Real Estate Investing - Arrange Financing

The first step in buying real estate is to arrange your financing.

Before you submit your first offer, you must be sure that you have the money available to pay for it. Unfortunately, this is often where the new investor's dreams end. They believe that they need to have the money in savings or qualify for a new mortgage. These are common misconceptions. Smart and savvy investors rarely will use their own money. They will use the money and credit of others.

You are probably asking yourself HOW? The answer is by being creative. There is no "one" answer on how to secure investment money. Everyone is different, one person might have limited credit where the next might have a lot. Another person may have wealthy friends or relatives. Each investor's situation is unique. You will need to utilize the resources that "you" have.

There are many ways to obtain financing. Here are just a few examples that may work:

Secured credit lines- A secured credit line is an account or loan that is backed by some form of collateral. These may include, but are not limited to your house, land, automobile or boat. The most common form is a home equity line of credit.

With a home equity line of credit, you are using the value of your own home minus anything that is owed on it (first mortgage). This credit will be secured through a second deed of trust (second mortgage). The amount that you can borrow will depend on how much equity you have in the property and your credit history. To find out how much you qualify for, contact your bank or mortgage company.

Advantages of using secured credit lines are that the interest rates are usually very reasonable and it can be used over and over with minimal or no charge (after initial set up).

Disadvantages are that they are time consuming to set up (two to six weeks is about average) and must be paid off if you sell the collateral (your house, for example).

To explore this option further, speak with your bank or credit union representative. They will be able to answer any questions and determine the amount that you can borrow. This is also a good time to get to know your banker, if you do not already. If they have a personal connection with you, it is more likely that they will "go the extra mile" to help you out.

Unsecured credit lines- An unsecured credit line is exactly as it sounds. It is either credit or cash that is advanced to a person or entity (business) without an attaching security (lien) against it.

The most common form of unsecured credit is a credit card. Credit cards have long been used as a means to purchase merchandise or services without using cash. This is only their "most popular" use, however. Many people do not realize that their credit card also has a cash advance option. Through this option, a cardholder may request cash to use for whatever they would like. This includes purchasing real estate.

Obtaining a cash advance can be done several ways. First, you can call the credit card company and have them deposit the funds into your bank account. Occasionally, they will waive any advance charges by using this method. The drawback is that it often takes two or three weeks for the funds to be available. Another way to get cash is by using "convenience checks". These are sent to you by the credit card company as an incentive to transfer existing balances or to take cash advances.

When using any cash advance method, be sure to find out the charges involved. Credit card companies often will charge up to three percent or more for using this option. If that is the case, you must be sure to figure this into your cost estimate (which is covered in Section 3).

Mortgages- A mortgage is a loan given to an individual or entity to purchase a piece of property. It is secured through a deed of trust (a lien against the property).

There are three main categories of mortgages:

• Government Loans
• Conventional Loans
• Non-Conforming Loans

A. Government Loans - These are also referred to as "government-backed" loans. The loans are made through a bank or mortgage company but backed by the federal government. In the event of default (foreclosure), the government will buy the property back.

Types of government loans include: VA, FHA and VHDA loans. The way that they work is fairly simple. The government has certain qualifying guidelines that apply to everyone. If you meet the guidelines, you get the loan. There is no variance on these issues from individual banks or mortgage companies. They must follow the rules that the government has set.

While these government-backed loans are the most attractive of the three categories, few investors will qualify. This is because most government loans are intended for buyers that will live in the property (owner-occupied). Unless you intend to live in the property for at least one year, you will become ineligible due to the owner-occupied clause.

The government does have non-owner-occupied programs available. They are a little more complex and are constantly changing. Rather than taking a lot of space to explain some of the current ones (203k), Contact your banker or mortgage specialist to cover this in more detail.

B. Conventional Loans - These loans are not backed by the federal government, but because of their uniformity are available at lower interest rates.

You may use these loans even if it is an investor property (non-owner occupied). The catch is that the loan-to-value (LTV) is much lower. Meaning that the bank or mortgage company will require you to have a larger investment in the sale (more money down). Most conventional loans to investors have a maximum LTV of 75% to 90%. Therefore, you would be required to supply the other 10% to 25%.

When using a conventional loan to purchase an investment property, you should call several lenders. While all banks and mortgage companies may be similar in maximum LTV, each lender will have different "add-ons" to the interest rate for investment properties. Some lenders are more conservative and will require a much higher interest rate or discount points to give the loan. Remember, these loans are not government-backed. The lender takes all the risk.

C. Non-Conforming Loans - This is the catch-all category. There is no "one set" of rules for these loans. They are as they sound, "non-conforming". Every mortgage company has its own set of rules, therefore there are many more products available.

Several examples are:

• 90% LTV on non-owner occupied purchases (10% down)
• Stated income (do not have to verify income)
• 100% CLTV -Combined Loan To Value (0 down)

These are just a few loans that are available. To explain all of the different variations of each product would be impossible. There are too many and they change constantly. It is best to contact a loan officer that specializes in this field to find a loan that might work for you.

The disadvantage behind using these loans is that the interest rates are usually higher. Non-conforming loans are backed by private investors (often on Wall Street). As these loans are deemed to be a higher risk, they require a higher reward. Therefore, interest rates may be up to 3% higher, depending on the program used.

Don't let the higher interest rate scare you away from these loans. If you only hold a property for a few months, the difference is not that great. Remember to look at the total cost involved before making a decision.

Investors- These are private individuals that are willing to finance your investment in part or in whole. They are often people that have the resources to buy and sell properties for themselves but lack the time or knowledge to do it.

There are three main ways to find investors:

1. Ask people that you know.

2. Advertise for "investors wanted" in the newspaper or other publication.

3. Through word of mouth.

Once you find a suitable investor, you will need to determine a fair agreement. There is no pattern to what is fair. That is determined on an individual basis. For example, an investor that is financing 100% of the project will want (and deserve) a higher return for his/her money. After an equitable agreement is reached, make sure that it is put in writing to avoid any disputes in the future.

Besides being an excellent source of financing, investors are a great way to reduce risk. With every investor added, the risk level is lowered to each. Unfortunately, the more investors that you have the smaller the reward to each. You need to find a blend that works for you. Every investor will get a piece of the pie. Make sure that there's enough left over for you!

Tips for Arranging Financing:

• When using unsecured credit lines, be sure to only use the funds for investment purposes. It's really easy to get into the habit of taking money out so be sure to use good judgement.
• Contact a mortgage specialist. Programs change constantly. They will be able to explain which method is best for you.
• Don't be afraid of using an investor or a partner. This will enable you to reduce your risk and increase your available capital.
• Credit lines, either secured or unsecured, are usually the least expensive and easiest form of financing. They are most often the preferred choice of investors. If you cannot get a credit line when you first start, keep trying. As you build capital and credit, you will qualify for larger and larger lines of credit.