Financing the purchase of an investment property is a little different than a home mortgage. Lenders perceive that there is higher level of risk associated with second homes and properties purchased for rental income and eventual appreciation. Statistics indicate that personal residences are better maintained than properties that are not permanently occupied by the owner. Certainly those who experience difficult financial setbacks are far more likely to dispose of investments rather than their home.
There is a significant difference in the standard Fannie Mae and Freddie Mac lending criteria for a second home verses a rental property. A second home is defined as a property that is occupied by the owner at least thirty days each year. Second homes are financed at lower interest rates and lower fees. This may seem like a contradiction to some since they theoretically do not generate income for the owner or at least not as much as a year around rental. Second home financing is considered lower risk to the lender for several reasons.
The primary factor is that since the owner will be occupying the property for some period of time each year there is no way to project the amount of rental income to offset the mortgage payment. Therefore, standard underwriting criteria requires that the borrower qualify for the mortgage on their primary residence as well as the new second home mortgage payment and any other debt that their credit report reveals. Underwriters do not count any projected rental income into their qualifying ratios because it is unpredictable. This is because the owner will occupy the vacation property for some period of time each year. Because it must be in good condition to attract short term tenants, it is likely to be well maintained.
The important difference in qualifying for the rental property is that rental income is considered by the underwriter offsetting the mortgage payment to some degree. When the lender's appraiser inspects the property to determine the value related to the loan, an analysis is made of comparable rental properties. The appraiser will determine a "fair rental value". The underwriter deducts 25% of the projected rental value for vacancy and maintenance and the balance is credited as hypothetical income to offset the new mortgage payment and credited to the underwriting ratios. Essentially, if the borrower qualifies for their current mortgage, it is not much of a stretch to qualify for the new payment.
Whereas second home mortgage interest rates are the same or only slightly higher than owner occupied rates, investment property rates are.5% to.75% higher with down payment requirements of 20 to 30%. This is simply the risk verses reward criteria lenders factor into their investments.
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