Financial Strategies For Investors To Consider: Lets Start With The Basics
Real estate investors can be broken down into three categories with the distinctions between them based on the length of time the property is held. On the short end, you’ve got flippers. These guys look for properties on the cheap, maybe put some money into fixing them up and then selling for a profit.
For the most part, they have no intention of renting the property out and work as quickly as possible to complete the deal. This category represents a lot of the people chasing foreclosures and probate sales.
From the lending perspective, their biggest motivators are low down payments and NO prepayment penalties. They’ll even pay exorbitant Subprime interest rates to put these deals together without penalties.
Financial Strategies For Investors To Consider: The Speculators
Next up, you’ve got speculators. These guys look for quickly appreciating markets. The idea is to get in, buy a bunch of properties, keep them for 3 to 5 years and then move on to the next booming market.
For that length of time, they have to rent out their properties but are not particularly interested in paying down the principle balance on the mortgage.
In fact, if they’re confident in the appreciation potential, they may be willing to accept negative amortization loans in order to keep the cash flow on their properties positive.
Financial Strategies For Investors To Consider: Investors
The last category is investors. These guys try to accumulate a portfolio of properties and have the rental income pay down the principle balance over time.
The idea, obviously, is to own a number of properties outright or with minimal mortgages and enjoy positive cash flow on each. From the lending perspective, these investors are looking for longer term loan products like intermediate ARMs or 30-year fixed mortgages.
Clearly, a property with a 30-year fixed mortgage and a sustainable cash flow will eventually be paid off, leaving just the property taxes and insurance behind.
Financial Strategies For Investors To Consider : Consider These Facts
So, let’s talk about each of these a bit more. A lot of flippers do this stuff full time. In terms of underwriting, it makes it a lot easier if they’ve got a real job. But if they don’t, they don’t have a verifiable source of income either.
Of course, if they’ve done it for more than two years, we can say they’re self-employed and get the loan done that way. But if they’re new at the game – and many of them are – we almost always have to use a No Doc program.
That’s the lowest level of documentation and the pricing reflects the increased risk.
Meanwhile, if we say they’re self-employed, they obviously have an investment property as well as a primary residence – and maybe more than one – all without any rental income. So they’re supporting two houses. That means we’d have to show a VERY high income to fit within debt ratio limitations.
The moral to the story is the vast majority of these deals end up in Subprime programs because it’s easier to get approvals, particularly for low or no down payment programs.
Financial Strategies For Investors To Consider: Why Does It MATTER?!!!!
Now, the question is: does it matter? Well, not really because you’re only planning to keep the property for a few months anyway, so the monthly payment isn’t that important.
Yes, the payment may be big but you only have to make three or four of them (hopefully) before you can get out. It’s just another cost of doing business.
By the way, I’m not saying A-paper and Alt-A programs are impossible for these types of deals. They’re just harder to qualify for.
Financial Strategies For Investors To Consider: Stay Tuned For Part 2
Be sure to look out for part 2 of “Financial Strategies For Investors To Consider“. Also feel free to comment your thoughts on what you have read thus far.
Take Care And Have A Great Day
Dr. Gregory Stargell II
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