Who Uses Hard Money Loans And Why
Hard money financing is used by real estate investors who need short-term funding for an investment deal. Good deals go fast and cash is king. If you have dont have access to enough cash to fully fund the deal, your offer to purchase a property wont be competitive.
Hard money loans are typically used for one of two short-term purposes:
Hard money loans have become the go-to for house flippers who can’t borrow money from a bank. It could be that their credit isn’t great or because the deal doesnt pass a traditional lenders strict guidelines.
The borrowers cost of hard money — the interest rate and the loan origination fee — is higher for these reasons. The rates are higher to compensate the lender for the increased risk of the deal.
Rates For Hard Money Loan
Typically, a loan approval process involves a review of all background information of the borrower by the lender to determine whether or not the lending can be done with a reasonable sense of comfort. However, in the case of a hard money loan, the lender doesnt dig into the borrowers financial background, which means that the lender is taking a higher risk. The risk is offset to a large extent by the collateral that the lender can resell if the borrower fails to make the loan repayments. Nevertheless, since the lender assumes a higher risk, it charges a higher rate of interest in the case of a hard money loan. The average rate of interest for hard money loans usually falls in the range of 11% to 12%.
Hard Money : Everything You Need To Know About Getting Started With Hard Money Loans
When you hear the words hard money loan whats the first thing that goes through your mind?
Shady looking lenders who conduct their business in dark alleys and charge sky-high interest rates?
In prior years, some bad apples tarnished the hard money lending industry when a few predatory lenders were attempting to loan-to-own, providing very risky loans to borrowers using real estate as collateral and intending to foreclose on the properties. Luckily, these types of hard money lenders dont exist in todays market, although some residual stigma remains for some real estate investors who havent recently utilized the services of a reputable hard money lender.
In this article, we will go over the basics of hard money loans, including:
- What hard money loans are all about.
- The types of properties and deals hard money loans are appropriate for.
- What kind of interest rates and loan to value ratios to expect.
- Standard requirements of the borrower.
- Where to find an experienced hard money lender to work with.
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With A Variable Rate Loan
- Your interest rate is generally lower than rates offered by fixed rate loans.
- Your interest rate is variable and will rise and fall with changes in the RBC prime rate.
- If interest rates rise, your payments will likely stay the same, but your amortization term will increase.
- If interest rates fall, your payments will stay the same and your amortization term will decrease, meaning you could pay off your loan sooner.
- You can switch to a fixed rate loan or pre-pay your loan at any time without penalty.
If you are not sure what’s right for you, an RBC Royal Bank can help you choose.
Typical Interest Rates For Hard Money Loans In California
Hard money lenders in California are the source for financing solutions for those who cannot qualify for a traditional lender. The market for hard money lenders in California is big. Thats because the state has a very active single family real estate market. California has one of the highest median home values priced at an average of $500,000. Hard money lenders in California provide lucrative home flipping opportunities for investors. In a nutshell, they provide a quick fix and flip transaction.
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How Do You Get Approved For A Hard Money Loan
Hard money loans are different from conventional mortgages because they dont require all the documentation or strict guidelines to qualify. Due to the flexible nature of hard money loans, there arent detailed guidelines to qualify, but most hard money lenders will consider the following criteria when approving your loan:
The down payment you are willing to offer up is the most significant qualification factor for a hard money lender, but not the only one. While there are low-down payment, hard money loan options, most require 20 to 30% down. The higher the down payment, the lower the loan-to-value ratio . This reduces the lenders risk if they have to take the property back in the event that you fail to repay the loan.
Most hard money lenders are going to place a high priority on the collateral they are lending on. This can include the property itself or other properties and investment accounts they can cross-collateralize. They need to be sure that the collateral they are securing is more than enough to cover the loan and recovery costs.
While your credit score is vital to some hard money lenders, it is not as important as the other factors in this list. The minimum credit score requirement for hard money loans can depend significantly on the collateral and your down payment.
On the other hand, if you have a large enough down payment and substantial collateral, the hard money lender may not even check your credit.
Business Line Of Credit
A business line of credit can be an excellent financial resource if your business needs continuous access to additional capital. Once approved, the lender opens a credit line with a pre-determined credit limit, which the company can use on an as-needed basis. As the business draws money from the credit line, the amount of credit available to them decreases. Once theyve paid off the money they withdrew, the available credit returns to the original amount, and the business can re-access the same funds in the future.
