Conventional mortgage loans are one of the oldest real estate loans which have been around since the advent of real estate investing and financing. It remains one of the most sought-after loans in the market because of its great rates and lower costs.
These loans were tailored to suit the needs of homeowners perfectly, and they still are a good option for homebuyers who are looking to find reliable funding.
That said, how suitable are conventional mortgage loans for real estate investors? Are conventional mortgage loans the best source of funding for real estate investors who are into the real estate industry with the primary motive of making profits against homebuyers whose primary motive is to secure the best home for themselves? Who are conventional mortgage loans for?
This blog will provide answers to these questions and further explains – Why NOT to use conventional mortgage loans as Commercial Real Estate Investors. Without further ado, let’s look at the answers to these questions.
How suitable are conventional mortgage loans for real estate investors?
Conventional mortgage loans may be “one-of-the-many” loan options for real estate investors but not the most suitable one. The reason being: conventional loans take a long time to process and generally require the borrower to have a great credit score.
Real estate investing is all about timing and utilizing the best opportunities in the given time frame.
The cost of losing an opportunity of investing in a specific property can be very high for any real estate investors. In such cases – conventional mortgage loans are the last resort as they take their own good sweet time to be processed.
They can be the best loan options for homebuyers who want to buy a home to live in or to simply rent out but not the best option for savvy investors who plan to make huge profits from real estate investing – generally by flipping properties.
Who are conventional mortgage loans for?
Conventional mortgage loans are perfectly suitable for people looking for residential homes with the intent of living in there or owners who want to rent or lease out residential or multi-family properties, making it a side income.
Put it simply – it is for people who boast a great credit score and who are in no rush to arrange for an immediate source of financing.
Why NOT use conventional mortgage loans as Commercial Real Estate Investors?
Here are five good convincing reasons why you should not use conventional mortgage loans as Commercial Real Estate Investors:
Reason #1 – The Underwriting Process
The Underwriting process or the process of loan approval is a lengthy one and one that takes a long time. Conventional mortgage loan lenders have their own set of loan qualifying requirements and take a long time to process loan requests.
In most cases, even after patiently waiting for a significant period – loan requests are not approved. That’s a bad place to be in for real estate investors who are looking for a quick financing solution.
Besides, the underwriting process involves verification of borrower’s credit, income reports, previous lending history, income, employment and Income Tax Returns, which can be a taxing process especially for investors who are in frequent need of finance and don’t have the time to repeat these underwriting procedures every time there’s a need for finance. Thus, conventional loans are not a wise financing option for savvy realtors.
Reason #2 – The condition of the property
In real estate investing, often identifying a potential investment opportunity in property and location where others aren’t paying attention to – can lead to very promising returns.
But in such cases, the onus of convincing lenders to finance the real estate investment opportunity is on the borrowers, and it can be quite a daunting process. In a typical scenario where a borrower brings in a rare property type or location, lenders often ensure that the valuation of property is done on fair lines.
While doing so, property evaluators come into picture, and they determine the value of the property based on the condition of the property, generally including details like – the number of square foot, the number of pillars and rooms, the quality of the construction materials used, the durability of the tiles and other construction materials used and so on.
It takes a long time and is again subject to double verification by the conventional mortgage lenders – often by hiring a private property evaluator. Thus, it can act as a huge hindrance to the investment opportunity and can, in turn, render a rather profitable venture into a failed opportunity.
Reason #3 – The Speed of Loan Approval
Speed is undoubtedly the biggest drawback of using a conventional mortgage loan. The availability of funds can often become the difference between closing a deal and losing out on another.
This hindrance is something that cannot be taken lightly as capitalizing on the opportunity at the right time is a major part of real estate investing success, and it determines the overall real estate success in the long term!
Losing out on time is risk investors cannot afford to take. On the other hand, homebuyers can always rely on conventional mortgage loans as they are no real “rush” to close a deal or lock in on a property. Alternative loan options that do not have speed hindrances are, therefore, a better option at any given point of time for real estate investors.
Reason #4 – Need for better credit scores
Conventional mortgage loans rely heavily on the credit scores of a borrower. The previous lending and repayment histories, income patterns, tax returns, etc. matter a great deal for conventional lenders to approve a borrower’s loan request. That’s bad news for investors who cannot boast of a great credit score.
Banks and traditional lending institutions that issue conventional loans are often a no-go for investors whose credit scores are anything less than 700. On the other hand, conventional loans are also not a great option for self-employed borrowers or freelancers who do not have consistent income patterns.
Their loan requests are often turned down by conventional mortgage lenders simply because their income cannot be backed up by bank statements that reflect consistent cash flows.
In such cases again, borrowers have to rely on alternative forms of real estate financing. And if you know you have a poor credit score – getting a conventional mortgage loan is definitely a far-fetched idea for you.
Reason #5 – Huge down payment
Besides having to go through a lengthy documentation and loan approval process, conventional mortgage loans also require borrowers to deposit a bulky down payment – generally 20% of the loan amount.
Now, that might not be a huge burden for homeowners or home buyers as they can look at it from a rather long term perspective where they can enjoy lesser cumulative interest and lower rates, but for Commercial Real Estate Investors, locking in 20% capital of a property in the form of down payment is not a lucrative deal.
While investors are looking for a quick financing fix, having to bring in a whopping 15 to 20 percent of the property value out-of-the-pocket can be a huge burden and one that doesn’t serve a profitable purpose in the long run. That’s one more reason as to why conventional mortgage loans are a no-go for realtors.
These are five big reasons why Real Estate Investors should say no to conventional mortgage loans. Further on, here are other alternative forms of real estate financing, which can be considered as the best options for real estate investors.
Number 1 – Private money lenders
Private money lenders are lenders who are interested in lending their capital to potential investors where they are assured of good returns.
While working with private money lenders, you can often be guaranteed the capital, shorter terms, and the availability of financing at any given point of time without the speed hindrance.
All you have to do is work up a profitable real estate investment plan and win the trust and confidence of private money lenders who will provide you the capital you need at the time you need in exchange for returns on their loans and on the property.
An important point to note here is that private money lenders focus on property or asset-based lending where the value and profitability of the real estate property become the single most important factor in determining whether or not your loan request will be approved.
Number 2 – Hard Money Lenders
Hard money lenders for commercial property are semi-institutionalized lenders who have a specific set of loan qualifying requirements and work on select procedures. Hard money lenders generally do not fund an entire real estate deal but cover up to 70% of the property value, but the good part of working with them is the speed with which they strive to close deals and approve loan requests.
What’s more? Once you’ve built a good rapport with a bunch of hard money lenders, you know you have a reliable lenders’ network to fall back upon, which gives you the confidence to jump in on the next best investment opportunity.
Bottom line: If you want to strike while the iron is still hot, hard money lenders are the way to go.