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What Is A Hard Money Loan? | Real Estate Skills

How do you get money for real estate deals if traditional mortgage lenders do not work for your situation?  Consider getting a hard money loan to financing your next house flip, or other type real estate deal!  Learn all about hard money lending right now in this article!

 

What Is A Hard Money Loan?

A hard money loan is an asset-based loan and one of the options to consider when traditional lenders won’t finance your real estate deals.

A major factor that may affect your traditional loan approval is your income and credit history.  Lenders prefer candidates with a reputable loan repayment history.  That’s because repayment history demonstrates the ability of the consumer to repay a loan.

However, it’s apparent that having an income and an impressive credit score is not necessary a guarantee for loan approval.  Traditional loans have an invasive process and their approval takes a lot of time.  On the other hand, hard money lenders place minimal emphasis on the credit history of the borrower.

According to Investopedia, a hard money loan is also called a last resort loan or a short-term bridge loan.  Primarily, this short term loan is used to make transactions in real estate.  Borrowers use their real property’s value as collateral for this type of loan and not their creditworthiness.

Traditional lenders like banks do not offer this loan.  Hard money lenders are usually private companies and individuals that value this venture despite being considered risky by some people.

 

What Is A Hard Money Lender?

A hard money lender is an investors’ group, an individual, or a licensed mortgage broker that uses their own fund to provide capital to individuals and businesses to buy real estate or finance business development projects.  These lenders finance sizeable portions of real estate transactions.  They lend borrowers loans with strict conditions and terms. In most cases, these lenders operate over the internet.

When some people think about these lenders, they conjure up images of crooked-nose men that cut off the pinkie fingers of people that flake on their loans.  However, modern hard money lenders are professionals.  Actually, they are filling a legitimate niche within the housing market for individuals that need fast home loans.  The fact that these lenders use their own funds makes them different from banks that use depositors’ money.

Since hard money lenders use private money to finance loans quickly, borrowers can bypass the regulatory hurdles that complicate the application process of conventional loans.  But, in terms of their requirements, fees, and interest rates, knowing what you can expect from them is difficult.  

For instance, typical loan terms of a hard money loan can include a 5% origination fee and a13% interest rate.  Interest rates for these loans are largely influenced by the local market and not borrower’s financial history and credit score.

Hard money lenders have access to the valuable assets used as collateral.  This insinuates that they insulate themselves from the risk of default in payments.  In most cases, borrowers receive their loans within a few weeks after the initial application.  The fact that these lenders enable borrowers to bypass the strenuous traditional loan application process and get quick funding endears them to most people.

What’s more, a hard money lender is an individual.  So, you work with a person and not an institution.  This personal relationship is important to some people.

 

Are Hard Money Loans Legal & Regulated?

A hard money loan is generally legal and regulated.  However, this regulation is typically at the state level through the Department of Real Estate.  In most states, at least one individual associated with the hard money lending business is required to have a valid Real Estate Broker License.  However, there may be additional requirements for licensing depending on the state.

Cross-state transactions are under the jurisdiction of the involved states.  They are also subject to the respective requirements of each state.  For this loan, security licenses may not be required unless where the loan is categorized as securities offering because the loan is syndicated to several investors.

In states like Texas, licensing and regulation of hard money lenders is done via the Office of Consumer Credit Commission.  Therefore, to ensure that a hard money lender is legitimate, ask them to produce an OCCC license.  In Washington, anybody engaging in funding, brokering, servicing, originating, or buying residential mortgage loans should have a Residential Mortgage License.  In fact, there are reports of people being sentenced for contravening the legal requirements and regulations for hard money lending.

 

How Does A Hard Money Loan Work In Real Estate?

If you’re uncomfortable with the idea of parting with a significant amount of your cash when buying real estate, you may consider hard money lending.  Many real estate investors are using this loan to finance investment projects.  Real estate developers and house flippers with a goal of developing or renovating properties and selling them for profit use this loan more often.

Generally, borrowers get a hard money loan for almost any property including multi-family residential, single-family residential, land, industrial, and commercial properties.  However, there are lenders that specialize in specific types of properties such as residential.  Such lenders may not offer land loans because they are inexperienced in such areas.  Therefore, ask a lender about their specialty to determine if they are ideal for you.

Creditworthiness of the borrower does not determine the ability of a borrower to get financing.  Instead, lenders use a property value to determine whether to make a loan.  Lenders consider the After Repair Value (ARV), which is basically a property’s worth estimate after the development or renovation phase.

