Saving for the down payment on a home is probably the biggest obstacle to homeownership for most people. According to data released by HotPads, it takes the average renter eight years to save enough money for the 20% down payment required by mortgage providers. That is if they live in a place where rents are moderately low.
For many people, high rents and rising home prices mean they will have to wait, at least, ten years before they can start the journey to homeownership.
If you have been considering the possibility of investing in rental properties, this is terrible news. It means you have to cross the hurdle of making a down payment on the property twice. The first time, you have to do it to save up money to buy your home.
The second time, you must do it again to pay for the rental property. And if it takes you eight years each time to save enough money to buy a property, you are looking at a period of 16 years before you can buy your first rental property. That is not good.
While this may be an oversimplified or exaggerated scenario, the point is clear. Saving money to buy a home is not easy, and if your dream of becoming a landlord hinges on that, it will take years for the plan to come true.
But what other alternatives are there? Is there any way to get around the problem of saving money for the down payment on an investment property? The good news is there is, and if you already own a property, your situation may already be solved. Upkeep Media agency explains how this is possible.
Understanding home equity
Most homeowners only have a vague idea of the meaning of home equity. They know the equity in their home is created by the down payment they made to buy the property. Second, they know that their monthly mortgage payments increase their equity in the property. Third, they recognize that those payments are a way of slowly transferring ownership from the bank to themselves. And the longer they make those payments, the more equity they own in the home.
But beyond these, most homeowners do not understand the power of the equity in their property. They know they can borrow from their home equity to finance a home renovation or some other project. But most homeowners do not understand that they can leverage their home equity as a tool to get ahead financially. Rather than tap their home equity to purchase liabilities, homeowners can use it as a down payment to fund the purchase of a rental property. How does this work?
How to access your home’s equity
Two things determine the amount of equity a homeowner has in their home: how much of the mortgage principal they have paid-off and the extent to which the home’s value has appreciated or depreciated.
Example:
If the initial purchase price of your home was $180,000 and you made a 20% down payment to buy it, your equity in the house would be $36,000. The bank would own the other $144,000.
If, after years of owning the property, you have paid-off $50,000 of the mortgage, your equity in the property would have grown to $86,000, and the bank’s ownership would have shrunk to $94,000. However, if the home has appreciated and its market value is now $220,000, that additional value would push your equity to $134,000.
- That amount of $134,000 is what is available to you for financing a rental property. And you can access it through either a: Home equity loan or second mortgage, or Home Equity Line of Credit (HELOC).
A home equity loan functions like a second mortgage. Typically, a lender will let you borrow up to 75% of your available equity. This money is paid to you as a lump sum, which you may use to make the down payment on a rental property.
Banks like this type of loan because it is secured against a safe asset, your home. The advantage of a second mortgage is that you can pay back the loan in monthly installments, the same way you repay your primary mortgage.
A home equity line of credit (HELOC) is more similar to a credit card than to a mortgage. It is a revolving line of credit that allows you to borrow money and repay it for as long as the line of credit is open. HELOCs are ideal for investors who are interested in property flipping. The HELOC gives them access to a pool of funds they can use to buy and renovate a property, and then repay the loan after they sell the home.
Using your home equity to finance your investment property is a safe way to maximize your existing resources to grow your assets. As long as you do your due diligence before you purchase a property and you are consistent in repaying the loan, you cannot go wrong with this strategy.
We are pledged to the letter and spirit of U.S. policy for the achievement of equal housing opportunity throughout the Nation. See Equal Housing Opportunity Statement for more information.
