Where does the money come from for a hard money loan?
The funds originate from private investors who are looking to make hard money loans seeking a return on their capital. The source could range from:
A group where each investor fractionally invests in your hard money real estate loan, or
A group of private investors who have already pooled their funds and work with a commercial lending asset manager or loan broker to issue loans to qualified borrowers.
When is the best time to use hard money?
A borrower may consider a hard money loan instead of a traditional bank lender in scenarios or a project where having access to capital quickly is crucial. However, gaining access to this type of capital comes at a higher cost, for a two main reasons:
The investor providing the loan is looking for a better return than they can get in the bond market or in a savings account.
The more risk the investor takes, the higher the interest rate will be for the project. So a 20% loan-to-value (LTV) loan on a fully rented commercial building would be far less risky than a residential rehab loan on a 60% LTV fixer upper purchased at a foreclosure sale.
Why can’t I just go to a traditional bank lender and get my deal done?
You certainly can, however, banks generally require both strong collateral and a proven history of excellent credit and cash flow. Further, banking institutions may not provide the dual-awesome combination of speed of capital and quick decision making.
Hard money lenders are the opposite of banks. They offer more flexibility and focus primarily on the collateral for the loan and have the ability to fund a loan quickly – which can prove to be a major benefit when you’re in the midst of closing a time sensitive real estate deal.
Is hard money only for desperate borrowers?
Not at all! There are many transactions that just don’t fit the conventional lending mold, for which hard money loans are better suited. Sometimes, hard money is a preferred means of financing these transactions and allows real estate investors to leverage their cash to invest in multiple deals, instead of just one.
Examples include: commercial bridge loans, land loans, residential rehab or new constructions loans.
Are private money lenders out to steal my property?
Most private money lenders have no desire to take your property. They earn their living by servicing your loan on behalf of their investor. If they take your property, the income stream of 0.5% to 1% of the loan amount per year stops; so their incentive is to keep you in the property, and not take it away from you.
Where will I make my payments?
You may make your payments directly to the private money lender who arranged your loan or to a separate servicing company. Wherever the payment goes, you can expect less sophisticated servicing than you may have experienced with conventional loans. You should not expect a fancy web site to manage your loan. In many cases the servicing may be done on a ledger card or with basic software that doesn’t give the borrower internet access.
Why do I feel hard money lenders can be considered “shady”?
You’re not alone in feeling this way. Over the years, there have been many bad apples in the hard money lending industry. As a result, a certain negative stigma was associated with hard money lenders. However, like any business, it evolved over time, and now there are many more good lenders that serve investors to do great deals across the country.
The key for you is discerning the good lenders knowing the right questions to ask to perform your due diligence. So don’t let the stigma scare you! There are many new “private money lenders” who are well-trained professionals acting in the best interest of borrowers.
The hard money lending industry has seen significant change during the last decade and a cottage industry of professionals has emerged who serve as a conduit between private money investors and borrowers seeking funds for real estate projects such as rehabs, bridge loans, commercial lending, land loans, and more.
What happens before you sign loan documents?
The closing process actually starts back at the beginning of the process. The hardmoney lender, or sometimes the real estate agents orders title and escrow services and that starts the ball rolling.
The title company:
The escrow/settlement services company:
Gathers information about the borrower and seller (if applicable).
Conducts a search of county records for liens, judgments, easements etc against borrower, seller and/or property.
Creates a preliminary title report that is an offer of title insurance on the property.
accepts deposits pursuant to purchase contracts.
Reviews organizational documents of any entities involved and determines authorized signers.
Obtains payoffs of existing liens on property.
Obtains rent rolls, leases, service contracts, security deposits, property tax information etc for proration calculations.
Coordinates 1031 Exchange process (if applicable to borrower or seller).
Prepares settlements statements in accordance with lender/investor instructions and purchase contract (if applicable) and receives loan document package from lender.
Coordinates and oversees the actual signing of the documents, or the “loan closing”. Depending on local practices and the seller’s location, the seller may close simultaneously with the hardmoney borrower or may close separately at a different time and place (if applicable).
What happens after you sign the documents?
The hardmoney lenders wire the loan proceeds to the escrow/settlement services company.
The escrow/settlement services company records the deed, mortgages, etc with the county.
The escrow/settlement services company disburses the funds to all appropriate parties.
The title company issues title insurance policy(ies).
Costs of Hard Money?
Hard money loans generally have two cost components to consider:
Interest rates on private money loans are higher because these loans represent a higher risk than the traditional lending institutions are willing to accept. In exchange for acceptance of this risk, hard money investors require a higher rate of return. The higher the risk, the higher the rate. In general, expect private money rates to start at 7 percent and can be as high as 14 percent.
Up front points are usually 3 points higher for private money loans than a bank would offer. These points are paid to enhance the yield to the hard money investors and pay for the private money lending group's investment in time and resources to package the loan. The points will vary based on the loan amount.
One way to look at the cost of private money loans is to calculate how much it will cost you to not have the loan. For example, if you buy residential rehab real estate fixers and remodel them and you only have enough funds to buy and fix two homes every six months and earn $20,000 profit per home, your profit potential is maxed out at four deals a year, or $80,000 per year. If you were able to get a reasonable hard money rehab loan on each of those properties which gave you leverage to buy eight deals a year instead of four, your profit would double to $160,000. In simplistic terms, your cost in this case of not getting the loan is $80,000 provided all goes as planned.
Iterest rate and
Up front points (1 point = 1% of the loan amount)