With a few exceptions, the answer is no Part of the Series Federal Housing Administration (FHA) Loans Understanding FHA Loans
Low down payments and low credit score requirements make Federal Housing Administration (FHA) loans an attractive option for homebuyers who might not qualify for a traditional mortgage. While this may be good news for some homeowners, real estate investors looking to take advantage of the benefits of an FHA loan may need to look elsewhere. That’s because the conditions of these loans restrict those who qualify.
There are, however, ways in which some homeowners may be able to use an FHA loan for a property that also (or eventually) yields income.
As a real estate investor, you are probably familiar with the advantages of FHA loans like low down payments and flexible credit requirements. So you may be wondering, can you use an FHA loan to purchase an investment property?
The short answer is no—with some limited exceptions. FHA loans are intended for owner-occupied primary residences. However, clever investors have found loopholes that allow them to use FHA financing to buy investment properties in certain situations.
In this article we’ll explore
- What an FHA loan is
- FHA occupancy requirements
- Exceptions that allow investors to use FHA loans
- Tips for refinancing into a conventional loan
- Alternatives for financing investment properties
Let’s dive in!
What Exactly is an FHA Loan?
FHA loans are government-insured mortgages issued by private lenders like banks and credit unions. The Federal Housing Administration (FHA) insures these loans, which makes them more accessible to borrowers with lower credit scores or savings.
Some key features of FHA loans:
- Down payments as low as 3.5%
- Lenient credit requirements – minimum 580 FICO score
- Low mortgage insurance premiums
- No income limits
This makes them popular with first-time homebuyers and owner-occupants. But the FHA has strict occupancy requirements that deter investors.
FHA Loans Are for Owner-Occupants
To qualify for FHA financing, you must plan to move into the property as your primary residence. Second homes vacation properties and investment properties do not qualify.
Specifically, FHA guidelines require:
- You move in within 60 days of closing
- You live in the home as your principal residence for at least 1 year
- At least one borrower must live in the home (for loans with multiple borrowers)
If you misrepresent your plans to live in the home, you could face consequences including foreclosure or criminal prosecution for mortgage fraud.
Exceptions: When Investors CAN Use FHA Loans
The FHA makes a few exceptions for real estate investors to use their financing programs:
Loans for 2-4 unit properties – The FHA insures mortgages for 2-4 unit dwellings, as long as the borrower lives in one unit as their primary residence. For example, you could buy a duplex or fourplex with an FHA loan, live in one unit, and rent the others.
Refis into conventional loans – If you initially buy a property as your primary residence with an FHA loan, you can later refinance into a conventional loan once you have 20% equity. This removes FHA restrictions so you can rent out the entire property.
Refinancing investment properties – The FHA allows streamline refis for investment properties already financed with an FHA loan. You can refinance to lower your interest rate or payment.
Renting out due to hardship – If unforeseen circumstances force you to relocate, you may qualify to rent out your existing FHA-financed primary home. Certain exceptions apply.
So in limited scenarios, real estate investors can take advantage of FHA financing. But conventional loans are still the best option for buying a straight investment property.
Refinancing Your FHA Loan into a Conventional Loan
If you want to rent out a property purchased with an FHA loan, one option is refinancing into a conventional mortgage. Here are some tips:
- Wait until you have 20% equity or enough to avoid PMI with a conventional loan.
- Conventional loans have stricter credit and income requirements than FHA loans. Make sure you still qualify.
- Compare interest rates and costs – refinancing may not always make sense.
- Consider a cash-out refinance to access your equity for investing. But don’t over-leverage yourself.
Refinancing into a conventional loan takes your property out of the FHA’s guidelines. Just make sure you actually qualify for the new mortgage.
Alternative Financing Options for Investment Properties
If you can’t utilize an FHA loan, what are your options for financing investment properties?
Conventional loans – You’ll need a higher down payment (typically 15-20%) and solid credit. Interest rates may be a little higher than FHA loans.
Portfolio loans – Local banks may offer portfolio loans with more flexible underwriting criteria. But interest rates tend to be higher. Shop around.
Hard money loans – Useful for fix and flips but come with high rates and aggressive terms. Approach with caution.
Partnerships – Join forces with other investors and pool your resources. Just make sure you document responsibilities and ownership shares upfront.
All-cash purchase – If possible, buying investment properties with cash provides flexibility and investment freedom. Shop for discounted properties.
Self-directed IRA – You can invest IRA retirement funds in real estate. This keeps your cash protected while accessing alternative investments.
With some creativity and perseverance, you can build a thriving real estate investment portfolio even without FHA financing. The key is finding a funding strategy that aligns with your investing style and goals.
