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Building Wealth with Multi-Unit Properties: Your Financing Options

Whether you’re looking to purchase a two-unit (“two-flat”, in Chicagoland, “duplex”, in many places),  three-unit, or four-unit residential property as an owner-occupant or purely for your real estate portfolio, you have many options to explore.

This decision brings with it a cascade of considerations, ranging from methods of financing to calculating cash flow. Hopeful buyers should discuss the pros and cons of different loan programs for small (yet potentially lucrative) multifamily properties with an experienced mortgage lender.  

Let’s delve into the nuances of this decision, exploring mortgage choices such as conventional, FHA, and debt service coverage ratio financing (DSCR) while shedding some light on the owner-occupier vs. investor conundrum.

Investing in Your Future

These days it can be hard enough to imagine buying a single-family home, let alone a multifamily dwelling. But for buyers who are ready to think outside the box, acquiring a two- to four-unit residential building can create a promising path to wealth and financial security.

At the heart of this journey is a fundamental question: are you looking to call this property home or simply aiming to maximize your ROI? Owner-occupation brings with it the undeniable allure of having a place to call your own, but being a landlord may not be for everyone, especially when your tenants are also your neighbors.

If you’re intending to reside full-time in one of the units, you may be eligible for more favorable financing terms and interest rates compared to an investment property. Lenders often view owner-occupied multifamily properties as less risky, as a homeowner is more likely to prioritize regular maintenance and timely mortgage payments. 

For a savvy investor, a multi-unit property offers tantalizing opportunities for passive income. Imagine your property becoming a financial engine, generating funds that could bolster your financial freedom. This move can open doors to diversification, helping you mitigate risks and protect your investment portfolio from market fluctuations.

The Financing Fork in the Road: Conventional, FHA, or DSCR?

Your next critical crossroads revolves around which option is the most suitable for your needs — a conventional mortgage, FHA loans, or utilizing DSCR financing.

Conventional financing is the traditional route to financing a two- or four-unit property. Buying real estate with more than 4 units usually requires a commercial mortgage or a government-backed apartment loan, with more stringent qualification criteria (DSCR is also an option here in many cases.)

Conventional mortgage loans generally have standard credit score and debt-to-income ratio requirements. However, starting in November 2023, owner-occupied units will only require a minimum of 5% down and the maximum LTV (loan-to-value) will increase to 95%.This is a huge boon for future home buyers and “house hackers.”

If you’re eyeing owner-occupation and want a lower down payment, multifamily FHA loans might be just the ticket. Backed by the Federal Housing Administration, these loans require a down payment as low as 3.5%, making homeownership and real estate investing more accessible. 

You’ll need to occupy one of the units as your primary residence, while the other units can be rented out to tenants. FHA loans require payment of mortgage insurance premiums (MIP) for the life of the loan. Additionally, FHA mortgages have stricter property standards, which means the property must meet certain conditions to qualify. 

An additional hurdle to clear, three- and four-unit properties require passing a self-sufficiency test in order to qualify for FHA financing. In short, the self-sufficiency test says that a property’s NET income must be greater than or equal to the monthly housing cost of owning the property (mortgage, insurance, and property taxes.)

For the seasoned investor, debt service coverage ratio (DSCR) financing can be a potent tool. This approach evaluates the asset’s ability to generate sufficient rental income to cover its mortgage payment and other expenses. If the property’s projected rental income meets or exceeds the lender’s specified DSCR, you’re in a favorable position for financing. 

This type of financing focuses less on your personal financial metrics and more on the property’s income potential, making it a strategic choice for investors who have a professional real estate team on their side. These loan types can allow an investor a broader reach without proving out their own personal debt-to-income ratio. On the other hand, a property purchaser may find themselves with a bit higher interest rate by going this path. 

Calculating the Risks and Rewards

While the financing options provide a clear framework, taking a moment for a thorough cost-benefit analysis is imperative. This process helps you ensure you’re prepared to make the most informed decisions.

Owner-occupiers can revel in the joys of homeownership, security, and extra income, but they must also consider the potential challenges of on-site landlord life if they choose to rent out the other units. 

On the flip side, investors can build a solid revenue stream, but they need to be prepared for the costs of absentee property management and fluctuating rental markets.

Ultimately, the choice between owner-occupation and pure investment hinges on your goals, financial situation, and appetite for risk. Are you ready to wear the landlord hat and embrace the intricacies of real estate investment? 

Whichever path you choose, understanding the financing options available to you, be it conventional, FHA, or DSCR financing, is essential. This knowledge empowers you to make the best choice for you and your family.
I’ve guided many buyers through the complex process of purchasing a multi-unit property. I encourage you to explore your options and carefully weigh the pros and cons. Whether you’re aiming to create a harmonious multi-generational home or a thriving investment portfolio, the market is ripe with possibility — call me today to learn more!


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