The terms of this loan vary depending on the lender and borrower contract.  But, the borrower gets the money and the lender gets monthly interest for the loan till the borrower pays back the full amount.  A borrower is also charged a one-time, upfront fee for loan processing.  Nevertheless, the physical asset that is being bought is the collateral for a hard money loan.

 

Why Get A Hard Money Loan?

There are numerous reasons to get this loan instead of going for a conventional bank mortgage.  Here are the major benefits of this loan:

Convenience

The mortgage application is a time-consuming process.  Closing on a conventional loan can take even months.  This means you can easily lose out on an investment property.  With a hard money loan, you get funding within weeks.  This is particularly important when you need funds for a large-scale development project where deviations from the completion timeline can be costly.

In some situations, lenders are even willing to give their proof of funds so you can submit offers on real estate deals.  Talk about convenient!

Flexible Terms

Private lenders offer these loans.  Therefore, investors have more negotiation room for the terms of their loans.  For instance, you can have the repayment schedule for the loan tailored to suit your needs or have certain fees like the origination fee eliminated or reduced at the underwriting stage.

Collateral

The property being bought serves as the collateral for this loan.  However, lenders can allow investors some leeway.  For instance, some lenders can allow borrowers to secure this loan with personal assets like a residential property or a retirement account.

Basically, this loan is ideal for a wealthy investor that needs quick funds for their investment property without the red tape that is associated with bank financing.

 

What Are Average Hard Money Loan Rates In 2019?

It’s no secret that hard money lenders take more risk with these loans as compared to conventional lending institutions like banks.  Because of the higher risk involved, hard money loan rates are higher than those of conventional loans.

In 2019, the interest rates for this loan range between 10 and 15%.  The interest rate given depends on the perceived loan risk and the lender.  Points of the total loaned amount ranges between 2 and 4%.  The points and interest rates can vary significantly based on loan to value ratio.

Essentially, the ratio of the amount loaned divided by the property value determines the amount a lender can give.  This is called the loan-to-value ratio, or LTV Ratio for short.  In most cases, lenders loan borrowers up to 75% of the current property value.

However, there are lenders that loan borrowers on the basis of the after repair value (ARV) of the property.  This is basically the estimated property value after improvement.  However, this makes a loan riskier from the perspective of the lender.  That’s because it increases the capital a lender puts in and the capital the borrower invests decreases.  Due to the increased risk, the lender charges a higher interest rate.

Some lenders loan a percentage higher than ARV and even finance rehab costs.  But due to the higher risk involved these lenders charge higher interest rates and points.  Expect interest rate of 15 to 18% for such a loan and 5 to 6 points for a loan with little or no down payment.

 

How Do Hard Money Loan Monthly Payments Work?

This loan has a shorter repayment schedule ranging between 6 months and 5 years.  It also involves prepayment penalties though some lenders allow applicants to buy options that are more favorable at a higher fee.  Applicants are expected to present a sizeable down-payment at the closing table.

Depending on the loan application strength, down payment may be up to 50%.  Nevertheless, the loan application is processed faster and an investor can use the money with limited paperwork and quick turnaround.

A hard money loan is generally amortized over a period of 15 to 30 years though it has a balloon payment after the first 12 months or two years.  For instance, monthly payment for a loan worth $100,000 amortized over 30 years with an interest rate of 6% can be $599.55.

If the interest rate is changed to 15%, monthly payment increases to $1,264.44.  If you are a small business owner, you should be certain that you will afford this amount every month before you sign the contract.  Additionally, you will pay 2 to 4 points on your loan too.

 

How Do I Get a Hard Money Loan?

It’s easy to get a hard money loan as long as you have an internet connection.  Simply search Google for a hard money lender in your local area.  The search results you get will feature many individuals and companies that lend hard money.  Start by contacting the lenders and evaluating them.

You can also attend a meeting of the real estate investor’s club in your local area.  There are meetings of these clubs in most cities.  These lenders attend these meetings looking for ways to network with prospective borrowers.  Even if you don’t get lenders during these meetings, other investors can refer you or recommend some.

Conventional mortgage brokers, real estate brokers, and other professionals in the industry can also refer you to lenders.  Leverage your current network to find out who most people recommend.

After compiling a list of lenders, start to get in touch with them.  Find out who among them is the most ideal to fund your real estate deal.

 

Do Hard Money Lenders Check Credit?

A hard money loan is an asset-based loan.  That means the focus of the lender is largely on the deal’s quality rather than on the credit score of the borrower.  Basically, this loan is secured because it is tied to the investment property in question.

