Ben Grise, Owner-operator ofInvestWithBen.com, where everyday people invest in highly discounted properties and private mortgage notes.
Despite the turbulence of the pandemic-impacted economy, real estate continues to be a profitable investment. Home prices rose significantly last year, caused primarily by several factors on the demand side. The new work-from-home economy has driven increasing numbers of adults to move out of high-cost areas and work remotely.
Additionally, interest rates have held steady at record lows and, according to Fannie Mae, are expected to remain low in the future. Many experts predict that these trends will continue for the next several years, making the potential profit of real estate investment an exciting opportunity.
If these factors have convinced you to invest in real estate, then maybe you’re wondering: How can I finance a real estate investment? Real estate is a great investment but can come with a steep upfront price tag. Fortunately, you have several options.
Option 1: Finance your property with cash.
First, you could pay the full price for the property upfront with cash. Of course, this requires having the resources available to do this.
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Pros: Paying upfront significantly improves your opportunity to purchase real estate since it removes any financing question doubts in the seller's mind. Paying cash enables you to acquire properties at significant discounts in exchange for the convenience cash offers. In addition, paying cash saves buyers a lot of money in interest expenses that come with private, hard-money or conventional loans.
Cons: This one is all about risk versus reward. Paying in cash is a safer, more conservative approach, but it caps your potential gains. Think about it this way: If you invest $250,000 in cash and then rent the property for $2,000 per month, you’ll see $24,000 in gross revenue per year, or a 9.6% gross return on investment. Alternatively, if you make a $50,000 down payment, then take out a 30-year mortgage at 5%, you’ll pay $977 per month in principal and interest. Rent that property for $2,000 and subtract the mortgage payments, and you have an annual gross revenue of $12,276 — nearly 25% gross return on the initial $50,000 investment in just the first year. Although this explanation is oversimplified, it illustrates the leverage that your money can give if you choose other financing options.
Paying with cash certainly provides security and stability, but removing the risk dramatically reduces the potential reward.
Option 2: Finance your property with a private individual lender.
Private individual lenders are lenders who operate outside of financial institutions. They make a profit generally by lending money to those who increase the value of their investment properties.
Pros: Private lenders tend to be far more flexible than traditional institutions, both with who they are willing to lend to and how quickly they can provide funds. If they see you as a good investment, you can reap a host of benefits. If you don’t fit a typical mortgage profile (e.g., your credit is bad), this might be ideal.
Cons: Private lenders tend to have higher interest rates than banks, especially if they take on credit risk that a bank was unwilling to take. Additionally, you may need to do some work to build up a private lender network to fund your efforts.
Option 3: Finance your property with hard-money loans.
Some borrowers take this approach with private lenders. It's called a hard loan because it relies on a hard asset — in this case, the property. This loan is a form of a bridge loan, a short-term deal that provides funds until either the house can be sold or a more traditional funding stream can be secured.
Pros: Hard money loans can get approved in as little as seven days, allowing investors to move quickly on a property. Borrowers can obtain the funds needed to purchase and repair a house with little upfront cost, making it a good option for fix-and-flip investors.
Cons: The interest rates for hard money loans can be significantly higher than traditional mortgages. These loans require you to know what you are doing. If you are unable to complete the repairs on time (typically within six to 18 months), then you could be stuck paying higher rates or, worse, you could walk away with nothing.
Option 4: Finance your property with conventional bank financing.
This is the most common form of financing. In this case, a financial institution lends money to the borrower based on credit history and ability to pay off the loan in the future.
Pros: Although investment property interest rates are higher than loans for a primary residence, this option tends to have a lower interest rate than using a private lender. Also, as detailed above, financing through a bank can maximize your potential profit based on how much cash you have available for a down payment.
Cons: One of the potential problems is risk. In the event of a rental property vacancy, having a mortgage payment can quickly eat into your profits. Banks also have a much longer approval process and much stricter lending profiles than private lenders, and borrowers are limited on how many conventional mortgages they can have open at a time.
Which option is right for me?
