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How to Buy a Duplex With Multifamily Financing

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It may sound too good to be true, but it’s possible to buy a home with a small down payment and have your neighbor pay a big chunk of your monthly mortgage payment. The catch: You have to buy a duplex, and live in one unit while renting the other one out.

Becoming a landlord and a homeowner at the same time comes with its share of pros and cons. Before buying a duplex, learn what’s involved and what multifamily financing options are available.

What is a duplex?

The term “duplex” typically refers to a single home divided into two separate living spaces. It may also be called a two-unit or multifamily home.

Most people buy duplexes to generate income from renting one or both units. You can live in one unit and find a tenant for the other. Or you can get your feet wet in real estate investing and purchase it strictly as a rental property. An added bonus: Loan limits are higher for two-unit homes than they are for single-family residences, giving you more borrowing power.

Pros and cons of buying a duplex to live in

The benefits and drawbacks of purchasing a two-unit home largely depend on whether or not you plan to live in the property. Duplexes are also harder to find because the bulk of homes for sale are single-family homes.

Pros  Cons 
  You’ll have more low down-payment mortgages to choose from.   You’re managing tenants who are also neighbors.
  You’ll have rental income to offset your mortgage payment.   You may have to pay higher repair costs and insurance premiums for two units.
  You can borrow at higher loan limits than a single-family home.   You may find it harder to sell a duplex because many buyers prefer single-family homes.
  You’ll have access to government-backed loan options with easier qualifying standards.   You give up the potential rental income from the unit you live in.
  You’re less likely to deal with buying a duplex in a homeowners association.   You must live in one of the units to qualify for government-backed loans.

Pros and cons of buying a duplex as an investment

If you’re building your real estate investment portfolio, a duplex can be a great way to get started. Because you can rent out both units, you reduce the risk of having to make the entire mortgage payment if one tenant fails to pay their rent.

Pros  Cons 
  You’ll receive rental income from two units.   You’ll have fewer mortgage financing options.
  You don’t have to live next door to your tenant.   You’ll make a bigger down payment and need more cash reserves.
  You have less chance of having to deal with a homeowners association.   You’ll pay a higher interest rate for investment property loans.
  You can borrow more because of higher multifamily loan limits.   You’ll have to meet more stringent loan approval requirements.

Multifamily financing options

If you’re comfortable being your neighbor’s landlord, you’ll have more multifamily financing options for buying a duplex. The government-insured FHA loan for a duplex is a popular choice, because it allows for lower credit scores and a 3.5% down payment. However, you typically have to live in one of the units to qualify for a government-backed loan.

If a tenant moves out and you stop receiving rent, lenders want to confirm that you have cash reserves in the bank to cover your mortgage payment. Typically, you need cash reserves equal to six months’ worth of principal, interest, tax and insurance (PITI) payments on the new mortgage. For example, if your monthly mortgage payment (including PITI) is $2,000, you need $12,000 in your bank account to qualify for multifamily financing.

The table below outlines the minimum mortgage requirements for standard loan programs to buy a duplex home.

How to finance a duplex

For the most part, the process to get multifamily financing is similar to other loan types. You’ll provide pay stubs, W-2s and bank statements, and lenders will pull your credit for a mortgage preapproval.

Getting duplex financing, though, means your home appraisal may be more expensive than a single-family home appraisal. That’s because the appraiser has to determine the rents in the neighborhoods surrounding the duplex. You may be able to qualify with rental income on the property you’re buying even if no one lives there.

Qualifying with rental income if your duplex isn’t rented

One perk of buying a duplex is that most mortgage programs can use estimated market rent as income even if the property is vacant. Part of the extra expense of a duplex appraisal goes toward market-rent analysis.

In addition to verifying the value of the home, the appraiser verifies the market value of nearby rental properties. Conventional and FHA guidelines allow lenders to add the market rent to your income, which may help you qualify for a higher amount than you would for a single-family home.

Military borrowers using a VA loan to buy a duplex have an extra hoop to jump through: proving that they’ve managed rentals in the past. Unless your federal tax returns show a history of past rental income, you probably won’t be able to use the estimated market rent as income on the new loan.

 

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