When you are looking to invest in property, it is vital to understand the relationship between property classification and loan types. The type of property that you intend to purchase affects the mortgage rate that you can receive. In general, there are three classifications of property; primary residence, secondary residence, and investment property. Let’s take a closer look at each type so that you can make informed property investment decisions.
A primary residence refers to the home in which you inhabit. This residence can be a house, apartment, houseboat, condo, or other dwelling types that you live in the majority of the year. For a property to qualify as your primary residence, it must meet specific requirements. You must live in the home for most of a calendar year, and documents such as tax returns, driver’s license, etc., must prove it is your residence.
Primary residences typically qualify for the lowest mortgage rates and subject to certain tax deductions like mortgage interest. Only one property can be classified as your primary residence, and you must occupy the property within two months of closing. If you plan to use the property as a rental within six months of closing, you must classify it as an investment property.
The purchase of a second home could require a more in-depth process. You may need a particular credit score to be considered for the mortgage, and interest rates may be higher due to increased risk. Lenders will evaluate your financial situation and calculate your “loan-to-value” (LTV) ratio, which will be used to determine the down payment amount.
Every situation is different, and depending on the lender, your process for purchasing a second residence will vary. What is consistent is that the property must be lived in by you for some part of the year and not subject to long term rental, time-share, or subletting. You can rent the property for short term and vacation purposes up to two weeks at a time without income tax implications, and certain deductions apply. Some lenders may place restrictions on how a second residence can be used.
Any property that you intend to use to generate income is considered an investment property. Investment properties can be any type of dwelling, single or multi-family use. Often, larger down payments are required to purchase investment properties, and in many cases, there are more LTV restrictions. Since many lenders view investment properties as higher risks, they may be more challenging to finance.
Lenders will have their own set of guidelines for approving an investment property, so it is imperative to have all of your financial information in order and to fully understand the terms of your loan to make a sound decision.
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