remodels.
In addition to agency loans, traditional banks originate balance sheet loans for housing investments. These loans—as the name implies—stay on the bank’s balance sheet, and the bank services the loan. As a result, the terms can vary widely from bank to bank; however, borrowers should expect a minimum 20% down payment. Bank balance sheet loans are also typically full recourse, which means the borrower is personally liable for the balance of the loan beyond the pledged collateral, in this case the property. While that creates more risk for the borrower, it also mitigates some risk for the bank and can be a pathway to qualify for financing.
Life Insurance Company Loans
For investors looking to buy a large apartment building, life insurance companies have recently become a major player in the commercial debt markets. While life company loans were once reserved for institutional borrowers, they are now available to a broad spectrum of borrowers and are considered an alternative to the agencies. Like agency loans, they are non-recourse with standard carve out terms and competitive interest rates; however, life company loans generally have a $2 million minimum loan size with a 75% maximum loan-to-value. Life companies also target quality real estate, so niche multifamily investors, like those investing in tertiary markets or affordable properties, might have a harder time securing financing.
Commercial real estate investors—those buying retail, office and industrial properties—are generally the audience for CMBS loans, but in the last year, CMBS popularity increased substantially for housing borrowers. Like life insurance companies, CMBS loans are an option for buyers interested in apartment properties, not single-family homes. Last year, CMBS issuances for apartments doubled over the previous year to $12 billion, and it isn’t hard to see why. CMBS loans have a lot of benefits: they are non-recourse; have long terms of up to 30 years; have competitive interest rates; and they have flexible underwriting and loan-to-value requirements, making this an attractive option for borrowers that might not meet more conventional loan standards. However, it isn’t all sunshine. CMBS has been criticized for its servicing issues. Once the loan is securitized, a third-party known as the master servicer services the loan. The master servicer has relatively little authority to modify the loan outside of the original terms. If for any reason there is a problem with the loan—say, for instance, there is a global pandemic and the asset’s cash flow decreases—the loan goes into special servicing automatically and is considered distressed.
Hard Money Loans
Hard money loans are a short-term alternative and non-traditional financing option for borrowers that need immediate access to capital and flexible loan terms. Any property type—from single-family to large apartments—is fair game. Borrowers secure hard money loans to bridge a financing gap and then refinance into a conventional mortgage, usually within one to five years. The funding can be available within days, but the cost of capital is much higher than a traditional loan. Borrowers shouldn’t be surprised to see rates as high as 12% to 15%. Despite the cost, there are a handful of reasons why hard money loans play a crucial role in the capital stack. Investors buying a distressed asset or a bank sale might need in-hand proceeds to secure the deal, or investors playing in the value-add space might need a bridge loan to acquire a property that does not meet the standards of a traditional bank. If you are looking at hard money loans, a word to the wise: hard money lenders operate beyond regulatory purview, so do your due diligence before striking a deal.
If your cash reserves don’t fit the financing requirements above, there is still a wild card to play. FHA loans can serve as an affordable entry point into housing investment. FHA lends on owner-occupied properties of up to four units. So, if you buy a fourplex with an FHA loan, you could occupy one unit and rent the remaining three. You have to live in the property for a minimum of two years before you are able to move and rent the remaining unit, and you have to pay mortgage insurance—which can be a steep fee. On the upside, these loans require as little as 3% down and are available at very attractive rates. For the right property and borrower, FHA is certainly an option to start your investment portfolio.