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What Is Hard Money Lending? Everything You Need To Know
The basics of understanding what is a hard money loan represent the first step in breaking down real estate financing. Hard money loans are, after all, a real estate investor’s best friend; they are the quickest path to securing a deal. Nonetheless, hard money lending can get complicated quickly, so you need to realize what you are getting into before making any decisions for yourself.
What Is Hard Money Lending?
Hard money lending is a short-term loan obtained from private investors or individuals at terms that may be strict than a traditional loan. Though the terms of this creative financing option may be stricter, this form of private financing for real estate generally has more lenient criteria.
Hard Money Lending FAQs
1. The Big-Picture of Hard Money Lending
Hard money lending is another way an investor can finance their real estate projects outside of the traditional mortgage means. This is a short-term loan secured from private investors or individuals instead of other traditional institutions like banks or credit unions.
Hard money lending is often used by investors who aim to improve or renovate a property and sell it. Given that you can usually get a loan in a matter of days (as opposed to weeks from banks), this is a fine choice for house flippers and real estate developers. This is also an option for investors who only need to do quick fixes to raise a property’s value, then secure another loan based on the new value to pay off the hard money lender.
2. Hard Money Lending Vs. Other Lending Types
The main difference between hard money lending and other types of loans is that this type of financing does not focus on your credit history or income as collateral. Instead, lenders will see the property’s value as the determining factor, emphasizing its after-repair value (ARV). ARV is the worth of the property once your renovations are done.
Other differences include:
· Hard money lenders do not invest in primary residences. Owner-occupied residential properties are subject to many rules and regulations, thereby increasing the risk for lenders.
· Hard money lenders do not sell loans to Freddie Mac or Fannie Mae. Often, lenders use their own money or raise it from a pool of investors. The loan amount is based on their property specialization (if there are any) and the risks they are comfortable taking.
· Hard money loans are short-term. You will not have the luxury of 15 to 30 years to repay your loans. Hard money loans are typically needing to be repaid anywhere between 6 to 36 months.
· Hard money lenders have their own lending criteria. A private lender, for example, could be your friend, family, or business associate. As such, they may not have any preset criteria before lending you money, giving you more flexibility in negotiating terms. Hard money lenders, on the other hand, come with a specific set of upfront points, interest rates, and defined durations.
3. What Are Hard Money Loans Used For?
Hard money loans can be used for a wide variety of investment types and purposes. In the real estate industry, hard money loans are commonly used to purchase both residential and commercial properties. This is partly because of the approval requirements and because hard money lenders can work on the quick timeline that closing deals often demands.
Imani Francies, an investing expert with Loans.com, says that “loans of last resort or short-term bridging loans are called hard money loans. Real estate serves as collateral for a hard money loan. Due to their lack of red tape, hard money loans are ideal for wealthy investors that need to get funds for an investment property swiftly”.
Hard money loans are also commonly used to fix and flip properties. These investors may be less worried about higher interest rates because the end goal is to sell the property for a profit once the rehab is finished. Hard money loans make a perfect fit because they can be used to purchase properties and make renovations.
The Pros And Cons Of Hard Money Loans
Let’s look at the pros and cons of hard money so you can weigh the pros and cons yourself.
· Speed: The Dodd-Frank Act is financial reform legislation enacted in the past decade. It came with new regulations on mortgage lending, which means a lot of time (often, months) is needed for an investor to close a loan. On the other hand, hard money lending is fast, as you can secure a loan in days or weeks (depending on negotiations). Time is essential, especially for large development projects, and hard money lending can help speed that process along.
· Flexibility: Terms can be negotiated with hard money lending loans since you are dealing directly with individual investors. Banks are not as flexible.
· Collateral: With hard money financing, the property itself is your collateral for the loan. Some lenders even accept other assets, like your retirement account or residential property under your name, as a basis for starting a loan.
· No “Red Tape”: Getting a loan for an investment property with a traditional mortgage is difficult, if not impossible. Traditional borrowers need to worry about credit score, LTV ratios, debt-to-income, and several other indicators they need to meet criteria for. However, hard money lenders function as asset-based lenders who are more concerned with the property than the borrower’s credentials.
