*This post was created in collaboration with Alpine Credits
Not only can your rental property help you build wealth and boost cash flow through rent payments, but it can also be a source of additional funding.
Taking out a second mortgage on a rental property can provide you with the extra cash needed to renovate, invest, or buy more investment properties. In this article, we’ll go over ways to tap into the equity in your rental property, and how you can use the extra funds to strengthen your financial profile.
Can You Get A Second Mortgage On A Rental Property?
A second mortgage doesn’t need to be sourced from a primary residence. You can take out a second mortgage on an investment property. As long as you have enough equity in the property, you can borrow against it with a second mortgage. The more equity you have, the more you can borrow.
However, while it’s possible to secure a second mortgage on a rental property the qualifications may differ slightly.
Note: You may require authorization from your primary mortgage lender before you can get a second mortgage. Some lenders may have such clauses in your contract to protect themselves.
What Do You Need To Get A Second Mortgage On A Rental Property?
Every lender’s loan criteria differ slightly. That said, the following requirements are among the more common ones that lenders look at before extending a second mortgage on a rental property:
Equity In Your Home
You must meet minimum equity requirements with your lender. Most banks and traditional lenders will require at least 20% to 25% equity, while private lenders may accept a little less. You’ll need to check with your particular lender to find out what their exact equity threshold is.
Generally speaking, you’ll need a credit score of at least 620 to get approved for a second mortgage. However, many alternative lenders may accept lower scores.
Debt-To-Income (DTI) Ratio
Your DTI ratio represents the share of your gross monthly income used to cover your monthly debt. Lenders look at this number to determine your borrowing risk. They also use it to make sure that your cash flow is adequate enough to cover your loan repayments.
As a general rule of thumb, a DTI ratio of 43% would be the highest a lender will accept, though lenders typically like to see DTI ratios of no more than 36% to be on the safe side.
Where Can You Get A Second Mortgage On An Investment Property?
You can get a second mortgage from banks, credit unions, and other types of financial institutions and lenders.
If your income or credit score is low, applying with an alternative lender like Alpine Credits is a good option. This lender bases their approval decision on your equity rather than your age, income, or credit score. As long as you have enough equity built up, you won’t have to meet any stringent credit score or income requirements that are typical of conventional lenders.
Types Of Second Mortgages You Can Get On A Rental Property
There are a couple of common ways to take out a second mortgage on your rental property: through a home equity loan or a HELOC.
Home Equity Loan
A home equity loan lets you borrow against your home equity and access a lump sum of money. These types of loans work like other secured loan types, in that the loan is backed by collateral and is repaid via installments over a set term. You can borrow up to 80% of your home’s market value, minus the remaining mortgage balance.
Since a home equity loan is secured by your rental property, it is less risky for lenders. As such, you may have an easier time getting approved for this type of loan at a lower rate.
A HELOC, or home equity line of credit, also involves borrowing against your home’s equity. But unlike a home equity loan, a HELOC is a type of revolving credit.
Instead of taking out a lump sum and repaying it through installment payments, you can withdraw from your credit line, up to your credit limit. The maximum you can borrow through a HELOC is 65% of your home’s market value.
How To Get A Second Mortgage On A Rental Property
To take out a second mortgage on a rental home, follow these steps:
Step 1:Compare Offers
Lenders across Canada offer HELOCs and home equity loans, but not all loan products are the same. You’ll want to do some comparison shopping to see where the best terms and lowest rates lie.
The best way to do that is to use an online loan comparison site that will pull together a list of lenders and their loan products based on some financial information you provide.
Step 2: Apply
From that list, narrow down your options. Then, you can apply either directly on the loan comparison site, or on the lender’s website. At this point, you’ll need to provide a few pieces of information, both personal and financial, and submit the required documents.
Once the lender assesses and approves your loan application, be sure to read over the contract carefully, then sign and finalize your agreement. Shortly after, the funds will be made available to you.
Should You Get A Second Mortgage On A Rental Property?
Here are a few reasons why a second mortgage may be a good idea:
- Cover the cost of home improvements. Home renovations can be very expensive, but depending on the project, they could add a great deal of value to your property. You can use the funds from a second mortgage on a rental home to improve the property and build even more equity.
- Buy other investment properties. Tapping into your rental property’s equity can open the doors to adding more properties to your real estate investment portfolio.
- Consolidate your debt. If you have several high-interest loans outstanding, you could use the money from a second mortgage to consolidate them. If you can secure a second mortgage at a rate that is lower than what you’re paying on your current debt, you could save a ton of money in interest. Plus, you’ll be left with only one loan payment to manage, rather than several.
Risks You Should Consider Before Getting A Second Mortgage On A Rental Property
While there are plenty of perks that come with second mortgages on a rental property, there are a few drawbacks to consider:
- Your property is at risk. Since a second mortgage is collateralized by the property, missed payments could result in the repossession of the property by the lender.
- Your money is tied up. Taking out a second mortgage will reduce the liquidity of your financial assets. As such, you could be more vulnerable to a financial catastrophe if you don’t manage your cash flow responsibly.
- Your debt load may increase. Unless you use the money to increase the property’s value through home improvements or to invest wisely, a second mortgage might be unnecessarily adding to your debt load.
It’s certainly possible to take out a second mortgage on a rental property. However, you’ll need enough equity and may have to meet other loan qualification criteria to get approved, depending on the lender.