The Bottom Line
FHA loans offer tempting perks like low down payments, but they are designed for owner-occupied primary residences. Investors may only use FHA financing in limited cases like 2-4 unit purchases or refinancing existing FHA loans.
If you want to purchase a straight investment property, you’ll need to look into portfolio loans, partnerships, or other alternative financing options. With the right approach, you can overcome the challenges of funding investment properties without FHA loans.
What creative strategies have you used to finance investment real estate? Share your tips and tricks in the comments below!
Refinancing an Existing FHA Loan
Suppose someone uses an FHA loan to finance the purchase of a primary residence. Let’s say the owner then moves out of the home for one of the reasons listed above, but continues to own it and rent it out for income. In other words, the house becomes an investment property. Suppose also that interest rates drop, and the owner wants to refinance through the FHA for a better deal.
Even though the homeowner no longer lives in the house, FHA rules allow them to refinance into another FHA loan. An FHA-to-FHA refinance is also known as an FHA streamline refinance. There are several requirements to qualify for refinancing including:
- A minimum of 210 days must have passed since you closed your original home loan.
- You must have made at least six on time monthly payments on your FHA-issued mortgage.
- Payments for all mortgages on the property for the past 6 months before receiving a FHA case number must have been paid within the month they were due
- You may not have more than one 30-day late payment within the last six months for all mortgages on the property.
- The refinance must lower your monthly principal and interest payments, which is often described as a net tangible benefit. The qualifications to meet a net tangible benefit depends on the type of mortgage you are refinancing to and from, such as a fixed rate to an adjustable rate mortgage or vice versa. Refinancing into a mortgage with a shorter term also qualifies as a net tangible benefit.
If a homeowner meets the criteria above, FHA streamline refinances are quite possibly the easiest loans to close. They require no employment or income verification, no credit score verification, and no home appraisal. The main thing that matters is that the homeowner has made their existing FHA loan payments on time.
Mortgage lending discrimination is illegal. If you think you’ve been discriminated against based on race, religion, sex, marital status, use of public assistance, national origin, disability, or age, there are steps that you can take. One is to file a report with the Consumer Financial Protection Bureau (CFPB) or HUD.
What Are FHA Loans?
During the Great Depression, homeowners had a difficult time buying and maintaining payments on their properties. They were limited to loans worth 50% of a property’s market value, and mortgage terms were generally very short. Many loans ended with very large balloon payments, which most people couldn’t afford to make. This led to a massive amount of default and pushed up the foreclosure rate. In 1934, the U.S. Congress decided to form the FHA in an effort to promote affordable homeownership.
The FHA, which is part of the U.S. Department of Housing and Urban Development (HUD), is the largest mortgage insurer in the world and has more than $1.3 trillion in its portfolio. Loans insured by the FHA have lower down payment requirements and more liberal underwriting standards than most conventional mortgages.
As of 2022, for example, homeowners only need a credit score of 580 (or higher) to qualify. Approved applicants can finance as much as 96.5%, meaning they only need to put down 3.5%. Those with credit scores from 500 to 579 can still qualify, but they need to put down a little more—10%.
For the most part, FHA loans are restricted to buyers who intend to use the home that they purchase as a primary residence. This means that an FHA loan cannot be used to finance a second home, a rental home, a vacation home, or an investment property. However, there are a few exceptions and a few ways to get around this general rule.
The number of Americans who became first time homeowners in 2021 with the help of FHA-backed loans.
FHA Loan for Investment Properties
FAQ
Is an FHA good for rental property?
Can you assume an FHA loan as an investment property?
Does FHA allow investment purchases?
What is the downside of an FHA loan?
Can you buy a rental property with an FHA loan?
You can also use FHA loans to buy an investment or rental property. There are two important restrictions to understand, however. The first is that the property can have no more than four rental units total. The second is that you need to occupy one of the units in the property as your primary residence.
Can I use an FHA loan for an investment property?
An FHA loan can be used for purchasing an investment property if you’re willing to live there. For instance, a real estate investor could purchase a fourplex, live in one unit, lease the other units out, and get a return on investment from the rental payments they collect. You’ll also need to meet some other criteria.
How do I get financing for my investment property?
To invest in real estate, you need to secure financing for your property. Four types of loans you can use for this purpose are conventional bank loans, hard money loans, private money loans, and home equity loans.
What is an FHA loan?
An FHA loan is a loan insured by the Federal Housing Administration, designed for borrowers to purchase a primary residence. The FHA also insures mortgages for dwellings with up to four units, provided one of them is occupied by the owner. FHA Loans were created during the Great Depression to help homeowners buy and maintain payments on their properties.