· Convenience: There is something to be said for the convenience of being able to close with cash. Having to supply a lender with bank statements, income documentation, tax returns, and leases can become overbearing and consume your focus and energy. Hard money, on the other hand, cuts out the middleman and a lot of the headaches.
· Volume: Hard money lenders allow investors to leverage other people’s money. That means investors could potentially fund more than one deal at a time. Traditional loans will do no such thing. If you want to fund multiple deals at a time, you should consider a hard money loan.
· Competitive Edge: Hard money allows investors to beat out the competition, or at least those using a traditional loan. If for nothing else, sellers prefer the two things hard money offers: cash and a timely transaction.
· Cost: The convenience that comes with hard money lending may be its primary benefit; however, it is also its main drawback. Given that hard money lenders are at higher risk than borrowers, many may demand up to 10 percentage points higher than traditional loans. Interest rates range from 10 to 18 percent. Expect other fees to be also at a relatively increased rate, including origination fees and closing costs.
· Short Repayment Schedule: A shorter repayment period is the price to pay for being able to get a property listed on the market ASAP. This can be anywhere between 6 to 36 months. Make sure that you can sell the property and profit the soonest time possible.
Hard Money Loan Rates
Hard money loan rates are typically much higher than fixed-rate mortgage loans. Compared to the average 5.5% fixed-rate mortgage loan, a hard money loan typically falls between 8% and 18%. In addition, hard money loans may not cover the full value of the property you seek to finance. If a hard money loan does not cover the full value, you may be required to present a higher down payment on the property or find an additional source of financing to close the deal.
When To Use Hard Money for Real Estate
Though hard money lenders will often issue loans for almost any type of property, certain types of property investments were absolutely made for hard money. Rehab projects, construction loans, and land loans were made to be financed through hard money.
This doesn’t mean that other types of investments should not be financed through hard money. If you, the buyer of a property, have credit issues, or you need to act quickly on a deal before it disappears, the speed and convenience afforded by a hard money loan can be worth its weight in gold. In these cases, hard money loans can be used to purchase residential or commercial properties.
Finding Hard Money Lenders for Real Estate Investing
Many new investors fret over how they will find hard money lenders to get moving on the financing of their projects. But here are a couple of simple ways to approach this:
· REIA or MeetUp Meetings: Often hard money lenders will speak at local real estate events. If not, ask fellow members to see if they know any trustworthy lenders.
· Real Estate Agent or Traditional Lender: Ask that realtor, or mortgage broker, in your real estate network if they know a hard money lender you could do business with.
· Google “Hard Money Lender”: Just be careful, there are some unscrupulous individuals out there. Be sure to ask for references and talk to fellow investors to get their opinion.
Working With Hard Money Lenders
Working with hard money lenders will be less different than going through a traditional bank for financing. To begin with, hard money lenders are not regulated in the same way as traditional financing institutions. The lack of regulations means the rules of the loan will be different. Borrowers can negotiate directly with lenders on the loan terms. Hard money lenders will decide what to accept at their own discretion, specifically in regard to credit scores, debt-to-income ratios, and more. Keep in mind that the most important thing hard money lenders are looking for is a return on investment. Melanie Cohen from Instaya advises to “make sure that the property is worth investment and communicate its potential to your lender. When compared to a traditional loan, working with hard money. lenders are more about investment potential than your own financial standing”.
How Does Hard Money Lending Work?
Given that these are private individuals, every hard money lender is different. As stated above, these lenders come with their own requirements, including the process they need to close the transaction.
To give you a general idea, this is the usual course hard money lending takes:
1. Find a hard lender near you. Do not let the rejection of a bank loan drive you to desperation. Research and make sure the lender can be trusted. Do they have a legitimate website? Are they in good standing with their own investors? Do they have pending lawsuits over bad loans?
2. Arrange a meeting with the lender. This is also the time when you can inquire whether they specialize in a kind of investment property or if they have worked with projects previously that mirror yours. Assess the time frame specified for the loan and see if this is something you can work with.
3. Prepare a contract. Make sure that you are offering a good deal with a sound financial plan.
4. Inform the lender of your contract price. Most lenders are willing to fund 60 to 80 percent of the property’s ARV. The remaining 30 to 40 percent is up to you. You will increase your chances of getting approved if you already have this at hand.
