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How to Refinance Your Investment Property
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Choosing to refinance your investment property can free up money for additional investments, provide better loan terms or improve cash flow, but it can be a costly undertaking. Plus, an investment property refinance isn’t as easy as refinancing the mortgage on your main home.
It can be daunting to meet stricter cash reserve minimums, rental income accounting methods and equity requirements, but it’s not impossible.
Can you refinance an investment property?
The short answer is yes, you can refinance an investment property. You’ll have to meet a strict set of eligibility requirements to get approved, including asset, credit, debt, income and other criteria.
Investment property mortgage rates are typically higher than the rates on loans for primary homes. You might see interest rate spreads that are 50 to 87.5 basis points higher than a standard refinance rate, depending on your credit score and available equity.
4 reasons to refi an investment property
In an environment with relatively low mortgage rates and rising home values, it may make sense to refinance your investment property. Whether you’re looking to tap your equity or simply get better loan terms, the numbers should work in your favor before moving forward.
Whatever your reason, the upfront costs of refinancing the mortgage for an investment property might give you pause. A mortgage refinance calculator can help you decide if the costs make sense for your financial goals. You’ll also be able to determine your break-even point, or the time it will take to recoup your refinance costs.
How to refinance an investment property
To refi an investment property, you’ll first want to gather mortgage quotes from multiple lenders to find the best deal.
Unless you’re currently house hacking — renting out part of your main home — a multifamily home with a mortgage backed by the Federal Housing Administration (FHA) or the U.S. Department of Veterans Affairs (VA), your focus will likely be on a conventional loan for your investment property refinance.
What lenders look for in an investment property refinance
- A stable debt-to-income ratio. The maximum debt-to-income (DTI) ratio for a conventional loan on an investment property is 45%. That means your total monthly obligations (including your primary residence and rental income losses) must be at or below 45% of your gross monthly income. If your rental properties have experienced poor cash flow in recent years, you may struggle to qualify for a refinance.
- A good credit score. Refinancing an investment property takes a good (and sometimes great) credit score. You’ll need a minimum 660 score to refinance a one-unit investment property. Other investors need credit scores ranging from 680 to 720, depending on the number of units in the house (with up to four units) and your DTI ratio.
- Strict loan-to-value ratio requirements. Your loan-to-value (LTV) ratio tells you the percentage of your investment property’s value that’s financed by the mortgage. In most cases, the maximum LTV ratio allowed is 75% when refinancing an investment property. One exception: The maximum LTV ratio for cash-out refinances on two- to four-unit properties is 70%.
- Higher equity thresholds. Since the maximum LTV ratio on an investment property refinance is typically 75%, you’ll need to have at least 25% equity in your property before you refinance. In the case of a cash-out refi on a multifamily home, the equity requirement is a 30% minimum.
- Rental income calculations. Lenders will take the stated rental income from your Schedule E and add back depreciation, interest, taxes, homeowners insurance, homeowners association dues and one-time expenses. Then, they’ll subtract the ongoing monthly expenses (mortgage principal and interest payments, property taxes, homeowners insurance and HOA dues) to come up with a profit or loss figure. If the resulting amount is positive, the amount is added to your income. If it’s negative, it’s added as debt and factored into your DTI ratio.
- Habitable buildings. Many rookie investors enter the real estate investing arena with the intention of earning rental income on their properties. But buying a distressed investment property and trying to apply for a refinance during the rehab phase can trip them up. A property has to be safe and habitable before a bank will issue a loan, according to conventional loan underwriting standards.
- No more than 10 financed properties. Investors can have up to 10 financed one- to four-unit residential properties (including their main home) at any one time when refinancing an investment property. If you’re an investor with a large portfolio, you may need to pay off some loans before you can qualify for a refinance.
Requirements to refi an investment property
Proof of personal and rental income
Lenders use personal income, stock market investments and pension income to underwrite mortgages on investment properties. Be prepared to submit the following documents:
- Pay stubs from the previous 30 days
- W-2 forms from the previous two years
- Personal tax returns from the previous two years
- Business tax returns from the previous two years (if you’re self-employed)
- Proof of disability or pension income
You’ll also need to provide detailed information about your rental income. This includes a detailed Schedule E from your personal tax return so that lenders can calculate the investment property’s net income.
If the property was leased for only part of the past year, landlords can submit a copy of the current signed lease agreement instead of a Schedule E. The lender will discount the income stated on the lease by 25% to account for ongoing maintenance and vacancy expenses, but the income is still valid.
Proof of assets
Lenders establish cash reserve requirements for investment property refinances to ensure you can afford the mortgage payments if a tenant falls behind on their rent or if you have extended vacancy periods. Expect to have at least six months’ worth of cash reserves in place before you refinance. The reserves have to be easily accessible, such as cash, stocks or cash value of a life insurance policy.
To prove you have the required cash reserves, you’ll need:
- Two months’ worth of bank statements
- Two months’ worth of financial statements from a brokerage account
- Most recent statement from a retirement account
- Documentation of ownership for cash value in a life insurance policy
If you own multiple rental properties, your cash reserve requirement will be based on a percentage of the unpaid balance of all your investment property loans.
Proof of individual ownership
Many investors put their investment properties into a limited liability company (LLC) or a corporation to give themselves added legal protection. But if you plan to refinance your investment property using a conventional mortgage, you must be listed as the primary owner of the property.
If you currently have the home’s title in an LLC or a corporation, you’ll have to transfer the title of the property back to your name. You can use a copy of the title insurance to prove that you own the property, or provide supporting documentation that proves you and your co-borrower(s) — if applicable — collectively have 100% ownership of the LLC holding the title.
Documentation of debts and other obligations
Your lender will also review your credit history and require documentation of other debts and financial obligations, such as:
- Housing expenses (including a rental lease agreement if you rent the property out)
- Credit card account balances
- Auto, personal or student loans
- Business loans (where you’re personally obligated)
- Other mortgages (including loans on other rental properties)
- Documentation of alimony or child support payments
- Other types of legal and/or financial obligations
On top of all the documents you provide, your lender will order a home appraisal of your investment property. An appraisal proves the property has sustainable income-producing potential and ensures that you have adequate equity to qualify for the refinance.
Finally, you’ll have closing costs when refinancing an investment property. Expect to pay origination fees, appraisal fees and title insurance fees, among other costs. Total closing costs can range from 2% to 6% of your loan amount.