Buying their first real estate investment property is the biggest hurdle for new investors. Saving up the money for a down payment on that first multi-family property or house could be harder than it was to save up for your primary home. Many investors have to get creative, and some turn to home equity loans to finance other purchases.
If you’re ready to start investing in real estate, here’s what you need to know about home equity loans and the investment world.
Can I use a home equity loan to buy an investment property?
Yes, if you own a primary residence, you can take out a home equity loan on it to purchase an investment property. When you apply for a new home equity loan, the lender only cares about your credit score and your home’s equity. The purpose of the loan isn’t an issue.
Shifting funds between residences and investments is one way that investors enter the real estate market without technically using any of their own money.
Is it smart to use home equity to buy an investment property?
It can be very smart to use the equity from your primary residence to purchase an investment property. Mortgages for investment properties can have much higher rates than a mortgage for a residence or a home equity loan. Taking out a home equity loan to buy investments could save you a lot of money.
Using your home’s equity to buy your first investment property can be a great way to get started in investing.
Can you take a home equity loan on a rental property?
If you have equity in your rental property, you can take out a home equity loan on it. However, lenders are often more conservative when lending on rental properties because they represent more risk. While a bank might let you borrow up to 90% to 100% of your home’s equity, they could lower this percentage on a rental property.
Things such as your credit, how long you’ve owned the property, and if it’s cash flowing well, will also factor into a lender’s decision.
Can I use my rental property as collateral?
When you own a physical asset, a bank will allow you to use some percentage of loan-to-value as collateral for a loan. They won’t allow you to borrow 100% of the home’s value because that’s seen as too risky. If your rental property already has a mortgage on it, you might have to take out a home equity loan on it, instead.
The property and land secure your mortgage and already serves as collateral. It can’t be used to collateralize more than one mortgage, but if it’s built up enough equity that equity could be used to finance your next investment purchase. This is a common strategy for investors who buy multiple rental properties.
If your rental property has been completely paid off, you can take out another mortgage against it and use those proceeds to purchase another investment.
Can I deduct home equity loan interest on a rental property?
With The Tax Cuts and Jobs Act, individuals can no longer deduct interest on home equity loans on their primary residence. However, business expenses are deductible. If you take out a home equity loan on income-producing investment property, the interest on that loan is tax deductible.
When weighing the pros and cons of investing, be sure to include your tax deductions as an offset to your income.
Should I use home equity to invest?
When trying to determine if you should use your home’s equity to invest, it all comes down to the numbers. You’ll pay interest and fees to take out a home equity loan. The cost of the home equity loan should be less than the return you’ll receive from the investment.
Real estate investments do have some risk to them, and in general the return should be higher than what you’d receive from a risk-free investment such as a U.S. Treasury bond.
Clever Partner Agents can help investors find investment properties and put together the deals to finance them. They have experience running the numbers for an investment property to determine if it’s a good deal. To get in touch with a Clever Partner Agent, reach out today.