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Owning a rental property is one of the many great ways to invest in real estate. You can enjoy monthly rental income and the large profits that come along with buying low and selling high. Furthermore, the real estate market is red hot right now, so there’s no time like the present to make money from an investment property.
Rental income and appreciation are just a few calculations you need to do for your investment properties. One critical aspect to keep in mind is how investment property loans affect your bottom line. In some cases, changing the terms of your loan through rental property refinancing might mean more money in your pocket.
What Is Rental Property Refinance?
You are probably somewhat familiar with a loan refinance if you own your own home. When interest rates get lower than when you bought your house, a lender or two likely reached out to you about refinancing. The process is pretty simple, as you simply trade your old mortgage for a new one with terms that better meet your current financial needs. These new terms can help you reduce your interest rate, access cash, finance new investments, reduce your monthly payment, or shorten your loan term.
The benefits of rental property loans are similar, but the process is slightly different. For starters, the requirements are more strict when refinancing an investment property than your primary residence.
When Should I Refinance A Rental Property?
Refinancing a rental property can be a great decision under the right financial conditions. However, sometimes it doesn't make sense. The most crucial factor to consider is your current financial situation and future financial goals. After that, a look at the overall economic climate, including current interest rates, will give you the information you need to make the right decision.
Several advantages exist if all of these factors indicate the time is right to refinance a rental property. Mortgage refinance can help you lower your mortgage rate, change the terms of your loan, increase your rental property income, or get you access to quick cash. If any of these benefits sound like something you may be interested in, it might be the right time for investment property refinance. Here is an in-depth look at each of these advantages of refinancing a rental property.
Reduce Your Interest Rate
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Rental property refinance rates vary - much like traditional mortgage rates. In 2021, both were historically low. Many believe as we get further into 2022, interest rates will rise, so now might be a good time to lower our rate. Primary residence interest rates and investment property refinance rates are not the same. Investment property mortgage rates are almost always higher. This is because they are viewed as riskier for lenders. That makes sense when you think about it. After all, if you are strapped for cash, you are probably more likely to stop making your payments on an income property instead of your primary residence. The former is a source of income, but the latter is where you and your family live.
Look at the interest you are currently paying and compare it to what other lenders offer. You may be able to get a lower interest rate or move to a fixed interest rate as opposed to an
adjustable rate mortgage.
Be sure to calculate closing costs as well. You may have already guessed that refinancing an investment property isn’t free. Lenders will charge you closing costs once you are ready to sign and close on the loan. If these are too high, a lower interest rate might not be worth it.
Change The Terms Of Your Loan
If you look at the terms of your existing loan and lament how many more monthly mortgage payments you need to pay off the loan, refinancing can help. Increasing the amount you pay each month and reducing the overall amount of years on the loan can facilitate paying off the mortgage sooner and owning your rental property “free and clear.”
On the flip side, if you are struggling to keep up with your monthly mortgage payments on a rental or investment property, you can adjust the terms to help. Simply ask for a lower monthly payment and more years added to the end of the loan. You won’t pay it off as quickly, but the burden of making your payments each month will be eased.
In both of these scenarios, you still owe the same amount to your lender. It’s just a matter of paying more each month or paying for a more extended overall period.
Get Cash
A cash-out refinance might be a good option if you are looking at your monthly cash flow and would like a bump to fund some new projects. Until you pay off your rental property mortgage, mortgage lenders keep a lien on your rental property. This means they can seize the rental property if you don't make your monthly payments. The more monthly payments you get in your rearview mirror, the closer you get to complete ownership of the property.
Equity refers to the amount of the property you own in relation to how much of your principal balance you have paid off. This includes the down payment you used to purchase the rental property and the monthly payments you have made on the principal. It does not include interest.
A cash-out refinance allows you to cash in on the equity you have by replacing your current loan with a new loan that includes the amount you owe and the equity you have built up. The difference between those two amounts is paid out to you in cash.
Increase Your Rental Property Income
Good investors periodically look at their rental property ROI to ensure they get the most out of their investments. The most significant factor that affects rental property ROI is the amount of rental income you have coming in. There are several ways to increase this income by justifying a rent increase. Here are a few examples:
As you already know, these improvements cost money. Money that can be obtained if you refinance your rental property. A cash-out refinance can help you get a large lump sum of cash for an extensive renovation or addition. A refinance focused on changing your loan terms can reduce your mortgage payment each month, leaving more money to spend on improving your investment property.
Pursue Other Real Estate Investments
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When you refinance an investment property, the money you get doesn’t need to be spent on that same property. You can use the savings or cash funds to pursue other opportunities. Savvy investors that know how to invest in real estate for passive income understand that you need to be ready to pounce when an opportunity arises. Refinancing a rental property to free up some funds can allow you to be prepared when the time is right.
