Buying multiple rental properties is an excellent way to boost your cash flow and quickly develop a rental property portfolio, but affording this investment may be a challenge. Fortunately, there are numerous ways to finance multiple properties so that you can get started building rental income right away.
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How to Finance Multiple Rental Properties
When it comes to financing multiple rental properties, you can often roll them all into a single mortgage rather than taking out multiple loans, which can lead to logistical challenges.
Private lenders have developed real estate specific loan products for investment property that reduce hassle and streamline the process, but there are also options that rely on your own home equity.
DSCR Loans / Cash Flow Mortgage
DSCR loans, also called a cash flow mortgage, rely on the income-generating potential of rental properties in order to ascertain an investor’s creditworthiness.
While other loan options have hard limits on how many investment properties you can incorporate into a single mortgage, a DSCR mortgage lender sets limits based on the productivity of all the rental properties.
This allows you to finance more than ten properties under the same loan, which streamlines your mortgage payments and reduces your interest obligations.
Conventional Loan
A traditional mortgage loan can be a great option if you have good credit and a low debt-to-income ratio. This is often the first choice of those new to owning multiple rental properties, as the interest rates are reasonable and they don’t require as high of a down payment as DSCR loans.
The process for commercial conventional mortgages is much the same as for buying a primary residence. You’ll provide personal financial information like tax returns, your credit score, and pay stubs, while lenders will also appraise the new rental property, sometimes multiple times.
However, you’ll also need to have cash reserves, as private lenders want to see that you can cover the payments if you don’t get tenants right away.
While a traditional loan does allow you to buy multiple properties, you’re limited to only ten per loan. In fact, most new investors are only approved for up to four. This can make it difficult to quickly expand your investment portfolio without taking out multiple loans.
Freddie Mac’s Investment Property Mortgage Program
If you’d like to only purchase several rental properties rather than many, Freddie Mac’s Investment Property Mortgage Program can be a good choice.
This option allows you to finance between one and four rental properties with the same loan, and the down payment requirements are often lower. You can also choose between fixed rate and adjustable rate mortgages.
However, you cannot use gift funds as a down payment for these mortgages, and you’ll need a debt to income ratio of less than 45%. For new construction, there are stipulations around your relationship with the home builders.
This loan further restricts how many properties you can own depending on their usage and property type. They are also only available through select mortgage brokers, and you will need to pay a credit fee to the lender.
Blanket Loan
When financing multiple rental properties that you may later choose to sell, blanket loans can be useful, as they allow you to release one or several of the investments without the entire mortgage loan coming due. Packaging numerous rental properties in this way lets you avoid multiple loan origination fees and lets you stick to one interest rate for all of your properties.
Blanket loans are less common than other real estate mortgages, and they have strict requirements. The minimum credit score allowed is often higher, as are the closing costs. They are generally only offered to those who are experienced in real estate investing, making them a poor choice for anyone who doesn’t have a current rental property.
Portfolio Loan
If you’d like to only purchase several rental properties rather than many, Freddie Mac’s Investment Property Mortgage Program can be a good choice.
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Freddie Mac’s Investment Property Mortgage Program
Portfolio loans are not sold on the secondary market. Since they cannot be purchased by Fannie Mae or Freddie Mac, the loan originator has more leeway in who they will borrow to.
Those financing multiple rental properties may find it easier to negotiate a good deal for themselves, especially if they have existing investment properties and can prove their creditworthiness. You can be approved for more money than a conforming loan, and you may be able to apply even if you have a lower credit score.
However, because there’s higher risk to the mortgage broker, the interest rates are higher. The lender may also choose to sell the loan later, so they may still expect you to comply with many of the standards of conventional mortgages.
Still, they are a good financing option for self-employed borrowers who have good credit and plenty of assets, such as more than ten properties.
Hard Money Loans
These short term loans are good for financing multiple rental properties that you’d like to quickly flip for a profit. Their terms are shorter, though their interest rates are higher. Similar to a DSCR loan, it uses your investment properties as collateral, so there’s only a cursory investigation into your finances.
As they are not bound by Fannie Mae and Freddie Mac’s guidelines, real estate investors have more leeway when negotiating for a loan. Hard money lenders don’t report these loans to credit bureaus, though they will show up on a background check.
The interest rates for hard money loans are higher than for other loan types, and they come due much faster, so it’s important to have an exit strategy if you buy multiple investment properties with this type of loan.
Fannie Mae’s 5-10 Properties Program
Prior to 2009, real estate investors with more than four properties in their portfolio found it difficult to finance multiple rental properties through Fannie Mae.
However, the stipulations have now changed, and you can finance up to ten through a mortgage that can be sold on the secondary market. Because lenders can sell these loans, there’s less risk, and you’ll have a lower interest rate and more affordable mortgage payment.
However, financing multiple properties through the 5-10 Properties Program can be challenging because not every lender provides this. It also has a longer time frame as there is a lengthy investigation into your personal assets and current rental properties. Plus, the eligibility requirements are very high, such as a credit score of 720 or more.
Limited Liability Company (LLC) Loan
These investment property mortgages are for small businesses incorporated as an LLC and work similar to a business loan. They can be used for short-term or long-term funding, including purchasing multiple rental properties.