The answer is it depends. Two primary factors will determine the best choice: your unique financial situation and your ultimate goal for the property. I prefer to finance with cash or individual private lenders because of the speed and flexibility both provide. For those doing a fix-and-flip, a hard money loan could be a good option. If you plan to buy and hold a property, then the most profitable decision may depend on how much cash you have available to you and how risk-averse you are.
No matter how much cash you have on hand, however, investing in real estate is possible. Exploring one of these financing opportunities can help you get in the game and begin maximizing your money as quickly as possible.
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As an expert and enthusiast, I don't have personal experiences or expertise. However, I can provide information on various topics based on reliable sources. In this case, I can provide information related to the concepts used in the article you shared.
The article discusses different options for financing a real estate investment. It highlights four options: financing with cash, financing with a private individual lender, financing with hard-money loans, and financing with conventional bank financing. Let's explore each option in more detail:
Option 1: Finance your property with cash
Paying the full price for the property upfront with cash is one option for financing a real estate investment. This approach eliminates any financing questions in the seller's mind and can potentially lead to acquiring properties at significant discounts. Paying in cash also saves buyers money in interest expenses that come with private, hard-money, or conventional loans.
Pros:
- Improved opportunity: Paying upfront significantly improves your opportunity to purchase real estate.
- Discounts: Paying cash can enable you to acquire properties at significant discounts.
- Savings: Paying cash saves buyers money in interest expenses.
Cons:
- Capped potential gains: Paying in cash is a safer, more conservative approach, but it caps your potential gains.
- Risk versus reward: Paying with cash provides security and stability but removes the potential for higher returns.
Option 2: Finance your property with a private individual lender
Private individual lenders operate outside of financial institutions and make a profit by lending money to those who increase the value of their investment properties. They tend to be more flexible than traditional institutions, both in terms of who they lend to and how quickly they can provide funds. This option may be ideal for individuals who don't fit a typical mortgage profile, such as those with bad credit.
Pros:
- Flexibility: Private lenders tend to be more flexible than traditional institutions.
- Credit profile: Private lenders may be willing to lend to individuals with bad credit.
Cons:
- Higher interest rates: Private lenders often have higher interest rates than banks, especially if they take on credit risk that a bank was unwilling to take.
- Building a network: Building up a private lender network may be necessary to fund your real estate investment efforts.
Option 3: Finance your property with hard-money loans
Hard-money loans are a type of loan that relies on a hard asset, such as the property itself. These loans are often used as bridge loans, providing short-term funds until the property can be sold or a more traditional funding stream can be secured. Hard-money loans can be approved quickly, allowing investors to move quickly on a property. They are popular among fix-and-flip investors who need funds for purchasing and repairing a house with little upfront cost.
Pros:
- Quick approval: Hard-money loans can get approved in as little as seven days, allowing investors to move quickly on a property.
- Low upfront cost: Borrowers can obtain the funds needed to purchase and repair a house with little upfront cost, making it a good option for fix-and-flip investors.
Cons:
- Higher interest rates: The interest rates for hard-money loans can be significantly higher than traditional mortgages.
- Time-sensitive: Hard-money loans typically require completing repairs within a specific timeframe, usually within six to 18 months.
Option 4: Finance your property with conventional bank financing
Conventional bank financing is the most common form of financing for real estate investments. In this case, a financial institution lends money to the borrower based on their credit history and ability to pay off the loan in the future. While investment property interest rates are higher than loans for a primary residence, this option tends to have lower interest rates compared to private lenders. Financing through a bank can maximize potential profit based on the amount of cash available for a down payment.
Pros:
- Lower interest rates: Conventional bank financing tends to have lower interest rates compared to private lenders.
- Maximized potential profit: Financing through a bank can maximize potential profit based on the amount of cash available for a down payment.
Cons:
- Risk: In the event of a rental property vacancy, having a mortgage payment can quickly eat into profits.
- Approval process: Banks have a longer approval process and stricter lending profiles compared to private lenders. Borrowers are also limited in the number of conventional mortgages they can have open at a time.
Ultimately, the best financing option for a real estate investment depends on your unique financial situation and your ultimate goal for the property. Factors such as available cash, risk tolerance, and investment strategy should be considered when making a decision.
Please note that the information provided is based on the article you shared and should be further researched and verified for your specific circ*mstances.
