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Vacation Rental Financing Tips and Considerations

Vacation Rental Property Financing
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One of the most important questions you’ll have about your vacation rental property is how to finance it. In this article, we’ll look at some of your vacation rental financing options. We’ll also help you pin down which one might be the best fit for you. 

No blog post can factor in the financial situations of every vacation rental owner. Before deciding how to finance your property, be sure to talk to a wealth manager or financial advisor about your unique situation.

Vacation Homes and Traditional Financing

How you plan to use your new property will be a big factor in your financing options Are you hoping to use it mostly for your own vacations? We’d classify that as a vacation home. The property is there for you and your loved ones to enjoy. Any earnings from the occasional short-term renter are just gravy. 

If you’re looking to buy a vacation home, most traditional lending options will be available to you. The process could look very similar to the one you went through for your primary residence. That is, of course, as long as you can prove to the lender that you can make payments without the help of renters. 

Even if you only plan to host renters occasionally, you still need to disclose this to your lender. “Not doing so could lead to legal troubles,” says certified mortgage planning specialist Jeff Chervenak. “Using a home as a rental will affect the mortgage terms and likely come with a larger down payment.

Investment Properties and Asset-Based Loans 

Anyone would love to acquire a vacation home outright. However, most VR owners will end up relying on the income generated by short-term renters to pay off the mortgage. They also plan to turn a profit, creating a lucrative passive income source for themselves. That’s what we call an investment property.

For investment properties, you’ll most likely take out an asset-based loan. Lenders will often not look at your personal W-2 earnings before offering this type of loan. Instead, they want to see that your property has adequate earning potential as a VR. As AirDNA points out, that means you can continue adding properties as long as each one generates enough money. VR owners should expect higher interest rates and down payments with an asset-based loan. 

Crunching the Numbers: Cap Rate and FICO Score

To finance your vacation rental with an asset-based loan, you’ll need to prove the property can generate enough income. One of the best metrics to use is cap rate. This gives you (and the lender) an idea of how much return on investment you expect from the property each year. 

Here’s a look at AirDNA’s formula for cap rate: 

Net operating income ÷ Property asset value × 100 = Cap rate. 

AirDNA says a cap rate in the 8%-12% range is healthy. You can also learn more about cap rate in our guide to the acquisition phase

Meanwhile, an important metric for traditional financing is your FICO Score. Pulling from your credit reports, this score helps lenders understand how reliable you are as a borrower. This will impact the terms of your loan. It might even decide whether or not you’re offered one in the first place. You can get an estimate of your FICO Score here

Specialty Lenders for Vacation Rentals

Our last bit of advice is to consider working with a specialty lender that understands the unique needs of VR owners. Two of the most well-regarded examples are Visio Lending and Host Financial. 

Visio Lending offers financing options geared towards VR owners, particularly those looking to acquire numerous properties. Host Financial operates similarly, focusing on the property’s earning potential instead of your W-2 and personal wealth. Look over the offerings from Visio Lending and Host Financial with a trusted financial advisor to see if either is a good fit for you.

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