Rental income can help you qualify for a mortgage. What happens if you don’t have a history of receiving the rent, though? Can you still use it? In some cases, you can, but you’ll have to understand the rules before proceeding.
Renting Out a Home
If you buy a home with the intention to rent it out, you’ll likely have another mortgage you pay on the home you live in. You’ll need something to offset that 2nd mortgage. Without having renters in the home paying you, the lender can’t use rental income that you receive. They can, however, use the projected rent. Fannie Mae and Freddie Mac require lenders to do the following:
- Obtain a Fair Market Rent Report from the appraiser
- Calculate 75% of the fair market rent reported by the appraiser
You can then use this income figure to determine your total debt ratio.
Even if you already have a lease in place, the lender must take 75% of that amount. The only way they can use actual income made from rent is income you have reported on your tax returns. If this is a new venture for you, that won’t be possible.
The lender will just take 75% of the smaller amount from above, either the fair market rent or the lease agreement.
Qualifying for the Loan
It takes more than future rental income to qualify for the loan. You already pose a risk to the lender by buying a home that you won’t live in. You’ll need to provide some good qualifying factors to get the lender to approve you for the loan.
A few examples include:
- Higher down payment – The minimum 5% down payment isn’t enough to offset the risk of being a new investor. Instead, aim for a 20% or higher down payment. This shows lenders that you have an interest in the transaction and are going to work hard to make it work.
- Great credit – You can expect lenders to require higher credit scores for rental properties. Again, because it’s not your primary home, there is a lot at stake. You aren’t as likely to work hard to save the home if it’s not the one you and your family live in.
- Low debt ratio – Carrying 2 mortgages at once can eat away at your debt ratio. Try limiting your other monthly debts before buying an investment home. Pay off credit card debt and keep your installment debt to a minimum.
Buying a Multi-Unit
Sometimes it’s possible to even use FHA financing on a rental property. If you buy a multi-unit property (1-4 units) and live in one unit, it’s considered owner occupied. In this case, you can still use projected rent to help you qualify for the property.
It’s like getting your cake and eating it too. You can invest while still having a place to live. Just like Fannie Mae, though, the FHA will use 75% of the projected rent for the unoccupied units. This allows the FHA to account for rental expenses and vacancies throughout the year.
Normally the FHA loan isn’t for investment properties. This is one instance where you can get away with the flexible underwriting guidelines and buy an investment home, though.
Using future rental income is possible to help you qualify for an investment property. It’s a popular tactic for new investors. They don’t have the experience renting yet, but they have to start somewhere. Remember, to kick up your compensating factors for this type of loan, though. Once you get on a roll and have multiple rental properties bringing you income, you can use the actual income you make. Most lenders require a 2-year history of rental income before using it for qualification purposes.