Before you buy an investment property, you must secure financing. But what kind? Traditional bank loans and asset-based loans are two common options. In this article, we’ll define each, compare them, and help you decide which is best for your situation.
At ABL, we’ve helped countless investors nationwide get their real estate projects off the ground with our fast, flexible asset-based loans. Whether you need to fund a fix-and-flip, BRRRR, or new construction project, we can help.
What Is Asset-Based Lending?
In real estate, asset-based lending is a form of financing that uses a property as collateral. Unlike other forms of financing, however, the value of the collateralized property determines how much you can borrow—more than your personal creditworthiness or other factors do.
Common use cases for asset-based loans include fix-and-flip and new construction projects. This is because these projects tend to require fast closing and flexible loan terms that only an asset-based lender like ABL can provide.
What Is Traditional Lending?
Traditional lending in real estate refers to financing provided by banks or credit unions. Typically, these lenders have a much stricter loan qualification process that involves checking your personal credit history, income, and debt.
While traditional lending can be a good option for regular homebuyers, it’s often not for real estate investors who may have irregular income or need shorter, more flexible loan terms.
Key Differences Between Asset-Based and Traditional Lending
Now that you know what asset-based and traditional lending are, let’s dive into how they differ:
Approval Speed
With less documentation to review, asset-based loans can be approved much quicker than traditional loans. That’s because lenders care most about the value of the underlying collateral. Your credit score and experience may still be factors, but you won’t have to provide proof of income, current debts, and other personal financials.
In contrast, traditional loans take much longer to process. Typically, lenders want to see tax returns, bank statements, proof of income, credit reports, lists of outstanding debts, and other financial documents. This can make loan approval take weeks to months.
Qualification Criteria
Since asset-based loans focus on the value of the collateralized asset, the qualification criteria are relatively simple. If the deal has a strong enough return potential, asset-based lenders like ABL are likely to fund it.
Traditional lenders have stricter qualification requirements. They typically require a credit score of 620 or higher, enough income to cover three times your housing costs, and a debt-to-income (DTI) ratio of no more than 45% (often lower). If you already have a mortgage, this can make it nearly impossible to expand your property portfolio.
Loan Terms
Most asset-based loans have 12-month terms. This gives you enough time to renovate or build a property before refinancing or selling for a profit. At ABL, we handle the financing, so you can focus on the project at hand. And if you finish early, there’s no prepayment penalty, which means you save more on interest costs.
Traditional loans typically have 30- or 15-year loan terms. This can be great for regular homeowners or a long-term rental. However, once you’ve maxed out your DTI ratio, traditional financing can’t help you expand your rental portfolio.
Flexibility
Asset-based lenders can tailor their loan terms to your specific needs. They understand that every project is different and none goes exactly according to plan. Whether you’re flipping a house or building one from the ground up, asset-based lenders like ABL can support you every step of the way.
Traditional loan terms are more rigid. This is partly because most conventional mortgages must conform to standards set by government-sponsored enterprises like Fannie Mae and Freddie Mac (and the Federal Housing Financing Agency that regulates them).
How to Choose Between Asset-Based and Traditional Lending
When choosing between an asset-based loan and a traditional loan, consider the following.
An asset-based loan may be better if:
- Speed is crucial. For example, if you come across a great deal and don’t want to risk your competition beating you to it, get an asset-based loan that can close in a few days.
- You’re buying a distressed property. Many traditional lenders won’t approve a loan if the property is in poor condition. However, asset-based lenders like ABL specialize in funding such projects.
- Flexibility is a must. Asset-based lenders like ABL tailor their loans to your specific needs. Whether you need a bridge loan or a cash-out refinance, ABL has you covered.
- You’ve exhausted other financing options. Traditional lenders won’t lend beyond a certain DTI ratio (e.g., 45%). However, asset-based lenders like ABL don’t care about your personal DTI ratio so long as the project has a high enough return potential.
Meanwhile, a traditional loan may be better if:
- You’re buying a primary residence. Conventional loans are designed for homebuyers who plan to stay in their home for a long time, so the loan terms are for 15 or 30 years.
- A low monthly payment is your top priority. Because conventional loans are spread out across longer loan terms, they often offer lower monthly payments. However, this comes at the cost of higher total interest costs.
- You can secure favorable terms on your first rental. With strong credit and personal income, you could get good loan terms on your first rental. However, it’ll likely max out your DTI ratio, preventing you from using traditional financing on your next rental.
Partner with a Premier Asset-Based Lender
Ultimately, the right choice between an asset-based loan and a traditional loan depends on your financial needs and goals. However, if you’re ready to take your real estate investing journey to the next level, consider partnering with ABL.
Since 2010, we’ve funded over $3.3 billion in loans to beginner and seasoned investors across the U.S. But we’re more than just a lender. We’re a partner committed to your long-term success. That’s why we have over 500 5-star reviews. Pre-qualify for an ABL loan today!