Home Equity Loan On Investment Property

Key takeaways

You can get home equity loans for investment properties and rental properties
These loans are generally more difficult to get than home equity loans for primary residences because lenders view them as higher-risk
To get this type of loan, you’ll usually need a stronger-than-average financial profile and substantial assets
A rental or investment property home equity loan could come with tax benefits, depending on how you use it.

A home equity loan allows you to tap the equity in a property to obtain a one-time lump sum you can use for any purpose. Most homeowners take out these loans on their primary residences. But can you get a home equity loan on an investment or rental property?

If you have sufficient equity in it — potentially, yes. That said, the process can be more challenging, and you could end up with a higher interest rate and paying some extra expenses to boot.

So, if you’re considering a rental or investment property home equity loan, here are a few home truths to consider.

Can you get a home equity loan on rental property?

The short answer: Yes, it’s possible to get a home equity loan on a rental property/investment property. Under certain circumstances.

However, in the eyes of a home equity lender, investment properties are a riskier proposition: As collateral, they don’t afford the same peace of mind as a primary residence. This is because you likely don’t rely on the rental to serve as the roof over your head, so there’s less at stake if you somehow become unable to repay the home equity loan; you’re more likely to just walk away and cut your losses (or so the lender figures).

Because of this risk, it might be harder for you to find a lender willing to tie a home equity loan to an investment property or a rental. If you do find one, you’ll likely pay more in interest to compensate for that risk.

Requirements for a home equity loan on investment property

The requirements for home equity loans for investment properties and rentals vary by lender. But they tend to be tougher than loans securitized by residences. In general, you can expect to need:

Minimum credit score: 700 or higher
Maximum debt-to-income (DTI) ratio: 43 percent (sometimes up to 50 percent)
Maximum loan-to-value (LTV) ratio: 80 percent
Reserves: six months’ to 15 months’ worth of home equity loan payments

Risks of a home equity loan on rental property

Can you get a home equity loan on investment or rental property? Maybe. But should you? That depends.

Aside from the risk the lender takes on, you’ll be taking on some risk, as well. Similar to a mortgage, when you borrow against a home’s equity, you could lose the property if you fail to keep up with payments. In addition, if the property’s value decreases, you could find yourself underwater on the loan. This makes it much harder to offload the home if you decide or need to sell.

“If a recession starts, you run the risk of taking out more [in equity] than the property is worth, and you might have a very difficult time selling it,” says Dick Lepre, a veteran loan advisor with CrossCountry Mortgage. “If interest rates are high, that depresses property values.”

Are there tax benefits for using a home equity loan or HELOC on an investment property?

There could be, depending on how you use the money you get from your rental or investment property home equity loan.

Under current tax law, the only way you can claim the interest on your home equity loan as a tax deduction is if you use it to “buy, build or substantially improve” the property used to secure the loan. In this case, that’s your investment or rental property.

Also, be advised that there are caps on how much you can claim with this deduction. And you’ll need to itemize your deductions — which means more work for you or your accountant — to realize the benefit.

Joint filers who took out their home equity loan after Dec. 15, 2017, can deduct interest on up to $750,000 worth of qualified loans, while separate filers can deduct the interest on up to $375,000. Note these thresholds apply collectively to all home-secured debt — meaning that if a married couple had a first mortgage and home equity loan on their main home, then took out another home equity loan on their rental vacation home, all three of these obligations together would count towards the $750,000.

How to use a home equity loan or HELOC to purchase an investment property

You might also be wondering how you could use the money you get from this kind of loan on your investment property or rental.

Long story short: You can use the proceeds from a home equity loan however you want. That includes repairing or remodeling the property used to secure the loan. It also includes buying another rental or investment property.

You could use the loan proceeds to cover just a down payment, assuming you could qualify for another mortgage. But with your home equity loan in the mix — and particularly because lenders will consider your overall debt-to-income ratio — this strategy might be tricky.

Generally, using a home equity loan to buy another property works best when the money’s being used for a cash offer. Maybe the proceeds from your home equity loan or home equity line of credit (HELOC) will be enough to cover the purchase price, or maybe they’ll augment other assets, just helping you get to the number you need.

Even so, proceed with caution. As you already know from your first rental/investment property, real estate isn’t without its risks, appreciation-wise. If the local market shows signs of slowing, now might not be the best time to take on additional real estate-related debt.

Make sure you’d be in a good financial situation even with multiple rental and investment properties — plus your home equity loan — to manage.

What are the alternatives to home equity loans on rental properties?

There are other ways to fund a rental property. You could consider a cash-out refinance if you have enough equity in your primary residence. You could also consider an unsecured personal loan to help you purchase a rental property.

Cash-out refinance

Cash-out refinancing means you pay off your primary mortgage with a new, larger one and then take the difference between the two mortgages in cash. The amount of money you can access will depend on your home’s current value and the equity built up in your home.

You can use the funds of a cash-out refinance for anything, from paying for college to purchasing a rental or investment property. You may be able to secure a lower interest rate or renegotiate the terms of your mortgage. The downside? Your new mortgage payment will likely be more expensive (since the loan’s for a larger amount), and you will have less equity in your home.

In addition, a mortgage uses your home as collateral, so if you turn your equity into cash to buy an additional property, you risk losing your primary home if you default on your mortgage.

Unsecured personal loan

If you don’t have enough equity in your home to use it, consider a personal loan. While you may not be able to secure enough cash to buy a house outright, it may be enough for a sizable downpayment. If you qualify, you might be able to borrow as much as $100,000 from a credit union, bank or an online lender.

Of course, you will have to make monthly payments with interest, but if you are able to buy a rental property and earn passive income on it, you may be able to pay back the loan with your earnings from the rental. These types of loans do not require collateral but to get the best interest rates, you will need excellent credit (a credit score of at least 750). In addition, the lender may look at your income and assets. Your debt-to-income (DTI) ratio should be below 36 percent — the lower, the better.

Home equity loan on rental property FAQ

Yes, you can use a home equity loan to cover some or all of your expenses on a rental property. However, home equity loans are most useful for one-time costs, not necessarily the ongoing upkeep of an investment property. For this reason, it might make more sense to take out a revolving home equity line of credit (HELOC), either via the equity in your primary residence or the rental home itself, to pay for these expenses.
It largely depends on your real estate investing strategy. A HELOC generally offers more flexibility than a home equity loan because it’s a revolving line of credit, and you don’t have to pay interest on funds you don’t use. With a home equity loan, you’ll need to repay the entire amount you borrowed plus interest, regardless of whether you use it all to invest. In addition, you typically only need to pay interest during the HELOC draw period, which helps free up cash flow for other needs.
Yes, you can use the proceeds from a home equity loan to invest in a real estate investment trust (REIT). In fact, you can use the funds for any purpose. Some of the most common uses of home equity loans include paying for home renovations and college tuition. When considering a home equity loan, take your goals into account. Ultimately, a home equity loan is a second mortgage, so you don’t want to overleverage your finances without having a clear plan for the proceeds from the loan.