In today’s real estate investing landscape, you need several financing options to ensure you can generate passive income from investing and improve your financial position. FHA mortgages are a smart way to use financing while building a portfolio of income-producing properties.
What is an FHA Loan?
The Federal Housing Administration, known as the FHA, provides insurance to mortgage lenders in the event you default on your loan. However, many people believe the FHA provides the financing for mortgage loans. What really happens is the FHA will set specific underwriting guidelines that lenders must follow to qualify for insurance that backs mortgage loans. When lenders meet the underwriting criteria, they are known as an “FHA-approved lender.”
Most FHA programs offer lower down payment options than conventional mortgages, and the credit score requirements are not as stringent as traditional loans. However, the primary purpose of an FHA mortgage is to promote homeownership, specifically for individuals who are first-time homebuyers that plan to purchase a home as their primary residence. Although you typically cannot use an FHA mortgage to buy an investment property, there are exceptions.
Benefits of an FHA Loan for an Investor
Although you cannot purchase a second home or single-family residence for rental purposes using financing from the FHA, you can buy a multiunit property using an FHA loan. For example, savvy real estate investors will buy a multiunit property, such as a duplex or a fourplex, and live in one of the units, making it an owner-occupied property. The investors will then rent out the other units, and in some cases, the investors make enough from the rents to earn a substantial passive income. Here are a few other benefits of using a mortgage from the FHA to buy a multi unit property:
- The FHA will lend up to 96.5 percent of the multiunit value.
- The FHA only requires a 3.5 percent down payment in most cases.
- The minimum credit score required by the FHA in 2017 is 580. Most conventional loans require a minimum credit score of 620.
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An FHA 203(k) loan is a mortgage allows you to buy a home and use some of the funds for renovations. Using this form of financing from the FHA, you will receive enough money from the lender to buy a home and make the renovations. Keep in mind the FHA does not provide the funds directly, and you must find an FHA-approved lender to apply for an FHA 203(k).
If you are approved for a FHA 203k loan, you can continue to use the funds from the mortgage to make repairs after closing. Conventional mortgages require you to make the necessary renovations before closing. As an investor, you should note the purpose of these loans is to purchase a home with the goal of upgrading it while improving the overall appearance and value of the neighborhood.
Advantages of an FHA 203(k) Loan for an Investor
You can invest in multiunit properties such as duplexes, triplexes and fourplexes using an FHA 203k loan as long as you reside in one of the units for at least one year. The biggest benefit as an investor is you can locate multiunit properties in disrepair for pennies on the dollar, and then use a 203(k) loan to buy the property and renovate it while increasing its value. Many lenders have multiunit properties on their books that were foreclosed properties or short sales.
FHA 203(k) Loan Process
The loan process for an FHA 203(k) construction loan is slower than traditional mortgages. First, the FHA requires two appraisals. The first appraisal gives you the “as-is” value while the second appraisal gives you the “subject to improvement” value. Most professional real estate investors state the closing on 203(k) loans takes 45-90 days.