Your Perfect Investment Property May Not Be An Easy Deal

By A. I. Lendberg, Edited by Douglas Katz – 04/11/23

Real estate investing can be a lucrative way to build wealth and generate income streams, but securing financing for investment properties can be a complex process. One of the factors that can have a significant impact on financing options is the type and characteristics of property being purchased. Different property types can come with their own set of challenges, ranging from zoning regulations to tenant considerations. In this article, we’ll explore some of the ways that property type impacts getting financing for investment properties.

Different Can Mean Hard to Value and Risky

Unique properties can present a significant challenge for investors seeking financing for investment properties. Differentiating features can be something that bring in renters, especially in the short-term rental space, but that does not always translate to value for the lender.  Valuing these properties can be difficult as there may not be comparable properties that have sold recently or at all. In short what makes them desirable to you make them less so to a lender who may be hesitant to finance a property without a clear understanding of its value, as this can pose significant risk.

To address this challenge, investors can take a few steps to mitigate the risk associated with unique properties. The first step is to know everything that you can about a potential purchase.  Do the necessary due diligence and research on every property. This includes researching the property’s history, condition, and any unique features or characteristics that may make it stand out. Investors should also have a clear understanding of the local real estate market and how the property compares to other properties in the area.  Annotate and have a plan for anything out of the ordinary early on in the process as you may be able to use the differences for leverage in negotiations.  Difficult properties mean less buyers.  Less buyers mean the seller may be open to factoring these differences in.  At least if they are wise they will.

Another step that investors can take is to work with a lender who has experience with unique properties.   You can start out with a conventional lender, but, more often than not, you will end up with a hard or private money lender.  These lenders work in a less regulated sector of the market and they may have access to specialized valuation methods or be more familiar with the unique features of the property and how they impact its value.  This is also where your due diligence can come in handy.  Your ability to clearly articulate any oddities or unique characteristics to the lender gives them the ability to research the right program and source for your funding.  In the most extreme cases, a lender may uncover the need for a deal to be cash only when they have exhausted the other options.

Investors should also have a clear plan for how they will generate income from the property, as this can impact the perceived value of the property.  This includes identifying potential tenants or buyers and having a clear understanding of the property’s potential cash flow.  If the uniqueness offers the possibility to charge more, for example, that could help a lender understand the true value of the deal. Any supporting evidence of this type needs be verifiable and relevant.  Expect something from third-party sources to support any assumptions of rate increases for tenants and/or other premiums that you can charge for amenities.

Location

Any property that differs from the norm means risk to the investor.  Rural properties, for example, can present unique challenges for investors seeking financing, as they may be located in areas with limited housing stock from which to compare values and they may have limited access to things like utilities or services. To determine if a property is rural, investors can look at factors such as its location, distance from urban areas, and access to public services like water, electricity, and sewage. If a property is determined to be rural, investors may need to adjust their plans accordingly. For example, they may need to budget for additional costs associated with installing wells or septic systems, or consider alternative sources of energy such as solar panels or generators. Additionally, they may need to provide additional documentation, such as soil and water reports, to help lenders assess the value of the property.

Rural is just one example.  There are other location driven challenges that can plague unprepared investors.  Coastal regions, especially in storm prone areas, bring a host of extra considerations for maintenance and cost for things like insurance, if you can get it at all.  This can throw off the DSCR for properties that are already close to the allowable ratio.  Many of these costs can be managed but they cannot be ignored and investors need to understand the scope of these.

Different Can Often Mean Difficult

Properties with odd zoning, multiple dwellings, or other unique features can pose challenges when it comes to financing. Lenders may be hesitant to finance these types of properties, as they may be seen as higher-risk investments. To determine if a property has odd zoning, investors can review its zoning classification or consult with a local zoning expert. If a property has multiple dwellings or other unique features, investors may need to provide additional documentation to help lenders assess the value of the property, such as surveys or zoning documents.

When it comes to planning, investors may need to adjust their strategy depending on the property’s unique features. For example, if a property has odd zoning, investors may need to consider how that zoning impacts their ability to make changes to the property or use it for certain purposes. They may also need to budget for additional costs associated with obtaining necessary permits or variances. If a property has multiple dwellings, investors may need to consider the additional costs associated with maintaining and managing multiple units. They may also need to budget for potential vacancies or maintenance issues. Finally, if a property has unique features that make it difficult to appraise, investors may need to work with specialized lenders who understand how to assess the true value of the property.

By carefully considering these factors and adjusting their plans accordingly, investors can increase their chances of successfully financing a property with odd zoning, multiple dwellings, or other unique features. Additionally, by working with a lender who has experience with these types of properties, investors can increase their chances of securing financing and making their real estate investment dreams a reality.

Low Price Properties Sometimes Don’t Clear The Minimum Loan Amounts

Properties with very low values can also pose challenges when it comes to financing. Lenders may have minimum loan amounts that they are willing to fund, which can be difficult to meet with low-value properties. Additionally, properties with very low values may not provide enough collateral for the lender to justify the loan.

