Traditional Mortgage Instruments
Let’s begin by looking at the traditional mortgage marketplace. No investor would turn their back on conventional financing, particularly when the mortgage marketplace is good. The problem is, right now, it’s not, which is why I’ll be spending so much time on upcoming posts about alternative financing. Still, it only makes sense for investors to know as much as possible about traditional mortgages, particularly when it’s so tough to obtain conventional money. The more you know, the better off you’ll be when seeking out conventional money.
Traditional mortgages can be broken down into 2 categories:
Government-backed loans underwritten by either the Federal Housing Administration (the FHA) or by the Veteran’s Administration (the VA) and conventional mortgages that are, in essence underwritten by investors.
What’s important to note about FHA loans is that the organization opened it’s doors up more for second home/vacation home purchases over the last decade, and even developed more programs accessible by investors. It’s somewhat the same with VA – programs available for purchases other than one’s primary home are now available.
Conventional lending over the last ten years went absolutely crazy. Qualifications all but diminished, interest rates fell to a low of around 4%, and money was creatively offered by even the biggest lenders. As short as two years ago, it was common to see investor money for 100 to even as high as 125% of the purchase price being offered. But as quickly as those lenient doors opened, they closed within these last two years. Common terms for investor financing today is 10% down, with several months of reserves – and that’s if you are a good credit risk! I will note, however, that the credit markets are easing a bit and some more creative terms are beginning to pop up. I’ve recently seen multiple lenders offering a product based on 70% of the appraisal value as opposed to 70% of purchase price. Thus, if you can buy low enough (or are dealing with a rehab project) you can get virtually the entire thing financed.
To be effective with conventional lending, it’s important to understand and know how to work with first and second mortgages. Most people think that if they want to finance a property with 100% financing, they need a loan for 100% of the purchase price. In reality, the more likely scenario would be a first mortgage for, say, 80% of the purchase price, and a second mortgage for 20% of the purchase price. This is called a blended loan, and the rationale behind them is that in a case of default, the holder of the first mortgage is in a more secure position since the house is worth more than the loan balance. The holder of the second mortgage is in more jeopardy because their loan represent that top 20% that could get wiped out in a foreclosure auction with a low-ball price. That’s why the second mortgage has a much higher interest rate than the first – because it’s riskier.
It’s also important to note two additional things. First, is that the lower the first mortgage balance is to the property’s value, the more likely you will get qualified. In other words, an your chances of getting financed for a 70% first mortgage are higher than for a 90% first mortgage. If you had the 30% in cash to put down, most banks would be willing to talk with you regardless of a lot of negative financial factors you might have. If you don’t have the cash, that’s where the second loan comes in, and the qualification really takes place more on that loan. The next item is that a blended loan will help you avoid the payment of mortgage insurance, which is generally required on a first mortgage with a balance of higher than 80% of the properties value. That’s really an unnecessary expense to your monthly payment and you should look at ways to avoid it.
At any rate, being able to talk coherently and deal in combinations of loans is your route to securing traditional financing for higher loan amounts. You can think in terms of many combinations – here’s just one example: a 70/25/5, which means a combination of a 70% first loan, a 25% second loan, and 5% down.
It’s important to note that blended loans – at least those where both loans were offered by the same lender have virtually disappeared in this credit crunch, but I have faith they will return in short order.
Another piece of the traditional lending puzzle is that of home equity lines of credit and home equity loans. The difference between the two is fairly simple. Home equity lines of credit are much like credit cards. You are extended an open line of credit. You pull from that line as you need it. As you pay down your balance, the payment amount drops and your available balance goes up accordingly. With a home equity loan, it’s a fixed loan, you are loaned the money, and you have a fixed period of time to pay it back, generally with fixed payments.
Both home equity lines and loans are good options because they are relatively easy to qualify for, and in most cases can be had with little to no lender fees. Whereas a mortgage for $70,000 might cost you $1500 in appraisals, title insurance, underwriting and other “junk” fees, a $70,000 line of credit may cost you a mere $300 in underwriting.
The downside to both is that they require an equity cushion in the property – normally you will have difficulty getting a home equity line or loan for more than 90% of the property’s value if it’s a residence, and it’s common right now to see 80% for an investment property. It’s also important to note that they will be at higher interest rates than standard mortgages. Figure a full 1-3% in interest rates over the cost of a regular mortgage in most cases.
One of the great benefits of a home equity line for an investment purchase, is that when you pay down the loan and open up your available credit, that’s money you can access for another purchase.