5. Get the property appraised. The lender will either send a list of their trusted appraisers or have their own.
6. Prepare additional documents needed. Some lenders may require that you present other documentation, like W-2s, bank statements, pay stubs, etc.
7. Wait for the lender’s approval. If it is a deal that the lender finds satisfactory, then they will inform you of the amount and terms for payment.
8. Consult with a lawyer. Make sure that you are legally protected, especially after getting the lender’s counteroffer.
9. Close the loan. Typically, this will be done at a title company or a lawyer’s office. The lender will then put the money into escrow at the title company. The title company would make sure all paperwork is completed and that checks are issued to all parties involved. Additional costs may include any closing fees and property insurance.
Often, lenders grant money to properties that will not be in the market for long, and that have good selling potential. Make sure your team budgets ample time to complete renovations. There’s no sense in coming up with unrealistic projections. This cannot only set you back financially but possibly burn a possible future relationship with your hard money lender.
Alternatives To Hard Money Loans
Hard money loans are not the only form of financing with approval requirements that differ from a traditional home loan. Numerous alternatives may help you buy your next property:
· Home Equity Loans: If you are trying to finance your second property (or an investment property) consider tapping into your existing equity with a home equity loan. The approval requirements are largely based on the value of the property and the amount of equity you have built up. These loans are also associated with lower interest rates when compared to hard money loans.
· FHA Loans: Federal Housing Administration (FHA) loans are an option for borrowers who do not meet the traditional criteria. FHA loans have lower approval requirements and do not consider past financial challenges (namely bankruptcy) during the application process. Read our guide to FHA loans to learn more.
· VA Loans: Loans by the Department of Veterans Affairs require no down payment and have much lower approval standards. These loans are only provided to qualified veterans, active-duty service members, and their spouses. The interest rates and application requirements are often much more favorable if you do qualify.
Learning what is a hard money loan for real estate acquisitions has become commonplace in the housing sector. If for nothing else, a hard money loan gives investors an edge over those using traditional financing methods. Not only should hard money borrowers be able to secure capital faster, but sellers will also favor their offers because they are made with cash. That said, if you are looking to fund a deal, you may not want to ignore hard money; it could be the one thing that gets you what you need.
Equal Housing Opportunity. This is not a Good Faith Estimate and this is not a Guarantee to lend and should not be considered as such. Costs, rates, estimates and terms can only be determined after completion of a full application. Actual payments will vary based on your individual situation and current rates. APR for loans vary from 7.99 – 29.5% and is based on Credit Score, Down Payment, LTV, Income. Mortgage rates could change daily. To get more accurate and personalized results, please call 623 582 4444 to talk to one of our licensed mortgage experts. Terms and conditions of all loan programs are subject to change without notice. Level 4 Funding LLC, 22601 N 19th Ave Suite 112, Phoenix AZ 85027, 623-582-4444 NMLS 1018071 AZMB 0923961 This e-mail is for the exclusive use of the intended recipients, and may contain privileged and confidential information. If you are not an intended recipient, please notify the sender, delete the e-mail from your computer and do not copy or disclose it to anyone else. Your receipt of this message is not intended to waive any applicable privilege. Neither this e-mail nor any attachment’s establish a client relationship, constitute an electronic signature or provide consent to contract electronically, unless expressly so stated by Dennis Dahlberg RI/CEO, Level 4 Funding LLC, in the body of this e-mail or an attachment. To the extent this message includes any tax or legal advice this message is not intended or written by the sender to be used, and cannot be used, for legal or tax purposes or advice.
About the Author: Dennis has been working in the real estate industry in some capacity for the last 40 years. He purchased his first property when he was just 18 years old. He quickly learned about the amazing investment opportunities provided by trust deed investing and hard money loans. His desire to help others make money in real estate investing led him to specialize in alternative funding for real estate investors who may have trouble getting a traditional bank loan. Dennis is passionate about alternative funding sources and sharing his knowledge with others to help make their dreams come true. Dennis has been married to his wonderful wife for 43 years. They have 2 beautiful daughters 5 amazing grandchildren. Dennis has been an Arizona resident for the past 40 years.