To determine if a property has a low value, investors can review comparable sales data in the area to assess its market value. If the property’s value is determined to be very low, investors may need to consider alternative financing options such as hard money loans or private lenders. These types of lenders may be more willing to fund lower-value properties but may charge higher interest rates and fees.

When it comes to planning, investors may need to adjust their strategy depending on the property’s value. If the property’s value is too low to meet lender minimums, investors may need to consider alternative financing options or look for higher-value properties that meet the lender’s requirements. Additionally, investors may need to budget for additional costs associated with alternative financing options, such as higher interest rates and fees.

It’s worth noting that even blanket loans, which allow investors to use multiple properties as collateral for a single loan, may not always be a viable option for low-value properties. While the aggregate value of the properties may be higher than the lender’s single loan minimum, each individual property still needs to meet certain value requirements. If the value of each property is too low, it may be difficult to secure a blanket loan that provides enough funding to meet the investor’s needs. Additionally, blanket loans may come with higher interest rates and fees, so investors should carefully weigh the costs and benefits before

Avoid Mixed-Use Mix-Ups

Mixed-use properties, which contain both residential and commercial spaces, can be more challenging to finance due to the added complexity of assessing both the residential and commercial components. To determine if a property is mixed-use, investors can review the property’s zoning documents or consult with a local zoning expert. In addition, investors can analyze the layout of the property to determine the percentage of commercial to residential space. This is important because the ratio of commercial to residential space can impact an investor’s planning.

When it comes to planning, investors will need to take into account the commercial and residential aspects of the property separately. For the residential component, investors will need to consider typical residential costs such as maintenance and upkeep, vacancies, and potential rent income. For the commercial component, investors will need to consider typical commercial costs such as lease rates, tenant improvements, and property management.

The ratio of commercial to residential space can impact an investor’s planning in a few different ways. If the commercial component makes up a significant portion of the property, investors may need to factor in the additional costs associated with managing commercial tenants and dealing with commercial lease agreements. Additionally, investors may need to consider the impact of the commercial component on the property’s overall value, as the income generated from the commercial space can increase the property’s overall value. Finally, the type of commercial space can also impact an investor’s planning. For example, a property with a restaurant tenant may require additional plumbing and electrical work, while a property with a retail tenant may require additional structural modifications.

By carefully considering these factors and working with a lender who understands the unique challenges of mixed-use properties, investors can increase their chances of successfully securing financing for their real estate investment.

Unique Ownership and Rental Agreements

When it comes to investment properties, it’s not uncommon for tenants to include corporations, non-profits, or other types of entities that may not be typical residential tenants. These types of tenants can present unique financing challenges, particularly when they are renting an entire multi-unit building.

Lenders may have different criteria for financing buildings that are being rented out to non-standard tenants, and it may be more difficult to find lenders willing to finance these types of properties. Investors should be prepared to provide additional documentation about the tenant’s financial stability and leasing history to help reassure the lender that the investment is a sound one.

Another scenario that can pose financing challenges is when an investor’s own entity is renting out the property, particularly if that entity is in turn renting the property out as a short-term rental. In these cases, lenders may be hesitant to finance the property due to the increased risk associated with short-term

The Regulation Situation

This is not new but the scope of regulation has become more of a consideration, especially with the recent rise in short-term rentals.  This is probably the most rapidly changing aspect of real estate investing outside of rates and loan program changes.  Municipalities are evaluating the impact of short-term rentals on the housing impact, the safety of the community and potential revenue that they can capture.  A profitable investment can change to nightmare when the rules change, so investors need to be in tune with the areas that they are investing and plan accordingly.

Long-term rentals are less prone to these new regulations, but they are not immune to them.  The regulations impacting long-term rentals can range from tenant rights and protections to rent control ceiling that limit the amount that a landlord can charge.  While rare and limited to certain areas, there has been more and more emerging about housing equality and equity in many areas as progressive local governments have taken the helm around the country.  I am not here to opine on whether these are good or bad for the cities in question, but I have definitely have the strong opinion that knowing these and planning for them is a must.

Conclusion

Securing financing for investment properties requires careful consideration of a variety of factors, including the property type. Single-family and multi-unit properties come with their own unique challenges, and investors must also take into account factors such as rural locations, zoning regulations, and unique property features. By working with experienced lenders who understand the nuances of real estate investing, investors can increase their chances of successfully securing financing for their investment properties. With careful planning and attention to detail, investors can turn their real estate investments into profitable ventures for years to come.

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Disclaimer: This article was created with the assistance of multiple ChatGPT AI language models and has been edited and refined by Douglas Katz. The information provided in this article is intended for general informational purposes only and should not be considered as professional or expert advice. The views expressed in this article are solely those of the author and do not necessarily represent the views of ChatGPT or OpenAI. Readers are advised to do their own research and consult with relevant experts before making any decisions based on the information provided in this article.