With a line of credit, businesses with an excellent credit score can get up to $1,000,000 in funding. They can use the proceeds towards various business purposes, including:
- Investing in real estate
- Buying office supplies and fixtures
- Debt refinancing
However, unlike hard money loans, business lines of credit will consider the business creditworthiness in the underwriting process. That said, to qualify for better terms, you must show a good credit score and healthy financial history.
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When Does A Hard Money Loan Make Sense
A hard money loan wont work for every situation. To put yourself into the best position moving forward, you need to have a solid plan for rehabbing the home, enough money to make a down payment, and an interest rate that isnt prohibitively high.
Here are some additional situations when this type of loan might make sense for you.
Is A Hard Money Loan Worth It
A hard money loan is not perfect. While it seems simplean asset secures the loan, so all parties are safehard money has its drawbacks, too.
A primary drawback of hard money might be the extra costs you incur. This is an expensive method of borrowing. Interest rates are relatively high, and you may need to pay closing costs or other fees to get funding.
Foreclosure or other negative items in your credit report are less important for a hard money loan approval process.
A short time frame can also be risky. For example, if things dont go according to your plans, such as a material delay or structural surprises while renovating a home, you may face a cash flow squeeze or pay more interest than you expected.
Finally, the way lenders value your property may drain your resources more than you expect. For instance, if your lender required a 30% down payment when you’d expected one for 20%, you might have a shortage of capital for labor and materials.
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Where To Find Hard Money Lenders
To tap hard money loan providers, you can get in touch with real estate agents and real estate investor groups. Ask about hard money financing and they can refer the right contact person.
You can also search online for hard money lenders. If youre interested in house flipping, there are lenders online that specifically provide fix and flip financing to borrowers.
Once youve reached out to a lender, be sure to discuss your situation and needs. Developing a good relationship with your financer can help you secure enough funds and negotiate better terms. Once you establish that trust, you can turn to them for a new loan in the future.
How To Improve Your Chances Of Qualifying For A Hard Money Loan
Like any loan, you’ll need to apply and be approved for a hard money loan. While your credit score doesnt qualify you for the money, a good one tells a hard money lender that youre a lower risk.
Most hard money lenders require rehab and real estate experience. Providing proof of your qualifications as a successful real estate investor will help your chances of loan approval and put you in a better position to negotiate a favorable interest rate.
Another thing to remember: Like traditional lenders, hard money lenders require property insurance. But, in most cases, youll need a builders risk policy rather than the more affordable property and casualty insurance a traditional mortgage requires. Its more expensive, has unique coverage, and not all insurance brokers offer it.
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Reference Hard Money Rates & Commercial Loan Options
|Hard Money & Commercial Mortgage Loan Providers||Rates|
|HUD 221||3.15% 3.40%|
Note: The range of commercial mortgage rates should be considered typical. However, there are outliers on the high and low end of the range. Thus, these figures do not guarantee actual rates on a specific commercial mortgage deal. To see which options you qualify for & get the best deal you can we recommend contacting a commercial mortgage broker who can help you see what you qualify for.
You Can Justify The High Interest Rate
Interest rates for a hard money loan are higher than if you go with a traditional lender. Youll be paying interest every month, so dont take out a higher loan amount or higher rate than youre able to afford. Take into account the expected post-rehab resale value of the home you may be able to offset the high interest rate with the expected profit.
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Additional Fees To Interest Rates
Hard money lenders charge points in addition to more interest. The points are considered a loan origination fee. Depending on the terms and type of loan, points can range from 2 to 5. For example, 2 points on a $200,000 hard money loan would have an origination fee of $4,000. Other fees that may be added to the loan include underwriting fees, processing fees, documentation fees or administration fees. Extra junk fees can definitely increase the total cost of the hard money loan. Plus, there are third party fees, including the closing fees for escrow, notary, title insurance and recording.
Hard Money Closing Costs
Other than the monthly interest rates, additional hard money costs include:
- The Origination Fee/Points: Points cover the costs of borrowing the money and processing the loan. Points for a hard money loan are usually higher than those of a conventional one. Based on the specifics of the loan and the lender, the origination may be anywhere between 1% and 5% of the total loan. But why are they higher? Well, hard money lenders are in the business of creating and giving loans quickly and with a higher advance rate. Just as with any other business, their business also comes with operational costs and risks. For instance, to successfully run a hard money lending facility, the lender must pay for technology, office space, and a hard working staff. Plus they need to align with strategic partners like title companies, appraisers, insurance agents, etc that can help in facilitating the loans to close quickly and efficiently. Since their loans require repayment within a shorter time frame, they usually do not have the luxury of economies of scale, hence the higher origination fee.