When a borrower defaults on this loan, the lender has the right to foreclose or repossess the property.  This security makes this loan less risky for lenders and therefore some of them bypass checking credit.

However, some lenders still check credit on receiving loan applications.  A low credit score, IRS tax liens, previous foreclosures and bankruptcies are some of the factors considered by lenders.  Their goal is to understand the track record of an investor. Though this is an asset-based loan, conducting sufficient due diligence is the norm of the industry.

Established lenders check credit to get the assurance that a borrower has what it takes to pay back their loan.  Without performing credit checks, a lender can expose balance sheet to a higher-risk loan thereby affecting the borrowers that work with them.

 

How To Qualify For A Hard Money Loan?

This loan provides quick funding for real estate investment deals.  But, to qualify for it, there are conditions that you have to meet.  These include the following:

Tax Returns

Your credit score may not fully affect whether you will get this loan or not.  However, most lenders request or the tax returns of borrowers for the past two years to get a sense of their income.  For instance, you may ask for a loan worth $500,000 when your tax returns show that your income can’t support monthly payments for the loan and accrued interest.  In that case, the lender will use this as a factor to determine whether to grant you the loan or not.

Debt to Income Ratio

Most lenders compare the existing debts of borrowers to their income.  This enables them to determine their ability to repay loans.  Despite being less stringent when compared to banks in their underwriting process, hard money lenders want to be sure that their loans are secure.

Experience

You stand a better chance to qualify for this loan if you are experienced in flipping.  That’s because you experience will give your lender the confident that you can manage a real estate project efficiently.  A profitable and proven track record may not be a major requirement for qualifying for this loan.  However, it helps by positioning you above other borrowers.

Resale Value

This is a major factor that will qualify you for this loan.  The resale value of the property should enable you to net profit and have money to repay your hard money loan.  You are likely to be denied a loan if you can’t determine whether you will make a profit from the property.  These lenders need a first lien position.  Thus, you must guarantee your lender that you will pay off their loan first once you resell the property.

Organization

How well-organized you are when requesting a loan will influence your ability to qualify for it.  Most lenders prefer well-organized borrowers.  These are borrowers that come with a request package that includes a property purchase contract, LLC organizational documents, draw schedules and building plans.

Have these points in mind when requesting a hard money loan.  Being prepared mentally will position you ahead of other borrowers and qualify you for financing.

 

Can I Get A Hard Money Loan With Bad Credit?

Yes.  The main factor for a hard money loan is the collateral.  When purchasing a real estate property, you can get a loan that is worth the value of the property.  But, there are cases when a lender for people with bad credit can be hard to find.  That’s because though property value is the primary concern for these lenders and not their credit score, some still consider it.

Nevertheless, you can still locate a lender that is willing to loan you despite your poor credit when you know where to look.

 

How To Get a Hard Money Loan For Bad Credit?

To get this loan with bad credit, follow these tips:

  • Look for an experienced hard money lender - The legal requirements, origination, and servicing are complicated when it comes to hard money lending.  Therefore, look for a hard money lender with experience in funding and closing deals for people with bad credit.
  • Find a local lender offerings loans to people with bad credit - Look for a lender with a reputation of closing high risk properties like yours.  Lenders for bad credit may be few but you can still find a local one that is willing to work with you.
  • Choose a licensed lender - Choose a lender that is registered with entities like the Nationwide Mortgage Licensing System and Registry.  Additionally, choose a lender with an up-to-date broker’s license.
  • Decide on the amount you need - The amount you need should be determined by the property you want to invest in.  Take time to understand loan to value ratio before you talk to a lender.  Have a clear figure that you want to borrow.

Follow these tips above to easily get a hard money loan with bad credit!

 

How To Find Hard Money Lenders For Real Estate Investments?

There are many hard money lenders that are willing to finance your real estate deal.  Nevertheless, you need preparation and the right mindset to find the right lender.  One way to find a hard money lender for your real estate investment is by conducting an online search.  But, to get the right lender, you should do your due diligence.

Here are tips to help you find the right hard money lender for your real estate investment:

  • Learn about hard money loan for real estate - The terms used by hard money lenders can be confusing.  Therefore, take time to familiarize with this loan for real estate.  Also know the repayment terms, the involved investment incentives, risks, and what you can accomplish with the loan.
  • Establish a network - Hard money lenders for real estate investments have relationships with real estate investors and developers.  It’s therefore wise to establish a network with these industry players when looking for a lender.  These can provide useful recommendations and referrals.
  • Select a lender - From those recommended, select one to borrow from.  This should be a reputable, licensed hard money lender.
  • Prepare materials - Once you have recommendations or referrals prepare the materials required by hard money lenders during pitching.  These include documents for the property you want to buy, past deals, your goals, and experience.  Have everything necessary to show the lender that you are the right person for them to fund.
  • Make a pitch - To get funding for your real estate investment, you should do more than just explaining figures and details of the property you want to buy.  You have to ensure that you are on the same page with the lender.  Therefore, avoid making your pitch seem like a fast deal or quick sale.  Instead, answer all questions asked by the lender to their satisfaction.

