When you find a great investment property, it is time to start finding the ways you can finance the property so that you can grab it while it is still available.
If you are scrambling for a down payment, you may consider using the equity in your current home to invest in the new property.
Is it legal? Perfectly.
Is it the right decision? That depends on the property that you want to purchase.
Benefits of Using a Home Equity Loan to Purchase an Investment Property
Before you decide to use your home equity to purchase an investment property, you must look at the benefits and drawbacks of the process.
PROS:
- Using the equity in your home, you can receive a large lump sum of money. This can enhance your down payment which can help reduce the monthly payment on the new property and may even help reduce the interest rate. This will also provide you with some extra money to work on the new property if necessary.
- A larger down payment can also open more doors to lenders. Financing a second property can be more challenging than a personal home. This is especially true for a first investment property. Having a large down payment will encourage more lenders to work with you.
- Home equity loans are processed much faster than regular mortgages, so you will be able to access this money faster to purchase the investment property.
CONS:
- As of 2018, you can no longer claim the interest you pay on a home equity loan on your taxes unless the loan was used to make improvements to the home the loan is against.
- You are using all of the available money in your current home to make the purchase. You are turning an asset into debt, at least for a short time.
Points to Consider When Using Home Equity To Purchase An Investment Property
Are the Payments Affordable?
When you are buying an investment property, is it understandable that the property will not turn a profit immediately. If it is a rental property, you may have to make repairs to make it tenant-ready.
If it is a property you will develop, it will take a while before you see any profit. Remember – you will have 3 mortgage payments for a while until the line of credit is repaid.
What Is the Intent of the New Property?
Are you purchasing the property for a long-term investment, or is it for a fix and flip situation? Why does this matter? Because you will be making three mortgage payments, and you want to make sure that you have a plan to make the most profit from this situation.
Have You researched the Market?
The housing market is always changing. Make sure that when you come across a great investment opportunity that it is, in fact, a great investment opportunity.
If the market is starting to take a downward turn, the great opportunity may actually be someone bailing out before the market drops considerably.
You are taking out a second mortgage on your personal home.
You want to make sure that you have done all of the research necessary before you invest in another property so that you do not find yourself saddled in debt with a bad real estate market going on.
If property values drop, it may be harder to resell the property or to find renters at the price you need to cover your mortgages and still turn a profit.
Understanding A Home Equity Loan
A home equity loan is exactly what the name states. It is a loan against the equity you have built in your current home. As you pay down your mortgage and as home values increase, the equity in your home can grow rapidly.
For many, the equity in their home is a safe haven. It is an available asset that can help pay for large repairs such as a new roof or other large home improvement projects.
Some people have used their home equity to finance college for their children or cover large medical expenses. Some people allow the equity to build for when they retire and sell their homes.
However, others see their home equity as a chance to build their wealth and use this available money to invest in things like real estate.
Equity is determined by taking the home’s current value and subtracting the amount owed on the current mortgage.
This will require the home to be appraised, and establishing a home equity loan or home equity line of credit will go through many of the same steps as a regular mortgage.
Since the property is not changing ownership, things like title searches and some transference documents will not need to be conducted or prepared. This will reduce the time it takes to get approved for the loan and the overall preparation costs.
Depending on your lender, you will have the following options for a home equity loan:
Lump Sum Loan
This type of home equity loan will provide you with a lump sum for the loan. At this time, you can put the money in the bank and use it how you see fit. If you are purchasing an investment property, this is what you can use to make your down payment.
You may even consider holding some back so that you can make any upgrades or repairs necessary to the property.
Many people prefer the lump sum loan package because this type of loan usually comes with a set internet rate and monthly payment amount.
Many people prefer to know exactly what they will have to pay for the loan, whether they use all the money at once or they let it sit in their account until they are ready to make a purchase.
Home Equity Line of Credit (HELOC)
A home equity line of credit is a type of loan that basically gives the loan holder a checkbook, and the person can make draws against the equity of the home whenever they want.
A HELOC is only good for up to 90 percent of the home equity value in most cases.
This type of loan has its benefits because you only make payments on the amount that you use each month. So, if you needed it to cover a medical bill and then paid it off over two months, the amount available would increase back to the original loan amount.
However, the interest rates are often flexible on these types of loans, and you may use it one month when it is low, and the next time you need it for a much larger purchase, the interest rates are higher.
If you are using this type of loan for an investment property, the benefits will be that each time you make a payment, more money will become available in the line of credit again. This can be helpful in the future.
Once you have secured the home equity loan and know what the terms are for use and repayment, you will be able to use this money to secure your investment property.
My Final Thoughts on Using Home Equity to Buy Investment Property
A home equity loan can be a handy tool in helping you create wealth through investment properties.
If you take the time to do a little research on the type of loan, you will use and the real estate market, you could be on your way to making money from investment properties.
All investment properties should be approached with caution.
Sometimes a too-good-to-be-true is exactly that. You will want to make sure that you are really getting a good deal for your investment and not relieving someone else of a problem property.
I would love to hear your thoughts about your experiences using home equity loans to purchase investment properties.
Please leave your thoughts in the comments section below. Thank you very much and have a great day.
