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Refinancing an investment property can be a way to get money to repair or improve a rental unit. (Shutterstock)

An investment property can be a good way to generate regular income. Rental fees can defray or fully cover your mortgage payment on a rental property, while putting extra cash in your pocket.

But just like a regular mortgage, a mortgage on an investment property comes with costs, which you may be able to reduce with refinancing. Whether you’re looking to lower your interest costs with a lower rate, pay off the mortgage sooner with a shorter repayment term, or tap into equity to make improvements to the property, there’s a process you’ll need to follow. of refinancing.

Refinancing a mortgage on an investment property is similar to refinancing your mortgage on your primary residence, with a few notable differences. Here’s what you need to know about refinancing an investment property.

If you’re considering refinancing, Credible makes it easy compare mortgage refinance rates from several lenders.

What is an investment property?

An investment property is a house that you buy with the intention of renting it out to make money. Rental can be long-term if you own a property in an area with high rental demand, such as the suburbs of a major city, or short-term if the property is located in an area that is a vacation destination, such as the Beach.

Unlike your main residence or even a secondary residence, you will not live in your apartment building. But like your principal residence, you will usually have a mortgage on an investment property. Ideally, the rental income will cover the cost of your mortgage, with some money left over as profit.

Reasons to refinance an investment property

Many reasons to refinance an investment property mirror the reasons to refinance a principal residence, including:

  • Get a lower interest rate.
  • Convert a variable interest rate to a fixed rate.
  • Reduce total interest charges.
  • Pay off the mortgage sooner shortening the repayment term.
  • Reduce the monthly payment by extending the repayment period.
  • Withdraw cash equity to fund repairs, improvements, purchase additional properties or for other purposes.

How is a rental property refinance different from other refinances?

When you want to refinance any property – your home, your vacation home, your investment property – you will need to have some equity. As a general rule, to refinance a mortgage on your primary residence, you must have at least 20% of the equity in your home, which means that your mortgage balance does not exceed 80% of the appraised value. of the House. For an investment property, lenders generally prefer that borrowers have at least 25% equity in the building.

Interest rates for refinancings are generally higher than purchase interest rates, and this is also true for investment properties. Additionally, you may find that the interest rates for refinancing an investment property are also higher than the interest rates for refinancing a principal residence.

6 steps to refinance an investment property

Many aspects of refinancing an investment property are the same as refinancing your primary residence. Here are the six steps to refinance an investment property.

Step 1: Make sure you qualify for refinancing

Lenders generally have stricter requirements for refinancing investment properties than for prime properties. This is because if someone is in financial difficulty, they may be more likely to default on their investment property than the house they live in.

In most cases, lenders will want to see a maximum loan-to-value ratio, or LTV, of 75% and more than 25% equity. Your LTV is the amount of your mortgage compared to the appraised value of your property. If your LTV is too high, you may want to make a larger down payment or choose a cheaper investment property.

Step 2: Gather the documents you will need

To refinance an investment property, you will need more documentation than if you were to refinance a principal residence. Most lenders will ask you the following:

  • Recent payslips or W-2 forms
  • Individual and business income tax returns for the past two years
  • Bank statements for cheques, savings and business accounts
  • An IRS Schedule E: Supplemental Income and Loss form that shows your rental income
  • Copies of current rental contracts
  • Proof of home insurance

Keep in mind that if you are an entrepreneur or self-employed, you may need to provide other documents. The same is true if you are retired and receiving Social Security income.

Step 3: Compare lenders and refinance rates

Not all mortgage lenders will refinance a home loan. And rates, terms, and eligibility requirements can vary widely among those who offer investment property refinancing. Comparative shopping for a refinance lender can help you find the best interest rate and terms for your needs.

With Credible, you can easily compare prequalified rates from several lenders.

Step 4: Apply to refinance your investment property

Once you’ve chosen the best lender for your unique situation, you’ll need to accept a credit check and complete their full application online or online. anybody. Keep all your documents handy so you can easily fill in your income and debt information. If you are applying with a co-borrower, you may want to complete the application together, as you may need to ask them questions about their employment or income.

Step 5: Lock in your mortgage rate

After applying for your loan, it is in your best interest to lock in your mortgage rate. A mortgage lock guarantees your quoted rate for a certain period of time, usually between 30 and 60 days. Mortgage rates fluctuate daily, so this strategy can protect you from rate hikes. If there is a delay in your loan process for any reason, you may be able to extend your lockdown.

Step 6: Close

The final step in refinancing your investment property is closing. This is where you will finalize all the details of your transaction. You will need to attend your closing appointment with your closing agent and sign certain legal documents. You may also have to pay your closing costs, which will likely average 2-5% of the selling price.

Unless you change your mind within three days, the lender refinance your loan and you’ll be good to go. Once you have officially closed, be sure to keep all your documents in a safe place.

To make sure your closing goes as smoothly as possible, stay in touch with your lender several days in advance so you know exactly what documents you’ll need at the closing table.

Advantages and disadvantages of refinancing an investment property

Any financial decision you make has potential upsides and downsides. It’s important to carefully weigh the pros and cons when deciding if refinancing your investment property is the right decision for you.

Advantages of refinancing an investment property

  • Lower your interest rate — If market rates have fallen below your current loan rate or your credit has improved, you may qualify for a lower rate. A lower rate can mean lower monthly payments and save you thousands of dollars over the life of your loan.
  • Change the term of your loan — You can refinance into a shorter term loan and pay off your mortgage faster.
  • Increase your rental income — Because refinancing your rental property can lower your rate and monthly payments, it can increase your monthly profits once you break even closing costs.
  • Fund repairs or improvements — If you tap into the equity in your property when you refinance, you can use the money to pay for repairs or improvements to the property, which in turn could increase the value of the property and allow you to charge more. rent.

Disadvantages of refinancing an investment property

  • Potentially higher interest costs — Just as interest rates tend to be higher for mortgage refinances on primary residences, refinance rates for investment properties tend to be higher.
  • Closing costs – As with any home loan, you will incur closing costs with an investment property refinance.
  • More difficult qualifications — You may need a higher credit score and a lower debt-to-equity ratio to qualify for an investment property refinance.
  • Higher returns are not guaranteed — If you’re refinancing to fund home improvements, there’s no guarantee they’ll pay for themselves later. If, for example, property values ​​go down in the area, you could find yourself upside down on your refinance loan.

Can you use cash refinance on a rental property?

You can use a cash refinance on a rental property. If you go this route, you’ll take out a new loan for more than you currently owe and pay off your existing mortgage. Then you can pocket the difference in cash. You can use the money to improve your property, buy new properties, pay off debt, or pretty much anything else.

If you decide to go ahead with a cash-out refinance, note that you’ll likely need good credit and more than 25% equity. Plus, interest rates may be a bit higher than they would be if you chose a traditional refinance.

Whether you are looking to refinance an investment property or a principal residence, Credible allows you to compare mortgage refinance rates from several lenders.