Explore your mortgage options
Whether it’s a vacation home or a multi-unit rental property with tenants, real estate investors can take pride in their financial savviness. With the right investment property, you not only earn rental income from your tenants but can also build equity in the home.
But owning an investment property isn’t always such an easy moneymaker.
The single biggest expense for investment property owners is the mortgage. It can make investing in real estate challenging because you need to balance your mortgage payments against the income you earn from your rental property.
Fortunately, if you can refinance (aka “refi”) your rental property, you can lower your mortgage payments, especially if interest rates are low and your credit has improved since you took out your last mortgage. Refinancing can save you money, help you pay off your mortgage faster or help you take advantage of the existing equity in your investment property.
Ready to move forward with an investment property refinance? Let’s start on the first floor and work our way up.
Steps To Refinance Your Investment Property
Just like refinancing a mortgage on a primary residence, you can refinance an investment property if you meet the requirements of the lender. You might choose to refinance an investment property to take advantage of a lower interest rate, shorten the loan term or get access to your equity in the form of cash.
You’ll need to research mortgage lenders and work with a loan officer to submit a mortgage application. The most important part of this process is sending the proper documents to underwriting for review.
Once an underwriter has reviewed your application, the lender will (hopefully) approve your new mortgage, and you’ll start making payments to your lender following your new loan terms.
Refinancing an investment property mortgage has many of the same requirements as refinancing a primary residence. In most cases, though, lenders will likely look out for even greater creditworthiness when you want to refinance investment property.
Requirements for refinancing your investment property
If you’re considering refinancing your investment property, you’ll want to make sure you’re in a good position to meet the requirements of most lenders. Though these can vary by lender and your unique situation, there are certain generally accepted requirements for refinancing your investment property.
- Loan-to-Value (LTV) ratio: Most lenders will want you to have an LTV ratio of 75% or lower before you refinance on a rental property. Refinancing your primary residence would only require an LTV ratio of 80% – 85%.
- Credit score: While you can usually get a conventional mortgage on your primary residence with a credit score of 620 or higher, lenders for an investment property will typically want credit scores of 680 or higher, especially if you want the lowest possible interest rate.
- Debt-to-income (DTI) ratio: Lenders want to make sure that you’re not overextending yourself by taking on more debt than you can reasonably pay back. So they’ll take a look at your DTI ratio (your monthly debts divided by your gross monthly income). Ideally, you’ll want your lenders to see that your DTI ratio is 50% or less.
Step 1: Gather the necessary documents
Before reaching out to your lender, make sure you have all your documents ready. Mortgage lenders will want to see current copies of any rental leases on your property as well as any non-mortgage expenses you’ve paid on the property. That way, they can get a sense of the property’s rental income and profitability.
Lenders also want to see that borrowers aren’t wholly dependent on your investment property for income. That’s because if your property is vacant for any period or isn’t providing adequate cash flow to cover your mortgage payments, you’ll still be able to afford the difference.
Expect your lender to also ask for:
- Employment history and pay stubs
- Profit and loss statements (if you’re self-employed)
- Tax returns (either W-2 forms or 1099s)
- Bank statements
- Investment account information
- Retirement savings
- Homeowners insurance
- Title insurance
Step 2: Apply for your mortgage
When you’re ready to refinance an investment property shop around and compare lenders. During the early part of your search, you don’t have to choose a single lender. Speak to prospective lender’s loan officers to find the lowest rate and best terms.
When you apply for a mortgage, you’ll have to choose between fixed-rate and adjustable-rate mortgages, as well as the new loan term. When refinancing investment property, many people opt for a different term length. This is so they can either save money by paying off the loan sooner, or extend the loan to reduce their monthly payment amount. It’s worth noting the latter option can come at the expense of additional interest over the life of the loan.
The application to refinance investment property looks nearly identical to applications for buying or refinancing a primary residence. Lenders will likely ask for your personal and financial information, which they’ll evaluate before giving you a quote on the refi rates they might be able to offer you.
Step 3: Lock in your new interest rate
After you’ve been given the initial go-ahead, you can lock in your new interest rate if you’re comfortable with the rate you’ve been quoted and don’t want to take a chance on it increasing before you close the loan.
If the information on your loan application remains unchanged, locking in the initial offer rate will be the interest rate you pay on the actual loan. When you lock the rate, it doesn’t matter whether interest rates go up or down – you’re committed to that rate.
So, in some cases, you might save money, but in others, you might be missing out on a lower rate. Keep in mind that lenders can only lock a rate for so long (often 30 days), so you’ll have to make up your mind relatively quickly.
