Choose the Right Financing

Are you ready to make a real estate investment but don’t quite know where to begin? True, it can be difficult to navigate a rapidly changing market, especially if you’re concerned about rising interest rates and recent market value decreases. The good news: It’s still possible to secure a great small business or private loan to fund your project. “Historically, rates are still low,” says Allison Vail, corporate spokesperson for LendingTree. “But a lot goes into owning property, and you don’t want to get in over your head.”

Finance plans exist for almost every type of business venture. “The possibilities are endless, as a Google search or a stroll through the real estate section of a major bookstore will show,” says Tony Schrock, certified property manager for Landlord.com. Because each venture is different, forms of financing for each will differ, as well. Choose the appropriate plan, and you’ve taken the important first step toward higher and faster profit gain.

When to Finance Long Term
When seeking a loan for a multi-family residential unit or commercial space, location often determines the length of your loan term. “Location is less related to distance than to the desirability of the location, that is, it’s ambience and amenities,” Schrock says.

Although less-desirable locations can be profitable, structural improvements alone may not secure a quick investment return. Often, you’ll have to wait years for surrounding businesses and residential communities to develop, thus increasing property value. “Such investments should be viewed as very long-term projects,” Schrock advises. If you’re willing to wait it out, consult your lender about long-term loans with relatively low interest rates.

And keep in mind that the less patient you are, the riskier your finance plan may become. “Even an outlying location might yield large profits in the short term,” Schrock says. “Many developers and investors have made large profits in places that would have been thought of as insane not long ago. Some have lost their shirts, as well.”

Make Short-term Investment Work
If you plan to improve a single-family home and sell it quickly for profit, short-term financing could be the answer. “If an investor plans to flip a single-family dwelling, a profitable way could be to finance through some sort of short-term device, even at a relatively high interest rate,” Schrock says. But beware of prepayment penalties on higher-interest loans, he adds. Such penalties, once reserved for borrowers with less-than-desirable credit scores, now are showing up in agreements with borrowers with good credit, often as an alternative to accepting an interest rate with high rising potential. Often, lending agents tack on extra fees when homeowners opt to pay the entire balance of the loan shortly after taking it out. To avoid such fees, work with a lender—and a lawyer—who can help you understand your loan agreement. “It’s important to find someone you trust,” Vail says.

Business Finance Rules of Thumb
No matter what type of financing you choose, keep these key pieces of advice in mind.

Know your credit score: Lenders will make interest rate and flexibility decisions based on your credit score and credit report. “The better the score, the better the interest rate,” Vail says. “An ideal score is 700 or above, but this varies based on the lender you work with.” When you obtain your report, check for any inaccuracies you can change in order to improve your score.

Plan for unexpected expenses: “The investor must account for obvious things, such as finance costs, property taxes and the like,” Schrock says. You also must make provisions for things that may arise, such as tenant defaults in rent, litigation and other factors. “A ‘war chest’ large enough to cover contingencies is essential,” he adds.

Shop your loan: “Make sure to talk to more than one loan officer,” Vail says. Multiple rate quotes can spark competition among lenders.

Consult the experts: Speak with an attorney, a tax expert and a trustworthy certified public accountant to help you outline the particulars of your investment, including how to file your taxes. “Whether it’s your primary residence or an income-generating property, you’ll need to find out how to properly file your taxes,” Vail says.

Understand the 80/20 rule: “Because an investor does not usually have the same emotional investment in a property, financing sources typically require a debt-to-equity ratio different from that of a homeowner,” Schrock says. Typically, the ratio is 80 percent debt to 20 percent equity. What does this mean for you? “In financing an investment property, commercial or residential, a lender will typically lend about 80 percent or less of the value of the property to a buyer with the best of credit.”