Fund Your Life Beyond Real Estate Investing
The money you gain from refinancing a rental property does not need to be spent on real estate investing at all. In fact, it can be spent on literally anything! Here are just a few of the endless examples:
How To Refinance A Rental Property
Now that you know how investment property refinance can benefit you, let's take a look at the steps you need to take to refinance an investment property. It all starts with getting your finances in order. After that, you will need to ensure you have all the necessary documentation (proof of income, title insurance, bank statements, etc.). Finally, you need to compare lenders, apply for the loan, and close.
Get Your Finances In Order
You need to have a complete financial picture before considering refinancing a rental property. This includes a comprehensive evaluation of your personal and professional income and expenses.
Review your investment property operating budget and monthly income. Look at your savings, investments, and personal expenses. How much cash flow do you have? How much money is saved in the bank?
Take this information and think about your future financial goals. Do you need money soon for a new investment or other personal expenses? Or are you in a stable financial situation that allows you to wait for long-term investment gains that won’t provide immediate cash? Once you have determined where you are and where you want to go financially, the best way to proceed will become clear.
Documentation
Your lender will ask for several financial documents to begin the refinancing process. Here’s a look at some documentation they usually ask for.
1099 or W-2 Forms
Lenders need to verify your income and employment history before giving you a loan. This is to ensure you have the money to cover your monthly payments. It also helps predict your job stability. After all, if you lose your job during the course of the loan, it will be hard to pay it off. This verification requires a review of your W-2 (salaried) or 1099 (independent contractor) forms. If you are self-employed, they may ask for your most recent tax return as well. These documents will be required from all parties that are applying for the loan.
Proof Of Income
In addition to W-2 or 1099 forms, the lender will ask to see your pay stubs from the last 30 days or more. They also may require you to submit your bank statement or paid invoices that confirm your income if you are self-employed.
Proof Of Title Insurance
To refinance a property, it needs to be yours. That makes sense, right? Your lender will need to see your title insurance to verify that you are the current owner. This proves that you own the property and provides the lender with the property's tax information and legal description.
Proof Of Homeowners Insurance
Homeowners insurance protects your investment property from unforeseen events like a fire. When the lender gives you a loan for the property, it becomes their investment as well. They need to make sure it is covered, so they will require proof of homeowners insurance.
Financial Statements
Homeowners insurance protects your investment property from unforeseen events like a fire. When the lender gives you a loan for the property, it becomes their investment as well. They need to make sure it is covered, so they will require proof of homeowners insurance.
Compare Lenders
Before you officially apply to refinance a rental property, it’s a good idea to shop around. Talk to several different lenders about your goals around refinancing. Ask them to provide all the available options regarding loan terms, interest rates, and all other aspects of the loan. Once you receive quotes, share them between lenders to create competition among them. Ideally, they will fight over who can get you the best interest rate and other terms.
Apply For And Get The Loan
Once you have selected a lender and have your documentation in order, the process to refinance an investment property is relatively easy. Contact your lender, complete their application, submit your documents, and move toward the closing table. Be sure to respond as quickly as you can when they request something to keep the process running smoothly and efficiently.
Lock In Your Rate
You will usually have the option to lock in your interest rate once the lender approves your loan. This allows you to carefully review all loan terms and not feel rushed. Your rate won’t change during this period, usually between 15 and 60 days.
Underwriting
After you lock in your rate, the underwriting process begins. The lender works to further verify your assets, income, and other financial documentation. In addition, they order an appraisal of the property. This is critical in determining how much they can lend you for the refinance. After all, no lender wants to lend you more than the property is worth because if you don't pay, the property is the collateral they use to get their money back.
Closing
Once underwriting is complete, you will receive a closing disclosure document that details all of the closing costs and other final terms of the loan. Review it carefully to ensure there are no surprises, and it accurately represents what your lender has promised.
Next, you will sign all of the documents at the closing table and ask any final questions you have about your loan. If the lender needs to send you funds (like for a cash-out refinance), you should see them hit your bank account in just a few days after the closing.
Rental Property Refinance Pros And Cons
If you are looking to refinance your rental property, it’s essential to know its pros and cons. Refinancing can be an excellent decision for the right borrower and a not-so-good one for others. Here is a look at some of the benefits and drawbacks you may want to consider before you refinance your investment property.
Pros
Cons
Conclusion
Before you refinance your investment property, think about how it will affect your business and your personal finances. Weigh the pros and cons, familiarize yourself with the process, and shop around for rates before moving forward. For many people, refinancing an investment property can lead to significant financial gains.
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