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The Benefit Of Hard Money Interest Only Loans
Keeping in mind the saying a dollar today is more than a dollar tomorrow, here are some facts about interest only mortgage loans that are interesting to consider.
Interest on virtually all mortgages is paid in arrears. This means that the payment you make each month pays the interest due for the previous month. The benefit is that you use the funds for a month before you have a payment due.
Most lenders will prorate interest at closing, so the payment is due on the first of the month, the following month. If you close on January 30th, the lender will prorate two days of interest, and your first interest payment will not be until March 1st. Rent is paid in advance, and interest is paid in arrears. So, with interest, you hold onto your money longer, giving you more time to invest it elsewhere and earn off it.
What Hard Money Interest Rates Can Be Expectedon A Hard Money Loan
Almost all of the commercial hard money lenders charge an extraordinary interest rate of 12-18% for this private money. This is double the amount of any bank interest rate on a traditional loan that you will find even if you are approved.
These are rates that no one wants to see associated with their hard money loans!
If you are dealing with a private hard money lender you may find that they are charging an even higher interest rate.
The downfall of a hard money loan is that the person applying has no other options and the lender knows this. They can set their hard money loan rates accordingly.
Therefore, they may decide to be greedy and charge an even higher interest rate than the commercial hard money lenders and the borrower cannot turn it down, as they have no other options left.
Paying Back Hard Money Loans Can Be Problematic
What is unfortunate about hard money loans is that over half of the customers are unable to pay their loans back. No matter how hard they try because of the extremely high-interest rates & hard money loan terms.
The other half get lucky and make ends meet or they are already wealthy and using these bank-free loans to increase their growing income.
It is the unbelievable interest rates that take down these customers.
The real estate lenders take advantage of their desperateness and charge extreme amounts to increase their gross profit on this short term loan.
What Are The Downfalls Of A Real Estate Hard Money Loan?
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Discover Hard Money Loans Today
Remember, the hard money loan realm is saturated with the full gamut of lenders. These lenders all have slightly different requirements, terms and products. Its important to find one that will help you to be successful and work with you during the life of a deal. Only take the leap if you are confident you are working with a well-established and reputable lender who will walk with you every step of the way.
If you are confident a property has the potential to generate a healthy property margin, but you are short on funds, do not let the opportunity pass you. Apply for a hard money loan today and get started right away.
Hard Money Vs Soft Money
Hard money loans and soft money loans both offer ways to borrow, but the loans they secure are backed by different things. Hard money is usually secured by physical assets like property and its assessed value in the form of equity. Soft money is backed by the borrowers credit.
Hard money loans are generally solely secured by the underlying asset as opposed to the borrowers repayment ability, explains Mills Menser, CEO and founder of Diamond Banc, headquartered in Columbia, Missouri. Hard money loans are generally non-recourse. That means if the borrower doesnt repay the loan, the outcome is simply forfeiting the pledged asset.
Soft money loans, on the other hand, obligate the borrower to repay the total sum of the amount borrowed, and considerations such as creditworthiness and repayment ability are generally heavily weighted, adds Menser. Also, with soft money loans, the borrower is responsible for the debt in the event of default, until the debt is satisfied.
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Do Hard Money Lenders Check Your Credit
If credit is a concern, most hard money lenders will approve loans for borrowers with bad credit if they have a cosigner, can put up a larger down payment, or additional collateral for the loan.
Who Should Use A Hard Money Loan
Real estate investors choose to use hard money for many different reasons. The main reason is the ability of the hard money lender to fund the loan quickly. In most situations, hard money loans can be funded within a week. Compare that to the 30 45 days it takes to get a bank loan funded. The application process for a hard money loan generally takes a day or two and in some cases, a loan can be approved the same day. Good luck hearing back about a loan approval from your bank within the same week!
The ability to obtain funding at a much faster rate than a bank loan is a significant advantage for a real estate investor. Especially when the real estate investor is trying to acquire a property with many competing bids, a quick close with a hard money loan will get a sellers attention and set their offer apart from the rest of the buyers offering slow conventional financing.
Another reason a borrower may choose to use a hard money loan is that they have been rejected by the banks for a conventional loan. Life doesnt always go as planned. Short sales, foreclosures, credit issues they happen. Another important thing banks need to see is income history. If a potential borrower recently started a new job, the bank may deny the loan request due to insufficient income history, even if the borrower makes a healthy income. Hard money lenders are able to look past these issues as long the loan be repaid and the borrower has enough equity invested in the property.
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