Financing for Portfolio Growth. Think Strategically!
An important part of real estate investment success is securing the right financing. This is particularly true as investor’s transition from one or two properties, to three, four, or more.
The initial property may have been financed by your local bank, and why not? You’ve dealt with the Bank for years, and you know them well. They offered you a terrific rate on your triplex acquisition. Your second property financing did not go quite as smoothly. You found yourself having to put more equity in than originally planned. But they came through again, with a good rate, and terms you could live with.
Fast forward to your most recent acquisition, and lo and behold, you’ve hit a financing wall. All of a sudden you’re considered higher risk, and your Bank isn’t too quick to return your phone calls!
What happened? You likely focused on achieving the keenest rate available, but lost sight of the importance of being strategic about your financing.
There are many factors at play.
The type of property you are buying has a definite bearing on your lender’s appetite. Most traditional sources of financing, (Banks, Credit Unions, and the like) are cash flow lenders. Critical to these lenders is actual ongoing property cash flow, more than sufficient to adequately service the debt. A property may be bought for cash flow, or perhaps for wealth creation, or perhaps both. Small apartment buildings are investor favorites. Per suite values are often surprisingly high. They have historically held their value and have been an important component of many an investor’s wealth creation journey. Perhaps a bit of a generalization, but they often do not generate a tremendous amount of cash flow. Consequently getting a relative high loan to purchase price, is not always available, unless an insured high ratio financing package is selected.
The lender’s particular lending criteria have to be well understood. For reasons which could be as diverse as lender location, nature of lender’s present loan portfolio, the type and quality of property being financed, as well as the lender’s pricing needs, not all lenders will be anxious to fund your loan. If a lender has a significant number of small apartment loans in their portfolio, chances are they are comfortable discussing your recent purchase of a six-plex, but are not going to be comfortable chatting to you about your 75% loan requirement on that self-storage property on the outskirts of town. The property may cash flow well, however it represents a type of real estate unfamiliar to many lenders, and your valuable time is wasted trying to convince a skeptical lender to consider this investment opportunity.
Your particular investment strategy is an important consideration as well. You plan to acquire under-performing smaller multi-family residential properties, with a view to upgrading the properties, securing more creditworthy tenants, and once you’ve done so, selling the property at a profit. Great strategy! So why have you approached an “A” lender for a long term mortgage? They are likely not keen to lend on your under-performing asset, and even if they did, it would be expensive to get out of that mortgage in the event you sell prior to loan maturity. A “B” lender may be more suited to your situation. Perhaps you’ll pay a slightly higher rate, but they are more comfortable with the “fix and flip” approach, vs. the more common “A” lender, “buy and hold” financing approach.
The reality is that you will likely hit that “financing wall” at some point, with your current lender. Even if your credit and employment situation remains stable, it is possible that the maximum lending ratios of that particular Bank had been reached. This is often the case with investors who, for good and valid reasons, elect shorter amortization periods. Rapid debt reduction may be important to your wealth creation strategy. It does however impact your monthly cash flow significantly. Perhaps even to the extent that it impedes your ability to secure new financing for that next property. Rather than approaching the financing you need as a single property program, consider discussing with lenders how they would approach multiple property financing requirements, over a period of time.
It pays to educate yourself in advance of your property acquisition. Which lenders are available to you and what are there lending criteria? How do their lending programs align with your investment strategy?
Consider as well, the appropriateness of aligning yourself with a competent commercial mortgage broker. They are well positioned to advise on current market conditions. They identify lenders best suited to your particular needs, and will consider your ongoing “big picture” requirements, as you build your real estate portfolio.