May 19, 2022

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How to Finance a Real Estate Investment Without a Stable Income

When it comes to financing investment properties, lenders will want to look at various information about you and the property in order to see if they can justify making the loan. And a look at the borrower’s income and employment history is often a big part of it.

This might not sound like a big deal if you have a steady paycheck from a job you’ve worked at for several years, but not everyone falls into this category. What if you own your own business or are a freelancer? Or what if you work for an employer, but your income is largely based on commissions or tips? In this article, we’ll discuss what implications this has when trying to obtain conventional financing for investment properties, as well as the main alternative to consider.

Conventional investment property financing

If you’re self-employed, own your own business, or work a commission-based job, your income is probably less consistent than the average 9-to-5 employee.

If you’re buying an investment property by yourself (as opposed to with partners), obtaining a conventional mortgage — one that meets Fannie Mae (OTCMKTS: FNMA) or Freddie Mac‘s (OTCMKTS: FMCC) lending standards — can be the preferable way to go. These loans tend to have the best interest rates and repayment terms, as compared to asset-based investment property loans (more on that in a bit).

The problem with conventional financing is that it’s income-based, meaning your income must be sufficient (and consistent) enough to justify not only the mortgage payments but your other debts as well. This can be a major obstacle for investors, as your income must be enough to justify the payments on your primary home as well as the investment property.

Specific requirements depend on your situation, but just to name one example from the latest Fannie Mae Eligibility Matrix, an investor purchasing a two-unit (duplex) property would need a 25{de3fc13d4eb210e6ea91a63b91641ad51ecf4a1f1306988bf846a537e7024eeb} down payment, as well as a debt-to-income ratio of less than 45{de3fc13d4eb210e6ea91a63b91641ad51ecf4a1f1306988bf846a537e7024eeb} if they have a credit score of 680 or higher.

Now, when it comes to inconsistent sources of income like self-employment or commission-based sales, lenders have different methods of determining your income for qualification purposes. For example, my last lender looked at a two-year average of my self-employment income. As long as you have an established track record of income that could justify the loan, it’s entirely possible to get conventional financing for an investment property.

Asset-based lenders: a great alternative

If a conventional investment property mortgage is too difficult, or impossible, to obtain because of the nature of your income, there could be another option: asset-based investment property loans. In recent years, the number of reputable asset-based lenders has soared. Just to name a few, Lima One Capital, Lending One, and Visio Lending make investment property loans that aren’t based on your income.

As the name implies, asset-based real estate loans are primarily based on the underlying asset, meaning the property you’re planning to buy. Typically, the borrower will still need to submit to a personal credit check, and you’ll need a substantial down payment (25{de3fc13d4eb210e6ea91a63b91641ad51ecf4a1f1306988bf846a537e7024eeb} is usually expected), but otherwise the loan will be based on the property itself, not your personal income, employment, or assets.

The important number most asset-based lenders focus on is the debt service coverage ratio, or DSCR. This is the ratio of the property’s expected rental income to the expected mortgage payments (including taxes and insurance). While requirements can vary from lender to lender and may depend on your credit score, most want to see a DSCR of at least 120{de3fc13d4eb210e6ea91a63b91641ad51ecf4a1f1306988bf846a537e7024eeb}, and higher is better.

To be sure, asset-based investment property loans tend to have somewhat higher interest rates than conventional loans and may have slightly less favorable repayment terms (like a prepayment penalty), but these can still be valuable tools for real estate investors.

The Millionacres bottom line

It can be more difficult to finance an investment property — or any type of real estate purchase — if you have any type of income other than a steady paycheck from an employer. Trust me, as a self-employed freelancer myself, I know this firsthand.

However, don’t get discouraged. While documentation requirements might be more intense, it’s certainly possible to get a conventional investment property mortgage with a nonconventional income. And even if traditional mortgage lenders say no, there are some excellent asset-based lenders who would love to fund solid investment property opportunities.