And, both lines and loans are good ways to pull your own equity out of a property for purchases or other investment needs. One of the really amazing things about holding property over the long haul is that you don't have to sell a property to get cash from it. With sufficient equity, you can refinance and pull out cash and keep the property too! It's a clear case of having your cake and eating it too. Plus, money borrowed in this way is not taxable. If you sell a property, you pay hefty taxes on the profits. If you refinance, it's tax-free money!
Until next time....
Contact me at william@thecoasttocoastinvestor.com if you have any questions you'd like answered.
Wednesday, March 12, 2008
Monday, March 3, 2008
Financing Investments in the Current Climate
Hello everyone, this is Bill Flood, and welcome to another edition of the Coast to Coast Real Estate Investor.
Today, I’m going to begin a multipart series on how to finance properties. Knowledge of creative financing techniques is a dying art, and given the current credit crunch is absolutely necessary to finance your acquisitions. I want to do a brain dump on how to finance deals whether it's with conventional finacing or with the dozens of other techniques that don't involve banks and mortgage companies!
Let's go back 5 or 6 years. With the advent of mortgages at 5%, interest only, and the only qualification being you needed to fog up a mirror when you breathed on it, other forms of financing really fell by the wayside.
But, times are different now, and the sub-prime game is all but over. It’s essentially difficult for even the best qualified investor to get 100% institutional financing for purchase right now. 95% financing is remotely available to those with good credit, income and assets, but even that is shrinking to the point of non-existance. Ten percent down is the norm for those with good credit, and often lenders want 6 to 12 months of payments in reserve. You can see that, right now, institutional financing is problemmatic at best - useless at worst.
Another problem, which is exacerbated by out of state buying is that sooner or later, no matter how qualified you are, you will run into a ceiling on what you can borrow conventionally. So, if you want to continue investing past your own qualification ceiling, you need to find ways other than banks and mortgages companies to finance your deal. Buying a second home with conventional funding is still pretty do-able, so if you haven't pursued a second or vacation home, that's something that should be on your radar. Getting into your first true investment property, on the other hand, will pose lots of new challenges related to financing.
So, the successful national (or local) investor needs a repertoire of tools at their disposal for the financing of property purchases.
Creative Thinking
I am always amazed at the current crop of supposed real estate gurus who are touting that the old-school real estate methods are dead. This self-proclaimed experts want to convince you to buy expensive websites, subscribe to high-dollar leads subscriptions and a myriad of other tools that you supposedly can't live without in the current real estate game. In fact, the reality is that the old school folks had it right all along! Go back to the early books on real estate investing and you will find all you need to be successful investing...over your lifetime. Sure, things change, but the underlying bedrock principles never change.
One of those bedrock skills is having a creative mindset when it comes to making deals - and in particular, to financing properties. Bank financing is not the only way to go, and you need to be open to many different avenues for how you can put a deal together. For example, over the next few editions, I'll be talking about lease options, least purchases, owner financing, credit lines...this list is quite long.
A creative mindset recognizes that there's more than one way to get a job done. It's the old adage of "looking outside of the box" for novel ways of solving a problem. By way of example, could you actually be better off renting a person's property as opposed to buying it? Could there be a way of making payments to the owner at zero percent interest? Could you control a property for several months without having to make payments? These are all the kinds of strategies I'll be discussing.
Win-Win
Another of the old school philosophies that I consider to be bedrock is that your deal making needs to be win-win...that is, to benefit both parties. I'll take that thinking one step further and suggest that your highest and best deal will be found when you uncover and try to solve the seller's problem.
Right now, there are thousands of people all over the country with their budgets strained due to escalating mortgage payments...losing their homes to foreclosure...who had to move out of state to pursue direly needed employment but who've now been saddled with two house payments. You can come in and solve those problems in a way that truly helps the other party while at the same time creates a winning opportunity for you.
This, again, is where I differ from the current crop of gurus who seem to be all about grabbing as much equity as possible so they can flip a property and take a Caribean cruise. I've seen vulture investors who think absolutely nothing about putting the proverbial "little old lady" out in the street through a one-sided deal that benefits them while taking advantage of the homeowner...and there are gurus out there who have no trouble in professing such tactics. That's unfortunate, because you don't have to be a vulture. Win-win always has been, and always will be the best strategy by which to operate your investing, and is the crux of nearly any kind of creative financing. I'll say it again...you don't need to take advantage of people. You will find your highest and best deal by solving the problems of the seller - that your best profit-making solution will be found in the solution of the owner's problem if you have a creative eye.
