It seems like every time you turn on the television, there's a new home improvement show dedicated to flipping houses and making bank—a popular way to invest in real estate. Investing in real estate and turning it for a profit might be tempting. But if your credit score is below 601—the number the credit bureaus mark as the dividing line between “fair” and “bad” credit—you might have a tough time finding funding.
So, is investing in real estate out of the question for someone in that bunch? Not necessarily.
Buying an investment property vs. buying your own home
No matter what you've seen on TV, purchasing real estate as an investor is a lot more complicated than doing so as a homeowner if you are turning to a lender to help finance the deal.
"Those looking to finance the purchase of real estate as an investment—as opposed to a primary residence—can expect a higher interest rate and more stringent lending criteria from lenders before getting a mortgage," explains Bruce Elliott, president of the Orlando Regional REALTOR® Association and a broker associate with Regal R.E. Professionals in Orlando, FL.
Lenders typically require more money down and a better credit score for a real estate investment loan than for an owner-occupied home loan.
"They also look very carefully to ensure that investment home buyers are financially capable of sustaining the mortgage over an extended period of time in the event that the property doesn’t resell, and they even have formulas to calculate for shortages in expected rental income," Elliott explains.
Can you invest in real estate with bad credit?
Unless you have spare cash or a loan from a friend or relative to finance your investment, obtaining a loan will likely be difficult.
That said, there are other options to help you one day become a real estate investor, Elliott says.
- Improve your credit score. Resolve any collection-related issues uncovered by a credit check, and pay down existing balances. And be smart about other investments: Now is not the time to finance additional purchases such as a car or to open additional credit accounts of any type.
- Find a hard money lender. No, this isn't a back alley deal-maker. Hard money lenders are private individuals or groups who will put up cash for real estate ventures, and they are often more amenable to making a deal with someone who has poor credit. Of course, there will be some drawbacks: "Generally, these lenders will require anywhere from 40% to 60% down to purchase or close outright," Elliott notes.
- Skip putting money down. It might sound like a pipe dream, but Elliott says this is often the story behind those roadside “home for sale” signs that specify "cash only.” "The investor simply has purchased an option or received permission from a homeowner to try to sell the home," he explains. "The investor makes money either from a back-to-back closing or from payment directly from the ultimate buyer."
If you want to invest in real estate, bad credit can be a stumbling block, but it doesn’t have to derail the whole train.