15 Mar The Importance of a Down Payment & 6 Ways to Raise One
If you want to get started in the real estate investing business, you need to know how to raise a down payment. Maybe this seems impossible, or at least so far in the future that you don’t know how to begin preparing now.
The Importance of a Down Payment
First, as I’m sure you know, it is much more efficient if you have some money to put up for a down payment. The power to negotiate with someone when you’re purchasing a property is much greater when they know you have the money to buy it. You don’t have to spend all of your time trying to come up with creative financing. You just make an offer, negotiate the value, and try to get the best price you can for the property.
One of my very favorite things to remind real estate investors is this: in real estate, you make money when you buy – not when you sell. This means that you want to be able to always buy a property at a lower cost than what it’s worth. And the safest way to grow your investment is to buy the property with cash and you’re doing that through a loan. That’s why it’s important to understand real estate finance, develop relationships with a mortgage broker and a mortgage banker, and then understand how to keep your money moving.
The approach that I take while buying real estate is the following:
You have to do what’s called a “purchase mortgage”, which means you’ll have to have a down payment. What I recommend is that you buy a property with 10% down. Lenders will typically do what’s called a 70/30 loan or a 75/25. That means the first mortgage they’ll loan you 75% of the purchase price of the property and then you’ll get a loan for a second mortgage for 25%, but typically has a much higher interest rate The point I want to make to you is that you’re in a whole lot stronger position to negotiate and a lot stronger position personally if you actually are able to bring a little money to the table. Most lenders want to see you have six months cash reserves of the mortgage payments, which includes principle interest, taxes, and insurance.
For example, if your mortgage payment is $1,000 a month, lenders like to see $6,000 liquid in the bank plus whatever the down payment is you’ve arranged. In this example situation, the down payment would be 10%. In a $100,000 house, you would need $10,000 for your down payment plus $6,000 in addition to that to show as six month reserves.
How to Come Up with a Down Payment
Want to dive in and really understand these six ways to come up with a downpayment? I have a FREE cheat-sheet that gives you all of the information you need to know. Download it at the end of this post.
1. Pull Money from the Equity You Have in Your Home
As you understand how to invest in real estate, you can pull money from the equity you have in your personal home.
2. Retirement Accounts
Another way that you can come up with a down payment is through retirement accounts. A lot of people don’t know this, but you can now use your IRA or SEP to purchase a second home or buy an investment property. In some cases, you can also use a KIO account.
3. Liquid Assets
You can raise money from your own liquid assets as well. You can use or borrow against the cash, stocks, bonds, insurance policies, etc. that you already have and use that for a down payment. My favorite way is to use lines of credit from local banks.
4. Credit Cards
Another way to raise a down payment is credit cards. Obviously I’m not a big fan of this, but I’ll tell you about it anyway. You can get cash advances on your credit card depending on what your interest rate is and what you have. This is not a smart way to go unless you really understand how to invest in real estate.
Another way you can raise a down payment is through partners. I think a lot of real estate investors miss this one. Typically, the partner will put the money up and you put the mortgage in your name.
6. Get a Down Payment from the Seller
Finally, you can get a down payment from the seller. This is creative and not overly difficult. You can find sellers who are willing to carry anywhere from 10-30% of the purchase price as a down payment. That is GREAT news for a first-time real estate investor!