Refinancing Rental Property: Shorter Loan Terms
Refinancing your rental property with a shorter loan term can help you save on interest, build equity faster, and improve future cash flow. Here’s what you need to know:
- Lower Interest Costs: Shorter terms often come with rates about 0.5% lower than 30-year loans, reducing total interest payments.
- Faster Equity Growth: More of your payment goes toward the principal, strengthening your financial position quickly.
- Long-Term Benefits: Paying off the loan sooner frees up rental income for profit or new investments.
While monthly payments are higher, this strategy works best for investors with steady rental income and solid cash flow. Ensure you meet lender requirements like good credit, sufficient equity, and cash reserves before refinancing.
Main Benefits of Shorter Loan Terms
Reduced Interest Payments
Choosing a shorter loan term can save you a lot on interest. For example, a $100,000 loan at 4% interest over 15 years results in $33,143 in total interest. In contrast, the same loan at 4.5% over 30 years racks up $82,406 in interest payments . This happens because shorter terms mean less time for interest to add up, and they often come with lower rates.
Building Equity Faster
With a shorter loan term, more of your monthly payment goes directly toward the principal balance rather than interest . This allows you to build equity much faster, which can be a big win for rental property investors:
| Equity Building Factor | 15-Year Term | 30-Year Term |
|---|---|---|
| Monthly Payment (on $100,000) | $740 | $507 |
| Total Interest Paid | $33,143 | $82,406 |
| Principal Reduction Rate | Faster | Slower |
| Equity Growth | Accelerated | Standard |
This quicker equity growth acts as a form of forced savings , helping to strengthen your financial position. Plus, the extra equity can be used to fund new property purchases or other investments .
Future Cash Flow Advantages
Shorter loan terms not only save interest and build equity but also improve your long-term cash flow. While the monthly payments are higher initially, paying off the loan sooner means that rental income (after expenses) becomes almost entirely profit. This creates several key benefits:
- Investment Flexibility: Once your mortgage is paid off, you have more freedom to explore new investments or grow your property portfolio .
- Inflation Protection: Making higher payments now uses today's dollars to pay off future debt. As rents generally rise with inflation, your fixed mortgage payment becomes less significant over time .
Additionally, paying off your loan faster gives you a stronger financial cushion. However, it’s smart to have an emergency fund in place before committing to the higher payments of a shorter term .
Why paying off your mortgage is the most underrated rental strategy
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How to Refinance for Shorter Terms
Shorter loan terms come with several perks, but knowing how to refinance effectively is key. Follow these steps to make the process smoother.
Check Your Financial Status
Before jumping into refinancing, take a close look at your financial qualifications. Lenders typically require:
- A credit score of at least 640 (ideally between 670–739)
- 20% equity in the property
- A good debt-to-income ratio
- Documented cash reserves
Here’s a quick guide to the cash reserves you’ll need based on the number of properties you own:
| Properties Owned | Required Reserves |
|---|---|
| 1–4 properties | 2% of unpaid mortgages |
| 5–6 properties | 4% of unpaid mortgages |
| 7–10 properties | 6% of unpaid mortgages |
Once you’ve confirmed your financial standing, it’s time to find the right lender.
Select a Lender
Not all lenders are created equal, especially when it comes to investment property loans. Private lenders, like LoanGuys.com, often offer faster approvals and more flexible terms - sometimes without requiring tax return verification. However, these options can come at a higher cost. Traditional banks, on the other hand, may have stricter requirements but potentially lower rates. Take the time to explore your options.
Review Loan Options
When refinancing, you’ll encounter a few main loan structures:
- Rate-and-Term Refinance: Focuses solely on lowering your interest rate and shortening the loan term without pulling out cash.
- Cash-Out Refinance: Lets you access your property’s equity while also adjusting the loan term.
- DSCR Loans: These loans use property income instead of personal income for qualification.
You’ll also need to decide between adjustable-rate mortgages (like 5/6 ARM or 7/6 ARM), fixed-rate loans, or possibly interest-only options if you qualify.
Required Documents
To streamline the refinancing process, have these documents ready:
- Property details (e.g., deed, current mortgage statement, lease agreements)
- Financial records (bank statements, tax returns)
- Insurance information (property insurance, flood certification if needed)
- LLC documents (if you’re financing through an entity)
Finally, shop around - compare rates and terms from at least three to five lenders to ensure you’re getting the best deal.
What to Know Before Refinancing
Before refinancing, it's important to weigh the financial effects and how it aligns with your investment goals.
Monthly Payment Increase
Opting for a shorter loan term will increase your monthly payments, which could strain your cash flow. Make sure you're prepared to handle higher payments, especially during times of vacancy or unexpected maintenance. Also, don't forget to factor in the refinancing fees.
Refinancing Costs
Get a clear understanding of all the expenses tied to refinancing. Rates for investment property refinancing are typically 50 to 87.5 basis points higher than those for primary residences . Be sure to budget for costs like:
- Closing costs: These can range from 2–5% of the loan amount .
- Appraisal fees: Often required as part of the process.
- Discount points: Optional upfront payments to lower your interest rate.
- Title insurance and recording fees: Additional fees to account for.
Carefully consider how these costs fit into your overall investment strategy.
"Refinancing a mortgage on your investment property can be a lifesaver if done at the proper time in the proper way. It can dramatically cut your monthly payments, give you what you need for renovations and upgrades, or even provide the funds to make a down payment on an additional rental property."
– Karina Jugo, Content Administrator at RentPost
Investment Strategy Fit
CoreVest Finance suggests that if your goal is to invest passively or fund new projects, a longer-term loan might be a better fit. Here are a few strategic factors to consider:
- Equity Building: Shorter terms help you build equity faster, which can strengthen your portfolio.
- Tax Considerations: Some refinancing costs, like mortgage points and certain closing fees, may be tax-deductible.
- Portfolio Growth: Think about how refinancing will affect your ability to invest in future properties.
- Exit Strategy: Shorter terms can provide more flexibility for selling or refinancing properties down the line.
Keep in mind that the IRS views refinancing costs as an added liability, not taxable income .
Next Steps
Key Takeaways
Take a close look at your current mortgage details, such as interest rates, the remaining term, and any prepayment penalties . To improve your refinancing application, focus on these steps:
- Keep your credit utilization low and ensure payments are on time.
- Pay down existing debts to improve your debt-to-income (DTI) ratio.
- Collect necessary paperwork, like income statements and tax returns.
If you're an investor looking for tailored options, explore the specialized solutions below.
LoanGuys.com Services
LoanGuys.com provides refinancing solutions designed for rental property owners. Their program focuses on efficiency and flexibility:
| Feature | What It Means for You |
|---|---|
| Quick Closing | Typical timeline of just 14-21 business days. |
| Simplified Documentation | No need for traditional income verification. |
| Nationwide Coverage | Available across all 50 states. |
| Flexible Terms | Suited for different investment strategies. |
| High Funding Capacity | Loans available up to $25 million. |
In July 2024, LoanGuys.com successfully completed a $611,250 refinance in Riverside, CA, within just 14 days .
"Our loan officers will walk you through every step of the loan application and approval process – from answering questions, to closing your loan as quickly as possible."
– LoanGuys.com
Work with financial and tax advisors to ensure your refinancing aligns with your long-term investment goals . This approach helps you take advantage of shorter loan terms and their potential benefits.
