Traditional vs. Non-Traditional: Choosing the Right Kind of Loan for Your Real Estate Investment


So, you’ve decided to invest in real estate by purchasing a rental property. Now what? Your first step is deciding what kind of rental you wish to buy and operate. After you have made the decision to either buy a residential property or vacation property, you must decide how to finance your purchase of the property you have selected. This decision can seem daunting seeing as you, a first-time investor, may not have the funds to outright buy the property.

That’s okay, most investors don’t.

Fortunately, there are a few options available to you when it comes to financing your investment. You could decide to go with a traditional loan, such as obtaining a mortgage through a bank, or you could go with a non-traditional loan through a hard money lender or other private institution.

Both types of loans can get you into your new rental property, so it is entirely up to you which type of loan will work best and get you where you want to be financially.

Traditional Loans

A traditional loan is usually defined as a mortgage or a loan through a bank. You can obtain this loan in the same way that you would if you were looking to purchase a personal residence.

The upside to this type of loan is that it will typically have a lower interest rate attached to it. However, it can often take a few weeks to a couple of months to obtain a mortgage, and you will need a substantial down payment if you are not a first-time homebuyer.

While this down payment for your rental property would have been lower in recent years, the added effects of the global pandemic have led to the prices of homes—and therefore, down payments—to increase.

Another drawback to a traditional route towards financing your endeavor is the added stipulation of good credit history.

Again, as a first-time investor or someone who has been affected by this year’s economic crisis, you may not have had the time or capability to build up your credit score, making it more difficult to obtain a loan for a piece of real estate.

These stipulations can often prevent potential buyers and investors from purchasing a property, so if you choose this route, you should be prepared with an outstanding credit history and a healthy downpayment.

Non-Traditional Loans

A non-traditional loan can come in the form of a gift or credit from a private institution, such as a friend or business, or from a hard money lender.

Hard money loans are typically faster to obtain than traditional loans or even loans from other types of private institutions, simply because they do not rely on the same types of stipulations that other lenders do.

Hard money loans are usually obtained through collateral in the form of real property rather than a credit score and down payment. Because they are available to buyers in an unconventional way, first-time investors can often obtain this kind of loan by promising their rental property as collateral and putting no money down.

However, this type of loan also has higher interest rates attached to it because of the higher risk the lender is taking. Fortunately, there are programs that can help borrowers use other types of financing to pay back hard money loans quickly, helping them to accrue less interest in the long run.

While hard money loans are unconventional, they can be a great solution for buyers who are not in the most ideal position to purchase a rental property but still wish to work towards building financial security through building their investment portfolio.

Conclusion

Buying rental properties can seem like a risky business—you could lose money on a property and wind up with a large amount of debt, you could have unreliable renters, or you could simply purchase a property that has so many issues that it makes it difficult to renovate and rent it without additional financing.

However, if you are a first-time investor, there are ways to finance the purchase (and the renovations needed) of your first rental property in a way that is financially sound and may help you see a fast return.

Who knows, you may find that you have a knack for purchasing and operating rental properties, and this first investment may lead to a very lucrative income that can help you and your family in your quest for financial stability.

Jeff Campbell

Jeff Campbell is a husband, father, martial artist, budget-master, Disney-addict, musician, and recovering foodie having spent over 2 decades as a leader for Whole Foods Market. Click to learn more about me

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