So come with me over the next couple of weeks and learn dozens of ways to put deals together with and without banks. From this point forward your investing need not be driven by what's going on in the mortgage market!
Get in touch if you have any questions:
william@thecoasttocoastinvestor.com
Until next time, this is Bill Flood, for the Coast to Coast Real Estate Investor. Live your real estate dreams!
Today, I’m going to begin a multipart series on how to finance properties. Knowledge of creative financing techniques is a dying art, and given the current credit crunch is absolutely necessary to finance your acquisitions. I want to do a brain dump on how to finance deals whether it's with conventional finacing or with the dozens of other techniques that don't involve banks and mortgage companies!
Let's go back 5 or 6 years. With the advent of mortgages at 5%, interest only, and the only qualification being you needed to fog up a mirror when you breathed on it, other forms of financing really fell by the wayside.
But, times are different now, and the sub-prime game is all but over. It’s essentially difficult for even the best qualified investor to get 100% institutional financing for purchase right now. 95% financing is remotely available to those with good credit, income and assets, but even that is shrinking to the point of non-existance. Ten percent down is the norm for those with good credit, and often lenders want 6 to 12 months of payments in reserve. You can see that, right now, institutional financing is problemmatic at best - useless at worst.
Another problem, which is exacerbated by out of state buying is that sooner or later, no matter how qualified you are, you will run into a ceiling on what you can borrow conventionally. So, if you want to continue investing past your own qualification ceiling, you need to find ways other than banks and mortgages companies to finance your deal. Buying a second home with conventional funding is still pretty do-able, so if you haven't pursued a second or vacation home, that's something that should be on your radar. Getting into your first true investment property, on the other hand, will pose lots of new challenges related to financing.
So, the successful national (or local) investor needs a repertoire of tools at their disposal for the financing of property purchases.
Creative Thinking
I am always amazed at the current crop of supposed real estate gurus who are touting that the old-school real estate methods are dead. This self-proclaimed experts want to convince you to buy expensive websites, subscribe to high-dollar leads subscriptions and a myriad of other tools that you supposedly can't live without in the current real estate game. In fact, the reality is that the old school folks had it right all along! Go back to the early books on real estate investing and you will find all you need to be successful investing...over your lifetime. Sure, things change, but the underlying bedrock principles never change.
One of those bedrock skills is having a creative mindset when it comes to making deals - and in particular, to financing properties. Bank financing is not the only way to go, and you need to be open to many different avenues for how you can put a deal together. For example, over the next few editions, I'll be talking about lease options, least purchases, owner financing, credit lines...this list is quite long.
A creative mindset recognizes that there's more than one way to get a job done. It's the old adage of "looking outside of the box" for novel ways of solving a problem. By way of example, could you actually be better off renting a person's property as opposed to buying it? Could there be a way of making payments to the owner at zero percent interest? Could you control a property for several months without having to make payments? These are all the kinds of strategies I'll be discussing.
Win-Win
Another of the old school philosophies that I consider to be bedrock is that your deal making needs to be win-win...that is, to benefit both parties. I'll take that thinking one step further and suggest that your highest and best deal will be found when you uncover and try to solve the seller's problem.
Right now, there are thousands of people all over the country with their budgets strained due to escalating mortgage payments...losing their homes to foreclosure...who had to move out of state to pursue direly needed employment but who've now been saddled with two house payments. You can come in and solve those problems in a way that truly helps the other party while at the same time creates a winning opportunity for you.
This, again, is where I differ from the current crop of gurus who seem to be all about grabbing as much equity as possible so they can flip a property and take a Caribean cruise. I've seen vulture investors who think absolutely nothing about putting the proverbial "little old lady" out in the street through a one-sided deal that benefits them while taking advantage of the homeowner...and there are gurus out there who have no trouble in professing such tactics. That's unfortunate, because you don't have to be a vulture. Win-win always has been, and always will be the best strategy by which to operate your investing, and is the crux of nearly any kind of creative financing. I'll say it again...you don't need to take advantage of people. You will find your highest and best deal by solving the problems of the seller - that your best profit-making solution will be found in the solution of the owner's problem if you have a creative eye.
So come with me over the next couple of weeks and learn dozens of ways to put deals together with and without banks. From this point forward your investing need not be driven by what's going on in the mortgage market!
Get in touch if you have any questions:
william@thecoasttocoastinvestor.com
Until next time, this is Bill Flood, for the Coast to Coast Real Estate Investor. Live your real estate dreams!
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