At what point will the banks cut you off?

Question

I know one of the strategies I hear frequently on the BP podcasts is to purchase a single family home investment property, fix it up to increase the value and then refinance - taking profits to use as a down payment to purchase another property, presumably right away. The question I have is, "How many times can an average Joe do this until the bank lenders consider them over extended?" After all, every time you accumulate a new rental property, you in turn increase your debt on paper substantially and you also presumably affect your credit score in a negative way.  So in-general, could one "really" expect to acquire an unlimited number of conventional mortgage loans for single family home investment properties - as long as you can produce a 20% down payment??

Chris Mason · Answer

(1) Number of financed properties is what is mostly looked at. Things get a little tougher at 4. Then tougher again at 6. 10 financed properties is the cap for fannie/freddie loans with 30 year fixed terms at sexy rates. If you are married, wife can have 10 in her name alone and you can have 10 in your name alone; obviously that doesn't work if you get joint mortgages.

(2) Plan on having six months of "PITI Reserves" for each property set aside as funds the underwriter can "look at but not touch." PITI Reserves cannot be your down payment or cash to close, it must be distinct funds set aside to cover financial emergencies with your real estate empire. If you want to expand quickly, start putting net profit from rent aside to start building this up ASAP. Retirement accounts will be counted at 60% of vested value; stock/moneymarket/etc at 70%.

Thanks, @Edward Peugh.

Edward Peugh · Answer

There are limits on the number of conventional individual loans (I believe the number is 10).

Chris Mason can probably give you a little clarity on traditional financing

Jeremy Shepherd · Answer

The local bank I deal with hasn't cut me off at any number. As long as the rental income will cover the payment. However, here in WV I buy houses for $25K - $70K mostly. When I did accumulate $200k in mortgage debt the banker had  to get approval from the president, but that hasn't been an issue. Also when I bought my first 6 unit building it had to be approved by the loan board of the bank because it was $245K. All my loans are through an LLC and are commercial with 20% down.

Matt Vogt · Answer

@Greg White,

Typically investment properties need to be purchased with 20 or 25% down for conventional financing. I've heard of 15% down, but that doesn't seem to be the norm. Due to this, you would likely not experience a situation where you do have PMI if the property is purchased from the get-go as an investment. If the property was purchased as your primary residence and you put say 5% down, then you would have PMI on a rental.

According to the IRS you can: "

Question:

Can you deduct private mortgage insurance (PMI) premiums on rental property? If so, which line item on Schedule E?

Answer:  In general, you can deduct PMI premiums in the year paid. However,

if you prepay PMI premiums for more than one year in advance, for each

year of coverage you can deduct only the part of the PMI payment that

will apply to that year. Report a deduction for PMI premiums on line 9

of Schedule E (Form 1040) (.pdf), Supplemental Income and Loss."

https://www.irs.gov/Help-&-Resources/Tools-&-FAQs/FAQs-for-Individuals/Frequently-Asked-Tax-Questions-&-Answers/Sale-or-Trade-of-Business,-Depreciation,-Rentals/Rental-Expenses/Rental-Expenses-1

Pertaining to the original post, if you have PMI, you will obviously have less that 20% of equity in the property, which will play into your DTI ratio... potentially causing issues with subsequent conventional loans.

Greg White · Answer

Excellent answers! I appreciate everyone's input!

Edward Peugh · Answer

@Jeremy Shepherd I think the difference here is that the local bank was going to make those loans as "Portfolio Loans", so they would not be selling those loans to other investors.

Chris Mason · Answer

CPA question. I used to have the answer, then I've been reading some CPAs say "it depends" or that it's changing, so I'll remain silent until the CPAs have consensus.

Greg White · Answer

That's great information! Thanks!

If PMI for rental property mortgages is tax deductible, then is a 20% down payment as important as it would be for a home you would occupy or live in? For a rental property it seems like you can do a lower down, get more leverage and not feel so much of a big sting on PMI fees if a decent portion of that PMI can be deducted on income taxes under an LLC. Would this be correct?

At what point will the banks cut you off?

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