Follow these tips to enhance your chances of getting the right hard money lender for your real estate investment.

 

Is Hard Money A Wise Choice For Real Estate Investors?

Hard money is a wise choice for some real estate investors but not others.  If you have a good income history and credit and you don’t have issues like foreclosure or short sale, conventional financing might be ideal for you.  This is particularly the case when you don’t mind the long approval process for bank loans.  On the other hand, hard money is ideal for you if you don’t qualify for conventional bank loan or when you need quick financing.

Hard money is a wise choice for situations like:

  • A Fix & Flip property
  • Land loans
  • Construction loans
  • Poor credit
  • When required to act quickly

 

Can I Start Flipping Houses With Hard Money?

Yes. A hard money loan is based on the after renovation value (ARV) of a property.  For instance, if the cost of a home is $80,000 but the ARV is $160,000, you can borrow 70% of its after renovation value.  That means you can use the property as collateral to borrow $112,000.

Once you pay the purchase price of the property, you will get $32,000 after the closing costs, lender fees, carrying costs, rehab, and selling expenses.  Don’t forget that you can negotiate to have the home seller pay the closing costs.  By sticking to your budget, you avoid spending more money on house flipping.

 

How To Get a Hard Money Loan For A House Flip?

You get a hard money loan for a house flip from a hard money lender.  Hard money lenders can be found in-person and online.  One way to find a traditional hard money lender to give you a loan for flipping houses via industry relationships.

To find a hard money lender online, you have to use the internet.  Nevertheless, both online and offline lenders have pre-qualifications that take a relatively shorter time and they can avail their funding within weeks.

Check out the websites, different lenders, & talk to them in-person to know the rates, terms and conditions of their house flip loans.  For instance, find out more about the experience a lender requires you to have in order to give you a loan for a house flip.  Most lenders will also need a track record of successful sale of at least one property at a profit.  Nevertheless, there are lenders that work even with inexperienced flippers though they charge higher interest and fees.

 

What Are The Pros And Cons Of Hard Money Loans?

Hard money is important for some borrowers.  These include borrowers that can’t qualify for traditional funding.  Nevertheless, it has its drawbacks too.

Pros

  • Speed - This loan has quick closing because lenders focus mostly on collateral and not financial position of the borrower.
  • Flexibility - A hard money loan can have more flexible agreements than a traditional loan.  That’s because hard money lenders evaluate a deal individually and they don’t have a standardized process for underwriting.
  • Approval - Lenders care about the property value and the property being bought is used as collateral.  There are lenders that don’t even consider credit.

Cons

  • High interest rate compared to conventional loans
  • High origination and closing fees
  • Short-term financing

 

Hard Money vs. Private Money

Hard money is money from hard money lenders.  These are lenders in the money lending business and in far, they supply capital to typical borrowers in the real estate industry.  Private money is generally money or funding provided by a friend, family member, business partner or any other acquaintance.  Simply put, private money is money from a source that is not in the business of lending money or providing loans.

 

How Do I Become A Hard Money Lender?

To become a hard money lender, you need to do the following:

  • Decide whether to use your money or seek investors
  • Decide whether you will be providing loans internationally, nationally, or locally.
  • Determine what you will focus on investing in, whether real estate, early stage businesses, or startup companies.
  • Decide on the businesses you will be lending to, whether construction, technology, real estate development, commercial or residential.

Additionally, have the title company that you will deal with.  Also, always be networking with industry players like brokers to keep deal flowing.  You can also talk to your lawyer about hard money lending business structure.  Talking to a lawyer will help ensure that you lend hard money loans within the confines of the law.

 

Quick Hard Money Lending Tips

Once you decide to get a hard money loan, follow this article & these tips to ensure a successful borrowing experience.  Here they are:

  • Choose the right lender
  • Invest in the right property
  • Prepare all necessary documents
  • Contribute equity
  • Set realistic time frames!

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There you go!  At Real Estate Skills, we commend you for reading the full article on "What Is A Hard Money Loan?"

You now know the ins-and-outs of hard money loans and lenders! 

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