Step 4: Head to the underwriting process
During the underwriting process, the lender will evaluate your creditworthiness by thoroughly examining all the documentation you submitted when you applied to refinance your investment property.
The lender’s underwriters will decide what interest rate and loan terms you qualify for. Typically, you can expect to hear back from underwriting within a few days, but in some cases, the underwriters will request additional information from borrowers, which could delay a decision by an additional week or more.
Step 5: Close on your refinanced investment property
Now that you’re almost at the finish line, there are a couple of items you should review to ensure your refi closing is smooth sailing.
You should make sure you’ve signed all the documents since a missing signature could cause unnecessary delays. For example, lenders are legally obligated to get a signed closing disclosure at least three days before the scheduled closing date.
Before you sign the closing disclosure, read through the terms of your loan and make sure you fully understand what you’re agreeing to. If you decide to change you mind during your review (or up to three business days after), know you can legally walk away from refinancing.
Assuming you want to move forward with refinancing your investment property, the next step is to attend your closing, sign all the loan documents and pay any applicable closing costs. Three business days after the last loan document is signed, your refi is officially closed.
Reasons To Refinance Your Investment Property
Refinancing requires smart planning. There aren’t hard limits on how frequently you can refinance an investment property but remember you’ll have to pay fees each time you do so. In addition, there are also certain requirements from lenders to refinance, such as having enough equity, a low DTI ratio and a good credit score.
Here are the most common reasons to refinance your investment property:
Switch to an adjustable rate
Though it doesn’t sound like much, lowering your interest rate by 1% or more could save you hundreds of dollars each month on your mortgage payments.
If you financed your investment property with an adjustable-rate mortgage (ARM), you might have started your payments with a low introductory rate. Once the introductory period ends, your mortgage rates will probably go up.
Refinancing to a fixed-rate mortgage will make payments more predictable and could help you save money in the long run.
Adjust your mortgage term
One way to save big on mortgage rates is to spend less time paying your mortgage. Converting from a 30-year mortgage to a 10- or 15-year mortgage lets you own your property sooner and can save you thousands in interest.
While you may likely have a higher payment each month, refinancing can still be effective because mortgage lenders almost always offer lower interest rates for 10- or 15-year loans compared to 30-year loans.
Take cash out
If you’ve built up enough equity in your rental property, you can tap into it with a cash-out refinance. A cash-out refi lets you borrow against your equity (the difference between the value of the property and the amount you owe) and gives you access to the money built up in your investment property.
The benefit of a cash-out refi is that it usually offers lower interest rates compared to a home equity loan, home equity line of credit (HELOC) or a personal loan. You can use the money to:
- Improve your rental property to increase its value and up your cash flow and rental income
- Help finance another investment property
- Pay down debts
A word of warning: Because mortgage lenders will want you to maintain an LTV of 75% or lower, it probably only makes sense to do a cash-out refinance on investment property if your LTV is 70% or lower. Otherwise, there may not be much cash to borrow.
Challenges to Refinancing Your Investment Property
Of course, refinancing isn’t free. Otherwise, we’d do it all the time. So keep the following in mind before you refinance:
Like any mortgage loan, you’ll need to pay closing costs. They can range from 3% – 6% of the value of the loan.
Usually, the lender won’t ask you to pay most of the closing costs upfront. Instead, they’ll roll them into your loan. While this can be convenient, there are two things to consider: It can negate some of the savings you might gain from your refinance, and you’ll be paying interest on those closing costs for the life of the loan.
Resetting your mortgage repayment schedule
When you refinance, you restart the clock on your mortgage payments. This means you’ll be back to having most of your monthly payments go toward the interest, not the principal.
One way to compensate for this is to see if your lender will give you a shorter term. For example, let’s say you’re 3 or 5 years into a 30-year mortgage. If you refinance with a new 30-year mortgage at a lower interest rate, you’ll pay less each month, but you’ll pay more in interest over the long haul.
Instead, see if your lender will let you refinance with a 20- or 25-year mortgage. That way, you can still save money each month and spend less time paying down your mortgage.
Getting Real With Your Real Estate
Owning an investment property can be a great way to make money now, and in the future, especially if you can refinance your way to a better mortgage.
Should you refinance?
Enough hypotheticals – our partners will give you expert recommendations, along with real interest rates and payments
Fannie Mae®. “ELIGIBILITY MATRIX.” Retrieved July 2022 from https://singlefamily.fanniemae.com/media/9386/display
Consumer Financial Protection Bureau. “How long do I have to rescind? When does the right of rescission start?” Retrieved July 2022 from https://www.consumerfinance.gov/ask-cfpb/how-long-do-i-have-to-rescind-when-does-the-right-of-rescission-start-en-187/