Real estate remains one of the best investment options over the long term for many reasons. While the challenge for many is that the cost of entry into a real estate investment can be very steep, more affordable ways to add real estate to one's portfolio exist. However, the buyer must be willing to be a landlord in some cases; in others, the amount of risk a buyer is willing to undertake is a factor. Here are ways a person can invest in real estate without a lot of money.
Reduce the Down Payment with an FHA Loan
Lenders approved by the Federal Housing Administration (FHA) can issue loans with more favorable terms when a buyer cannot obtain a loan from a bank or private lender. The FHA insures these mortgages. So long as buyers intend to live in the property as their primary residence, they can qualify for an FHA loan.
If the buyer's credit score is above 580, they can obtain an FHA loan for as little as a 3.5 percent down payment. For credit scores under 580, the buyer needs to put up 10 percent. Additional FHA loan requirements include:
- A mortgage insurance premium
- Sufficient debt-to-income ratio
- Proof of employment and steady income
Some additional government loan programs offer excellent terms if a buyer qualifies for them. Military veterans, for example, can obtain a VA loan for no down payment. Other programs are administered by the USDA, Fannie Mae or Freddie Mac, the Energy-Efficient Mortgage (EEM) program, and others.
There are several government loan possibilities, especially for first-time home investors. Seek the help of a real estate professional familiar with various government lending programs.
House hacking is a viable option for those who don't mind being a hands-on landlord. In this strategy, after the buyer has saved enough for a house, they purchase a multi-family property and then use one of its units as their primary residence. They can also obtain an FHA loan with a down payment of as little as 3.5 percent. The buyer then rents the other units to tenants, which helps to cover the mortgage, repairs, and other expenses, saving money.
Some size limits exist on multi-family properties when qualifying for an FHA loan. Most lenders require the dwelling to be a fourplex or smaller. Buyers should do their due diligence to ensure the rental income will cover the mortgage, vacancies, property taxes, and other expenses.
Create a HELOC on Another Property
If someone has built up enough equity in their first home or a different property, they can ask their bank for a Home Equity Line of Credit (HELOC). According to Auction.com, many banks will provide a HELOC of 70 to 80 percent of the equity the buyer already owns. Those funds can then be used for investing in another property.
There are several advantages to using a HELOC to purchase a rental property:
- No upfront fees
- No closing costs
- Lower interest rates
- Can be used as a zero-down mortgage to purchase a rental
The interest on a HELOC is typically calculated as one or two percentage points above the prime rate. Many banks will allow a straightforward appraisal on the buyer's property and don't charge a fee. The buyer can then use the rental income to pay the interest and principal on the HELOC monthly.
One downside to a Home Equity Line of Credit is the terms are variable with the prime rate. If interest rates increase, it can impact the buyer's ability to keep up with payments.
Ask the Seller to Cover Closing Costs
Nearly every real estate transaction will enter a negotiation stage, in which both the buyer and the seller can alter the terms of the deal. One thing a buyer can ask for, which a seller may provide, is for the seller to cover closing costs. This can significantly reduce the money needed to purchase an investment property.
Bank of America estimates closing costs at around three to five percent of the home's total purchase price, although this can vary with lenders. If the seller agrees to pay closing costs, it will be unlikely the buyer can negotiate a lower price on the home. With this strategy, they can get into the house for less money but have to pay full price for the property.
Because the buyer is paying full price, they should do a solid estimate to see how much money the rental home will generate. It will need to provide enough income to cover any vacancies or repairs.
Real Estate Crowdfunding
Several companies now offer the option to add real estate to an investment or retirement portfolio. The downside to this option is that the buyer does not actually own any property but a stake in a property. A buyer invests their money with a real estate investor on a specific project within a specific timeframe.
Some companies that offer this type of portfolio investing on real estate projects include Fundrise, Crowdstreet, and RealtyMogul. Fundrise allows people to start investing in real estate projects for very little upfront money, and users can average around a five percent return on their invested funds.
Ready to Start Investing in Real Estate?
Many options allow people to start investing in real estate with less money, including some that are not included here. By reducing the down payment with an FHA loan, house hacking, creating a HELOC on another property, or asking the seller to cover closing costs, you can get into the market sooner than you thought possible. If that’s still not feasible for you, there’s also real estate crowdfunding. With so many options available, there’s no reason not to start investing in your future today. Whether you’re a first-time buyer or an experienced investor, there are plenty of ways to get started. Talk to a real estate professional in your local market to learn about other options and programs available.