How To Come up with a Down Payment To Buy an Investment Property?
The first roadblock for any investor looking to buy an investment property is to come up with a down payment if you don’t have enough cash. You have to either wait for many years and save money or figure out some way to come up with a down payment. The Lenders typically require to put a minimum of 15%- 20% down if you need to finance an investment property. So is there anyway, you can come up with down payment fast?
You can come up with a down payment to buy an investment property by either saving cash or by borrowing the money. Saving can take some time but by being a little creative, you can come up with down payment fast. Determine exactly how much down payment is required and then choose the way that suits your situation best.
How Much Money Do You Need For Down Payment?
If you are to buy an investment property using financing, your lender may require you to come up with anywhere between 15%-25% down of your property value. Though it depends on various factors that how much money you exactly need to put down.
- Type and Size Of Property
- Credit Score
- Income to Debt Ratio
- Loan Duration
Closing Costs Increase the Down Payment
When you obtain financing, you spend about 2%-5% of the property value in the closing costs. The closing costs are the fees associated with the loan and your lender requires you to pay these upfront costs along with the down payment. The Closing Costs mostly includes
- Buying Loan Origination Points
- Loan Application Fees
- Mortgage Insurance Premium
- Private Mortgage Insurance
- Property Appraisal Fees
On average, an investor pays about $25,000 in down payments if he has to buy an investment property worth $100,000.
How To Come Up With a Down Payment Fast?
The entry barrier to buying real estate is always on a higher side and hardly people have enough savings to invest in real estate. According to a survey, there are only 16% of people in the US who even consider buying an investment property to rent.
And it is only 23% of that 16 % of people who have saved enough to make the down payment right away. It clearly indicates that a very thin number of people can even afford to pay a down payment. The Data also shows that it takes somewhere about three years for these people to come up with a down payment.
If you see there are only two ways that you can come up with a down payment to buy an investment property.
- Either, you have to save money.
- Or, you need to borrow it from someone in some way.
Borrowing Money necessarily doesn’t mean that you have to ask for money outright from someone. But if you can’t save enough, then you anyway have to use some kind of leveraging to fund your purchase. There are various ways you can come up with a down payment from that route. But such types of financing arrangements do pose some risks especially when you are a first-time investor.
It is always recommended that you have some of your skin when you invest in real estate. Having some of your own money invested in the deal at least for the down payment reduces the risk of over-leveraging. An over-leveraged property can get you to negative cash flow and ultimately foreclosure.
How to Save Money To Come Up with a Down Payment?
It is not as difficult as you think to save money. Also, you need not live below your means if you have to save money. A low income and various debts on your name may seem to be a problem for you. But it can`t be a hurdle in your way to achieving financial freedom. It just needs some planning and a creative mind to save cash.
What is holding you back from Saving Enough?
If you see, the recommended and the safest way to come up with a down payment is to save for it. But you may have your reasons that you feel will hamper you from saving enough. Let us account for some of those reasons.
- Is Your Income Not enough?
- Do you have a Student Loan Debt?
- You are in Credit Card Debt
- Your cost of living is high
Do your reasons resemble any of the above factors? If yes, you still can save enough to come up with a down payment.
What are the Different Ways You Can Save Money to Come up with a Down payment?
1. Start a Side Hustle
Starting a side hustle has the potential to help you earn more than $1100 per month. You can have a fixed 9-5 Job but you can utilize the time between 7 Pm to 2 Pm to start a side hustle. There are more than 50 things you can do to start your side hustle today.
2. Cut Back on Costly Habits
Sometimes habits can become heavy on the pocket. Analyze your lifestyle and try to replace such habits with good ones that are less heavy for your pocket. Doing so, you can easily spare about $200-$300 a month. Some of these money crunching habits can include
- Dining out often
- Going Out For a Movie Every Week
- Eating Out Everyday
- Buying a Coffee at Starbucks Daily
- Monthly Subscriptions to Unused Services
- Driving Everywhere
3. Downsize Your Home
Downsizing your home can increase your current cash flow and help you save a lot of money. You are a couple who is renting a two-bedroom apartment but it can be good to go with a 1 bedroom apartment. Then you should definitely consider downsizing. Doing so you can save up to 40% more from your rent payments. Imagine saving $500-$600 every month.
4. Refinancing Your Current Obligations
Refinancing your high-interest loans with lower interest rate loans can save you a lot of money. You pay higher interest on credit card debts ranging anywhere from 15% to 19% and similarly 4.5% to 7% on student loans. Ask your lender if you can qualify for a refinance for a lower interest rate. Doing so, you can save a good chunk of money.
5. Sell Stuff You don`t Need
You can collect a good amount of money by selling the stuff you don`t need. Having two cars, you can sell one and come up with a down payment from the sold car money. Or, maybe it can some furniture that you hardly use or don`t use at all.
