All lender financing is not created equally. There can be a huge difference in the type of available programs and guidelines when financing just one extra unit. It may not seem like much but going from a two family to a three can mean as much as an extra 10% down payment. It also has an impact on the required credit score, debt to income ratio and even the interest rate. If you are taking the leap from a single family to multi you need to know and understand the changes in loan requirements. One oversight can cause hours of wasted time and leave you starting your loan search from scratch. Here are the five biggest differences in single family as opposed to multifamily financing.
- Credit Score. The mortgage industry underwent wholesale changes roughly eight years ago. Just after the markets went south sweeping changes were made to loan programs, requirements and guidelines. One of the areas hit hardest was the multifamily market. Loans on two and three family properties had a high default rate and were considered a greater risk factor than single family owner occupied homes. Because of this approval on these properties became much more difficult. The first hurdle is with the credit score. With a single family owner occupied loan the credit floor score can be as low as a 620. With any type of investment, non-owner occupied purchase the score requirement shoots up to a 700 and in some cases a 720. Additionally some lenders require that there are no previous mortgage lates in the last twelve months and no short sales or foreclosures for the past four years. It is not enough to simply have a strong score your credit report needs to be clean and mortgage default free.
- Increased Down Payment. In addition to a strong credit score multifamily investment properties also require an increased down payment. With single family owner occupied properties there are a handful of reduced down payment programs that require as little as 1% down. With a multifamily investment property you are looking at anywhere from 15-25% down payment. The exact amount of down payment is based on the credit score and the number of units. The greater the number of units the higher the down payment. Most three family properties require a minimum of 20% down regardless of credit score. It is also important to note that once you go over four units you enter a different set of loan criteria. Anything five units or more is considered a commercial property which has their own unique set of pricing and loan requirements. For any property two or three units you should plan on coming up with 20% down payment and possibly as high as 25%.
- Higher Interest Rates & Insurance. In order to properly calculate cash flow on a rental property you need to know all of the monthly payments. Not only are the monthly mortgage payments key in calculating cash flow but they are also important for loan approval. Multifamily loans have a lower debt to income ratio tolerance than other types of properties. Interest rates for multifamilies are higher than those of single family properties. In some cases the rate can be as much as a point higher than what you would find for a conventional loan product. Depending on the size of the loan this can have a substantial impact on the payment. In addition to the interest rate there will also be a higher premium for the annual homeowners insurance. Again, this is property specific but generally speaking the payment can be anywhere around $600 or more annually for the additional unit. When you couple in the insurance and the increase in interest rate it can impact how you look at the property.
- Rental Income Qualifications. There are a handful of specific guidelines when it comes to rental properties. One of those deals with how income is calculated. If you didn’t know any better you would assume that any rental income received should be counted as income. What lenders actually do is only give the borrower credit for 75% of this income. They do this to offset any vacancy risk associated with the property. This reduction in income completely changes the debt to income ratio and can push the number too high. You should also ask your lender if there are any requirements as far as landlord experience. Some lenders require a one or two year rental history pattern to even use the income for the property.
- Reduced Lending Options. As we mentioned the overall number of multifamily loan programs has dropped dramatically in the past decade. Although this number has begun to increase you could still have trouble getting approved. Unless your credit is well above 720, with 30% down payment and low debt to income some lenders may not even entertain the loan. Prior to multifamily house hunting you should seek prequalification through a lender or mortgage broker. Generally speaking a mortgage broker with access to several lenders and all of their programs would be your best bet if your loan profile is anything less than perfect. Always know where you stand with your credit score and income before you start shopping around.
Multifamily rental properties are a great addition to your portfolio but getting approved can be a struggle. Knowing the difference in guidelines could help push your approval over the top.
