The idea of investing in a rental property is often an appealing idea for homeowners. Rental properties can be a great source of additional income and a smart financial investment. However, there are many differences between a mortgage for a rental property and a traditional home mortgage. Homebuyers should be aware of these important contrasts if they want to consider investing in rental property:
The interest rates of rental property mortgages are slightly higher than those of home mortgages – about 0.25 to 0.75 percent higher than those of home mortgages, according to Mashvisor.
This is not a colossal difference in a vacuum, but when financing a house with a hefty price tag, this rate uptick will likely be noticeable. The reason that rental mortgage rates are higher is to increase lender security. From such a standpoint it's only logical, as investing in a rental property is not as necessary as purchasing a home to live in. However, despite the steeper rates, rental property mortgage expenses are tax-deductible.
Some of the greatest differences between rental and traditional mortgages are the requirements that lenders hold for those seeking mortgages. An especially important factor for lenders is credit score. In the case of rental property mortgages, lenders generally require a higher credit score. This is primarily due to the fact that with more pre-existing loans that someone already has, lenders become stricter about credit requirement, Money Under 30 described. Again, this has to do with lender security and risk minimization.
Though many buyers are unaware, there are two credit cutoffs declared by Fannie Mae when it comes to the number of property loans a buyer holds: The lower of these pertains to those owning one to four properties, while the higher refers to individuals who own between five and 10 homes or apartments for rent.
Another important difference in the financing of rental properties and traditional homes has to do with the amount of money a buyer already has in store. Mashvisor described that lenders always require buyers to have six months worth of cash reserves dedicated towards the first six mortgage payments. This means it is crucial for rental property buyers to begin financial planning ahead of time, so as to guarantee that they have access to this quantity of money when they approach a lender for financing.
Similar to the credit score requirements for rental property loans, down payments for these properties are dependent on the number of properties a buyer already holds, Mashvisor noted. In general, any down payment on a rental property will be equal to if not steeper than that for a traditional property, starting at 20 percent. This figure increases as the number of properties owned increased and is also affected by whether a rental property is single or multi-family.
The nuances of financing a rental property are important for any buyer to keep in mind, so as not to be blindsided by the differences between rental mortgages and traditional mortgages. Keeping these factors in mind will prepare buyers for making successful investments in rental property.