Are you ready to invest in real estate? Maybe you’ve already maxed out your retirement investments and are ready to move onto something bigger. Investing in homes can be a great way to build the wealth you desire. Before you do, though, you should know the down payment requirements for these types of loans. They differ because of the higher the risk lenders take offering you money on a home that you don’t live in as your own.
What’s the Required Down Payment?
Unfortunately, there’s no cut and dry answer to this question. Each lender will have different requirements. There may even be different requirements with the same lender between buyers, though.
On average, you can expect to put down at least 15% to 20% of the purchase price of the home. This gives you a little ‘skin in the game.’ You are more likely to do what it takes to get your mortgage payment made even if your renters bail out on you. If you have less of your own money invested, you are more likely to walk away from the investment, which is why lenders typically require a decent amount of money down on the home.
What Factors Determine the Down Payment?
Any lender you try to get a loan from will do one thing – gauge your risk level. The more risks that you pose, the more likely it is that you’ll need a higher down payment. In particular, here’s what lenders look at:
- Credit score – Borrowers with a higher credit score pose a lower risk of default. Lenders use your credit score as a gauge on your level of financial responsibility. The lower your credit score is, the higher risk you pose to a lender. This means you will likely need a higher down payment. Lenders need to make up for that risk in some way.
- Stable income – The more stable your income is, the easier it is for lenders to lend you money for an investment property. They don’t want to have to rely on the rental income, because they know that can be risky. There’s no guarantee that the renters will always pay. If you have stable income, meaning steadily increasing income for the last two years, you show lenders that you are a responsible borrower. If you can prove this, you may not need a very high down payment.
- Debt-to-income ratio – Lenders look closely at the amount of your income that is already ‘spoken for.’ In other words, the bills you already have taken away from your monthly income. The lender calls this your debt-to-income ratio. In other words, it’s a comparison of your debts to your income. The lower this ratio is, the less risk of default you pose to a lender. This means that you may be able to make a lower down payment.
- Reserves – Lenders like borrowers that have reserves on hand. Reserves are liquid assets you have on hand, such as checking, savings, or stocks. Lenders calculate your reserves based on the number of months of mortgage payments the total amount of money you have available will cover. The more money you have, the better your chances of approval with low down payment requirements.
Compensating Factors Help
Lenders really want to know that you have compensating factors. In other words, you have factors that make up for the risk of the investment property. Because you don’t live in the property, it automatically becomes a higher risk for a lender. The compensating factors can help you get what you need.
For every compensating factor you present, the lender may decrease the required down payment. For example, an investor with a high credit score, low debt ratio, and plenty of reserves will likely need a lower down payment than the investor with an average credit score, high debt ratio, and no reserves.
It also helps to shop around with different lenders. Each lender has different programs and requirements that will help you get the loan you need. Compare your options, looking at both the interest rates and the fees to make sure you make a wise choice for your investment.