August 25th, 2019 8:38 AM by Jackie A. Graves, President
If you follow the rules, the
small down payment can be the start of your rental property empire.
ONE WAY TO MAKE MONEY over the long haul is to
invest in real
estate. However, investing in real estate can be tricky because you often
need a great deal of capital to buy real estate – especially for investment.
You can get around the
capital requirement, though, with a little creativity. If you're hoping create
cash flow from renting, and you want a solid investment for the future, one way
to do it is to use an FHA loan.
An FHA loan is a home
loan guaranteed by the federal government. Traditional lenders make these loans
to those who meet the requirements and the government guarantees them.
When you use an FHA loan, you only need a 3.5% down payment. On
a $300,000 property, that's $10,500. That's much more affordable for many real
estate investors than coming up with a 20% down payment – or meeting a $1
million minimum for an investment club.
Using an FHA loan is the
foundation for rental
income for people like Brandon Turner of BiggerPockets.com. He's used
the FHA loan to start investing in real estate to great effect.
Buying a rental property
with an FHA loan. When you buy a rental property using an FHA loan, it's
important to note that you must live in that home for at least a year. So, if
you buy a single-family home, you'll have to make it your primary residence for
12 months before you can start renting it out.
The way around this, if
you want to start building your rental empire
immediately, is to purchase a duplex or a four-plex. You can use an FHA loan to
buy a property with up to four units, so this gives you the chance to live in
one of the units, making it your primary residence, while renting out other
After a year, you can
move out of your unit and make way for another renter. In some cases, it makes
sense to hire a property management company to take care of the renters after
you move out. As an on-site landlord, you have to be available at all hours,
and you might be tired of that after doing it for a year.
No matter which route
you take, it's important to have a plan of attack ahead of time. Make sure you
know your end goal. Have a clear vision for the property and what you plan to
do with it. A plan can
help you decide what kind of property to buy and be ready to move out when it's
time to turn it into an income stream.
Pros and cons of using
an FHA loan. The biggest advantage to using an FHA loan to invest in
real estate is the small down
payment. However, it also helps that some of the credit score requirements
are a little more lenient. Lenders that might not qualify you for a
conventional loan with such a low down payment might be willing to do so with
an FHA loan.
Before you decide that an FHA loan is the way to go, however,
it's important to understand that you'll pay mortgage insurance. This isn't
mortgage insurance that just falls off like you see with conventional loans,
though. Instead, if you get your FHA loan today, and have a down payment of
less than 10%, there's a good chance you'll be required to pay the insurance
for the life of your loan. That mortgage insurance payment will eat into your
In order to avoid paying
mortgage insurance for the long haul, you'll need to put down more than 10%
when you buy. In that case, the insurance will drop off after 11 years.
Another way to get rid
of your FHA mortgage insurance is to refinance. If you refinance your property
with a different lender, you no longer have the insurance. Of course, depending
on your loan-to-value ratio, you might still be paying mortgage insurance to
your new lender. But at least you know that will drop off in time, as you pay
down the mortgage.
When you get an FHA
loan, have a plan for getting rid of the mortgage insurance eventually. As your
property increases in value and as your rental income increases, this should be
Buy your next property. Once you've been
bitten by the real estate investing bug, you might be tempted to get another
property. That's normal. Now that you have income from
your rentals, you might be able to save up for another down payment.
You will likely have to
buy your second property with a conventional mortgage, but at least the FHA
loan got you started.
In some cases, if you
have successfully refinanced your first property and are no longer paying FHA
mortgage insurance, you might be able to use an FHA loan to buy a different
property – as long as you plan to live in it as a primary residence for at
least a year.
There are exceptions to
buying a second property with an FHA loan when you're paying FHA mortgage
insurance but meeting the qualifications might not be practical for you.
Using an FHA loan to start real estate
investing can be a smart move. As long as you have a plan and you know the
rules, the small down payment can be the foundation of your rental property
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