As long as you have lived in your current home for a year, you can move out, rent out the property and apply for a mortgage on a new home. There are several points to consider, however, if you pursue this approach.
First, when you apply for a mortgage on the new property, the lender includes the total monthly housing expense for your current home -- the one you intend to rent out -- as debt in your debt-to-income ratio. That means your current monthly mortgage payment, property tax, homeowners insurance premium as well as any mortgage insurance, homeowners association (HOA) dues or co-op fees are counted as debt, which can make it much more challenging to qualify for the new mortgage. In short, you need to be able to afford the mortgage payment and other housing-related expenses for two homes instead of one.
If you want to include rental income from the property to offset these housing costs, you are required to provide the Schedule E for your tax returns for the prior two years to verify the income. If you have not rented the property in the past, because you lived in the home, lenders may use the lessor or 75% of rental income according to an investment property appraisal report or the income according to a signed lease agreement.
Lenders apply a 25% discount to the projected rental income to account for vacancies as well as property maintenance and upkeep costs. It is important to highlight that the rental income figure that lenders use in your mortgage application may be lower than the income you actually receive from the property. Additionally, in some cases lenders may require that the applicant has a two year landlord or property manager history to receive full credit for the rental income.
If the property generates positive cash flow according to the lender’s rental income calculation methodology, then this cash flow is counted as income in your debt-to-income ratio, which can help you qualify for the mortgage on your new home. If the property is cash flow negative, then the loss is included as debt when you apply for the loan, which may reduce the loan you can afford.
In this scenario, your personal income must be sufficient to cover the loss on the rental property and pay for the mortgage on your new home, while also taking into account your personal debt expenses such as credit cards as well as car and student loans.
Another point to highlight is that when you rent out your current home, you should change your homeowners insurance policy to a rental property policy. The annual insurance premium for a rental property policy may be higher than for a regular homeowners insurance policy but the coverage better matches how you are using the property.
Please note that when you change insurance policies, your current lender may become aware that you are renting out the property. This should not be an issue as long as you have lived in the home for at least a year after your mortgage closed and there are no provisions in your loan documents that restrict you from renting the property.
The positive news is that when you apply for the mortgage on your new home, the loan is classified as an owner occupied mortgage on your primary residence. This means that you should receive the lenders best loan terms. Plus, you may also be eligible for certain low down payment mortgage programs.
The table below shows mortgage rates and fees for leading lenders in your area. We recommend that you contact multiple lenders to learn more about qualification requirements and how your current property will be treated when you apply for your new loan. Shopping lenders is also the best way to save money on your mortgage.
"B2-1.1-01, Requirements for Owner-Occupancy." Selling Guide: Fannie Mae Single Family. Fannie Mae, May 1 2019. Web.« Return to Q&A Home About the author