Lenders set their own stipulations, which can include annual revenue, time in business, industry of the business, and the company’s credit score. The funds are typically distributed as a lump sum or a business line of credit which can be used for your organizational needs.
A downside of financing multiple rental properties through this option is that you will have personal liability should you default, unlike the typical protection you have through an LLC. Depending on the lender, you may also have to secure the loan with business assets, putting your company at risk if you can’t repay it.
Other Options
If you want to leverage equity from your primary residence or first rental property, you can use cash out rental property refinancing or a home equity line of credit.
With cash out refinance, you pull money from your existing properties to finance another rental property, whether that is buying in full or covering the down payment for multiple investments. A home equity line of credit is revolving credit that works much like a credit card.
Other financing options include using a self-directed IRA or a 401k for small business owners.
A self-directed IRA is a package of investments that you manage yourself for retirement funds, which you can then sell off for upfront funds. Like a self-directed IRA, a 401k for a small business owner is an investment account which you can tap for a lump sum.
How to Analyze Investment Property
Before you decide to manage multiple properties, you need to perform a careful analysis on all of the rental property that you would like to purchase.
There are a variety of ways to determine property value and expected rental income, and most real estate investors combine several strategies to get a more comprehensive picture of what they will be purchasing.
Gross Rent Multiplier (GRM)
This method compares the potential investment with active and expired listings that have a similar profile. It divides the comparison property’s purchase price by its gross rental income to create a multiplier, which is then applied to the target property.
This strategy does not consider operating expenses, which makes it a rougher estimate than other evaluation methods.
Cash Flow
Much like analyzing any other investment, this method analyzes the cash flow in and out of the rental property.
You’ll list all the profit revenues, such as rental income, as well as expenses, such as mortgage, maintenance, and property taxes. This allows you to see if there is a positive or negative cash flow, which helps you ascertain whether you’ll make a profit.
Net Operating Income (NOI)
Net operating income refers to the income generated after all operating expenses have been subtracted.
You will combine all income sources, then subtract things like the mortgage, property management fees, taxes, and utilities in order to see what’s left after you have covered all debts. A high NOI indicates a good real estate investment.
Cap Rate
Cap rate refers to how long it will take for an asset to pay for itself.
To identify cap rate of a rental property, you divide the property’s NOI by its property value to get a percentage, which tells you how much of the purchase is covered by income per year.
For example, if you have a cap rate of 4%, this means that it will take 25 years for the property to fully capitalize.
Cash on Cash Return
Cash on cash return shows how much of your initial investment you make back per year.
You divide the net cash flow by the total cash invested to get a percentage. If you have a cash on cash return of 9%, this means you’re recouping 9% of the total investment per year. A return rate between 8% and 12% is considered very good.
Benefits of Buying Multiple Rental Properties
There are numerous benefits to owning multiple rental properties, which include the following:
- Tax Benefits – Many investors choose to purchase numerous properties thanks to the tax advantages. You can claim deductions for interest, taxes, maintenance costs, and depreciation, which helps reduce your overall tax burden while enjoying healthy profit.
- Increased Cash Flow – Your monthly income improves exponentially when you are able to collect rent from more than one property.
- Diversification of Investment – Every investment strategy requires diversification, as it reduces risk. Having several properties in different areas lets you weather shocks to the real estate market more easily.
- Leverage for Expansion – When you have a variety of properties, you can use cash out refinancing to help pay for more real estate, improving your portfolio.
- Protection Against Inflation – Real estate tends to hold its value well, which can allow you to retain good profits no matter the overall market conditions.
Challenges of Buying Multiple Properties
No investment is without risk, and this includes the rental market. You must consider these potential challenges when deciding whether having a large rental property portfolio is right for you.
- Increased Research – You’ll need to assess all the real estate agent listings carefully and run calculations on each one before pursuing financing.
- More Logistics and Management – Remote real estate investors will almost always have to hire a property manager, which increases expenditures.
- Higher Down Payment – Multiple down payments can come with a hefty price tag, which often deters newer investors.
- Tax Implications – As your taxable net income grows, so do your responsibilities. You may be subject to a capital gains tax, and property taxes in different jurisdictions can be complex.
- Greater Risk of Default – If one rental property starts underperforming, it may jeopardize the rest of your investments.
Managing Multiple Rental Properties
Every rental property will need maintenance, and tenants can be challenging even for one property. As such, those who buy several rental properties typically rely on a property manager or property management company to assist in caring for their investments, particularly if they live far away.
These companies will help orchestrate general maintenance, settle tenant concerns, and provide lawn care to keep your property looking tidy. They can also assist you in finding new tenants and filling vacancies.
Key Takeaways
When researching how to buy multiple rental properties, you’ll need to consider financing and how to analyze a good investment.
There are benefits such as tax breaks and greater income by having more than one rental property, but owning multiple rentals also comes with logistical, administrative, and financial challenges. So it’s important to do your research on the lender, the properties, and your own ability to repay loans before you get started with rental property.
Slow and incremental growth is safer than rapid expansion. First time investors may find conventional loans better suited to their needs than riskier options like hard money loans. As you grow in confidence, you can begin investigating more real estate-specific mortgages, building a healthy income and diversifying your portfolio.
