Suppose you’re thinking about diving into the world of real estate and becoming the owner of a comfortable multifamily property. In that case, financing your purchase is one of the biggest challenges you will face. You most likely don’t have a ton of cash saved up (or else you wouldn’t be reading this blog), so you need to find other methods that will end up being profitable and won’t leave you stranded with debt.
In this blog, we will be exploring how to finance a multifamily property correctly so that you’re geared to turn that investment into a lucrative opportunity.
What is a multifamily property?
Let’s first identify what a multifamily property is and understand what separates it from other rental properties.
In simple terms, this is a residential property that houses multiple units that can accommodate many families. Think apartment buildings and condominiums. The number of units can range anywhere from a duplex (two units) to hundreds of units in the same building.
The main advantage of owning a multifamily property is that you will be able to generate multiple sources of income through one investment. Each unit that it houses can be treated as a unique rental income source as they will each be rented out to different tenants. As such, the earning potential of these properties is quite high.
How to finance a multifamily property?
1. Applying for a bank loan
One of the simplest methods to finance your property would be a traditional bank loan application. Banks, credit unions, and other financial institutions provide potential business owners with numerous options to get started on their entrepreneurial journey.
However, you shouldn’t directly jump into a bank loan without first considering some factors. They include:
- The type of loan – Banks typically offer conventional mortgages, adjustable-rate mortgages (ARMs), and fixed-rate mortgages. Each loan type has its own benefits, financing terms, and conditions, so it’s important to first identify which loan type works best for your situation.
- The terms of the loan – You need to consider the time taken to pay back the loan. The banks will generally offer a period between 15 to 30 years. Remember, the longer the term, the lower the monthly payments will be, but the total interest paid at the end of the loan period will be higher.
- The rate of interest – The interest rates you’re offered will change depending on the market and economic conditions, your creditworthiness, and the terms of the loan. Some institutions may offer you fairer rates than others, so don’t always go for your first option.
- Loan qualification – Not everyone is eligible to apply for a loan. The bank will consider factors such as your credit score, income stability, debt-to-income ratio, and the property’s cash flow potential. You will need to meet these conditions during the loan process to obtain a loan with favorable terms.
2. Government-sponsored Enterprises
A government-sponsored enterprise (GSE) works similarly to a financial institution, with the difference being that it is used to provide a specific public service or support a particular sector of the local economy.
Especially in the US, these enterprises are available to help real estate businesses by providing financial support. You can make use of these enterprises to obtain fair terms for your financing compared to conventional loans.
- Fannie Mae and Freddie Mac: Fannie Mae and Freddie Mac are government-sponsored institutions that provide liquidity and stability to the mortgage market. You can obtain loan programs that are specifically designed for multifamily properties with fair and flexible interest rates and terms.
- Federal Housing Administration Loans (FHA): The FHA has a program called the multifamily mortgage insurance program. These loans come with a low down payment and have fewer criteria to meet the qualification requirements. This makes it an ideal program for first-time investors.
- U.S. Department of Agriculture (USDA) Rural Development: This is a loan program offered to finance multifamily properties in rural areas. Business owners can expect affordable financing options and additional incentives if they purchase these properties in rural areas of the country.
3. Private money lenders or hard money loans
These loans are generally considered the “last resort” loans for when you’re out of other options. Hard money loans are borrowed not from financial institutions but from private individuals or companies. They are usually short-term, have high interest rates, and may even require a large down payment.
When opting for a hard money loan, you need to consider the following factors:
- Criteria for qualification – Private lenders are more flexible with their qualification criteria compared to traditional banks. They are more interested in the property’s value and income potential than the borrower’s creditworthiness. This makes it a good option for those who failed to meet the bank’s requirements.
- Quicker approval times – With hard money loans, you can expect faster approval and funding compared to financial institutions. So, if you’re looking to purchase a property that is highly sought after then this may be your only option.
While this option is open to you, it is not the most recommended. You will be able to get much fairer terms from traditional financial options, so only use this method if you’ve exhausted all other options available to you.
A multifamily property is not going to come cheap and is going to be a long-term investment. It’s best not to jump the gun, but instead take your time and evaluate your options. Do a full evaluation and projection of your investment and identify if it will generate more benefit than a single-family property. Once you’re satisfied with your results, you can then move on to purchasing that dream multifamily property.