How to Borrow Money To Come Up With a Down Payment?
There are various options available for investors to borrow money and come up with a down payment. As I said earlier, it is very important that you run the numbers on your investment property and ensure you are not over-leveraging the deal.
1. Home Assistance Loans
If you don`t know, you necessarily do not need to put 20% down always to buy an investment property. You can buy an investment property by even putting 0% to 5% down if you can qualify for Home Assistance Loans.
Home Assistance Loans are government-backed loans to enable homeownership in the country. Though the only downside with these loans is it is restricted to buying properties for owner occupancy. However, if you know what a house hacking is, you can fund your investment property purchase. House Hacking generally refers to buying a multifamily investment property where you can occupy one unit and rent the additional units. Though the max cap to the no. of units is four.
Imagine, now you aren`t required to come up with 20% down. How much less money you need if you can qualify for Home Assistance Loans. The two most popular types of Home Assistance Loans are
- VA Loans
- FHA Loans
2. Using 401K or Roth IRA Loans
The most tricky way to come up with a down payment is tapping into your retirement funds but it works, though not recommended unless you are 59 and a half in age. Borrowing from 401K`s or Roth IRA`s works by either taking a loan on the behalf of this account or directly withdrawing money from it.
When you withdraw money from these retirement savings accounts, you incur a 10% penalty on the amount withdrawn if not returned within 60 days. Also, the IRS is very stringent on these types of withdrawals.
The better option if you anyway have to use this way of coming with a down payment is to take a loan on behalf of these accounts. This way you will not incur a withdrawal penalty and can pay back the loan in max 5 years. Also, the max you can take from these accounts is either $50,000 or half the amount available in your 401K or IRA account, whichever is less.
3. No Money Down Loans
You literally can buy an investment property by putting no money down. This means you are longer required to come up with a down payment. So what are these no money down loans and how it works?
The No Money down loans are basically piggyback or second mortgage loans. With these loans, you also obtain a second mortgage along with your primary mortgage to come up with a down payment. The most common type of no money down loans include
- Seller Financing
- Seller Second Financing (80% Conventional Loan, 20% Seller Financing)
- Borrow Money From Hard Money Lenders or Private Lenders
Read: How To Buy an Investment Property using these No Money Down Loans?
4. Equity Loans
The Equity Loans help you to come up with a down payment by tapping into the equity you have built in your primary residence. If you have built equity in your existing house, you can take out that equity and come up with a down payment by using either of these types of Equity Loans.
- HELOC (Home Equity Line Of Credit)
- Cash-Out Refinancing on your Existing Home Mortgage
HELOC is a credit limit that the lender agrees to lend for a certain period where your present home will be put as collateral. It is much like to have a credit card with the limit equal to the equity present in your home.
Likewise HELOC, the cash-out refinancing also helps you access the equity present in your home but in a different way. With refinancing, you refinance your existing home mortgage with a bigger mortgage and use the remaining money to pay for the down payment.
Read: Cash-Out Refinance Vs HELOC to tap into an existing equity
5. Collateral Loans
Collateral Loans are a type of Financing Arrangement with your lender where the lender keeps your existing home with some equity as collateral. Now the lender will have two collateral in the form of your present home and the investment property you are buying for just one loan. Doing so, your lender will feel more secure while lending you the money. And in the lieu of this, the lender can lower your down payment requirements or can waive it off completely.
What are The Minimum Lender Requirements For The Investment Property Loans?
| Minimum Requirement | Credit Score | Down Payment Requirement |
|---|---|---|
| FHA Loans | Above 580 | 3.5% (Above 580); 10% (Above 500); Not Eligible (Below 500) |
| VA Loans | No Such Requirement (Has to be an active Duty Member or Spouse of US Military) | Zero Money Down |
| 401 K Loans | Not Required | Max $50,000 or half the amount in the account (Whichever is less) |
| Private/ Hard Money Lenders | Not Required (But have a min. of 43% Debt To Income Ratio) | Depends on Your Property |
| HELOC | Above 680 | 85% Of Equity |
| Collateral Loans | Not Required (Loan is secured against a Collateral) | 85% of Your Home Equity |
You must have a Good Credit Score
Having a good Credit Score is very important if you need to pay a lower down payment. The lower your credit score is, the more money your lender will require you put for the down payment. Also, it is always better that you ensure the health of your credit report before applying for any of the above loans. A low credit score will not hurt your worthiness to secure a loan but can further affect your credit score.
Check Your Credit Score With Experian!
The Bottom Line
There you have it all the ways you can come up with a down payment to buy an investment property. Also, it is advisable that you shop for a mortgage and see which lender can give you the best rates. Don`t be in a hurry to close your mortgage too fast. Your best bet is you qualify for a mortgage even before you narrow down a property.
Ready to close on your First Rental Property? Here is an article that will guide you step by step on How to Buy an Investment Property to Rent.