Young Adults and Buying Investment Properties: Navigating Loans, Legalities, and Financial Challenges

Buying and renting out a house can seem like a challenging but potentially lucrative venture. For young adults aiming to enter the real estate market, obtaining a loan to buy an investment property can be a key step. This article provides a comprehensive guide to understand the loan requirements, legal considerations, and financial challenges associated with this journey.

Understanding the Landscape: Loan Requirements and Income Stability

To start with, the necessity of consulting a local mortgage broker is crucial. A professional mortgage broker can provide personalized advice based on local market conditions, tax laws, and bank regulations. For those earning a gross annual income around $40,000, purchasing a house for rental purposes might seem at a glance to be financially viable. However, the key challenge lies in whether the property can generate positive cash flow after accounting for all ongoing costs.

In most cases, buying a house for rental purposes is a cash flow negative proposition. This means that your monthly payments, including principal, interest, taxes, and insurance (PITI) will likely exceed the rent you can earn, leading to a negative cash flow situation. Banks typically require borrowers to have a stable and sufficient income to cover the mortgage payments, making it a more challenging scenario for young adults who may not have established their careers and financial stability yet.

Legal and Financial Considerations: Is it Possible?

While it is legally possible for a young adult to buy a house with the intention of renting it out, the practical aspects of obtaining the necessary loan approval are complex. The lender's primary concern is the borrower's debt-to-income ratio (DTI), which is calculated by adding up all monthly debt payments, including the house payment, and dividing it by the borrower's gross monthly income. This ratio cannot exceed 45%, although it will soon increase to 50% as of July 29, 2017.

For investment properties, the lender will use the expected rental income from the property to evaluate the mortgage application. They typically multiply the appraised value of the property by 75% to determine the required monthly payments. If the rental income covers the monthly payments, it can be considered as additional income. If not, the shortfall would be added to the total debt-to-income ratio.

Additionally, young adults aiming to buy an investment property must show that they have adequate cash reserves, such as 6-9 months of rent and mortgage payments, after closing. This financial cushion ensures they can weather any unforeseen financial difficulties while managing the property.

Co-Borrowers: A Strategy for Overcoming Income Shortfalls

Another strategy for young adults facing income shortfalls is to bring in a co-borrower. A co-borrower can help to blend their income and liabilities with those of the primary borrower, thereby improving the overall DTI. However, it's important to note that co-borrowers still retain liability for the loan, even after closing. This means that if the primary borrower defaults, the co-borrower remains responsible for the remaining debt.

Conclusion: A Word of Encouragement

Investing early in real estate can be an excellent way to build wealth over time. For young adults, taking on the challenge of buying an investment property can be a significant step towards financial independence and stability. However, it is important to acknowledge that the process is multifaceted and involves significant financial planning and a strong credit profile. Consulting with a local mortgage broker and developing a thorough understanding of the loan requirements, legalities, and financial challenges is essential for success.

Keywords: investment property, loan requirements, mortgage broker, purchasing process, down payment