Hard Money Loans
WHAT IS A HARD MONEY LOANS (Private Money Loans for Home Purchases)?
Hard money loans are asset-based loans secured by real estate and issued by private investors and companies.
They are also known as short-term loans and have higher interest rates than traditional residential or commercial property loans. Hard money loans are used by borrowers who have been denied a mortgage or loan application and are typically used for 1-3 years.
They are faster than traditional mortgages and can be used to purchase a property quickly or finance projects that last from a few months to several years. The loan amount and property’s value determine the amount of money a hard money lender can lend.
With a loan-to-value ratio of 65-75%. Hard money loans are most commonly used in the United States and Canada and are unregulated by federal or state laws but subject to state’s interest rate restrictions.
Since the mortgage crisis of 2009, hard money mortgage market has seen an expansion due to the strict regulations placed on banks and lenders.
HARD MONEY LOANS VS. OTHER CONVENTIONAL LOANS
Hard money lending is different from other types of loans in that it does not consider your income or credit history as collateral. Instead, lenders will consider the property’s worth as the deciding factor and emphasize its after-repair value. After renovations have been completed, ARV is the property’s value.
The differences are:
Hard money lenders will not invest in primary residences. Lenders are more likely to be concerned about owner-occupied residential properties because they are subjected to many regulations and rules.
Hard money lenders do not sell Fannie Mae and Freddie Mac loans. Lenders often borrow money from their funds or pool of investors. The loan amount is determined by their property specialty (if any) and the risk they are willing to take.
Hard money loans are not available for the long term. The loans require to be repaid within a short time. Hard money loans typically require repayment in 6–18 months.
Hard money lenders are subject to their lending criteria. Private lenders, for instance, could be your family member, friend, or business associate. Private lenders may not require you to meet specific criteria before lending you money, giving you greater flexibility when negotiating terms. On the other hand, hard money lenders have a set of upfront points, interest rates, and a defined period.
LENDERS DEALING WITH HARD MONEY:
Private investors and companies specialize in hard money loans and are the ones who can lend these type of loans. There are no hard money loans available at your bank. Hard money lenders do not generally have to adhere to the same regulations as traditional conforming loan lenders, allowing them to set their standards for credit scores and debt-to-income ratios that their borrowers should have.
You can find a hard money lender that will approve you for a loan, even if traditional lenders have rejected your application. Hard money lenders consider the property’s value more critical than creditworthiness.
SPECIAL CONSIDERATIONS FOR HARD MONEY LENDING:
Hard money loans are generally more expensive than loans through banks and government lending programs due to the lender’s greater risk by providing the financing. An increased cost is an option for quick access to capital, less stringent approval processes, and repayment flexibility.
Borrowers with bad credit and substantial equity in their properties may be eligible for hard money loans in times of crisis or short-term financing. A hard money loan is a speedy way to avoid foreclosure.
ADVANTAGES AND DISADVANTAGES OF HARD MONEY LOANS:
Benefits of Hard Money Loans:
A hard money loan has one advantage: the approval process is much faster than applying for a traditional mortgage or any other loan through a bank.
Private investors backing the hard money loan can make quicker decisions because they are more focused on the collateral than the applicant’s financial situation.
Lenders are less likely to spend time reviewing documents and verifying income on loan applications. The process will go much more smoothly if the borrower already has a relationship with the lender.
Hard loan investors do not care as much about receiving repayment. They may have a more incredible opportunity and value to resell the property if the borrower defaults.
- Speed: The Dodd-Frank Act, a financial reform law, enacted over the past decade, is speedy. The new regulations regarding mortgage lending mean that investors can take a long time to close a loan. Hard money lending, on the other hand, is quick. You can get a loan in days to weeks, depending on how you negotiate. Hard money lending can speed up the process, which is crucial for large-scale development projects.
- Flexibility: Hard money lending loans can have flexible terms because you deal directly with individual investors. Banks are less flexible than hard money lenders.
- Collateral: When you borrow hard money, your collateral is the property. As collateral for a loan, some lenders will even consider other assets such as your retirement account or residential property that you own.
- There is no red tape: It is challenging to get a loan for an investment property without a traditional mortgage. Traditional borrowers must be careful about their credit score, LTV ratios, and debt-to-income. Hard money lenders are asset-based lenders, which tend to be more concerned about the property than the borrower’s credit score.
- Convenience: It is a plus to be able to close with cash. It can be overwhelming to have to provide a lender with bank statements and income documentation. Hard money, however, eliminates the middleman and reduces the headaches.
- Volume: Investors can borrow money from hard money lenders to increase their capital. Investors could fund multiple deals at once, which is not possible with traditional loans. A hard money loan is the best option if you need to finance numerous deals at once.
- Competitive edge: Investors can beat the competition with hard money or traditional loans. Sellers prefer cash and fast transactions to any other form of money.
- Accelerated approval
- Approval is based on property and no credit history
Cons of Hard Money Loans:
Hard money loans have lower LTV ratios than regular mortgages, with a property being the only protection against default, which is around 50% to 70% compared to traditional mortgages, which are approximately 80%. However, it can go higher if the borrower has a history of flipping.
High interest rates are also a standard feature. Hard money loans can have rates that are higher than subprime loans. The average interest rate on a hard money loan in 2020 was 11.25%. Rates ranged from 7.5% to 15.5% for the United States in 2020.
Another problem is that lenders of hard loans might not be able to finance an owner-occupied home because of compliance rules and regulatory oversight.
- Cost: While the convenience of hard money lending is its most significant benefit, it can also be its biggest drawback. Many hard money lenders may charge up to 10 percent more than traditional loans because they are riskier than borrowers. The interest rates can range between 10 and 15%. Other fees are usually charged at a higher rate, such as origination fees or closing costs.
- Short Repayment Plan: A shorter repayment term is required for property listings on the market quickly, which could be between 6 and 18 You should ensure that the property is sold and that you make a profit as soon as possible.
- High-interest rates
- Sometimes, large down payments are required
- You have less time to repay if you sign shorter terms
- Traditional financing is more risky than conventional.
- You may need to have a track record of success in house flipping.
These are the most common reasons people seek hard money loans.
- Flipping a House: Hard money loans are available for real estate investors who purchase low-cost properties that need to be fixed up and renovated. Then they can reverse the homes for profit. Professional flippers prefer to get financing faster because these projects are often completed quickly. Because house-flippers can often sell a home in a concise time frame – usually less than one year – they don’t require an extended loan term like traditional mortgages.
- Buying Investment Property: Individuals looking to invest in rental properties but aren’t eligible for traditional financing may be able to get a hard money loan to help pay for the purchase, which can be a valuable option for people who cannot get approved for traditional loans due to credit history or who require more money than what a conventional lender will allow them to borrow.
- Commercial Property Purchase: A business owner may also use a hard-money loan to finance retail actual property purchases if traditional financing is not available. Entrepreneurs who cannot secure conventional financing for a property they want or feel that conventional commercial loan limits are too restrictive can use hard money loans.
PROCESS AND RISKS OF HARD MONEY LOANS:
You will need to reach out to institutions that specialize in hard money loans. A quick internet search for hard money lenders will usually reveal multiple lenders in your local area. You can find the names of local real estate agents and investors groups. Talk to numerous lenders to discuss your needs and build a relationship that will allow you to fund projects quickly and efficiently when you need them.
Because hard money loans are less well-regulated, it is a good idea to shop around. It is possible to work out lower rates with different lenders.
For this reason, hard money loans are often considered loans’ last resort. These loans have many benefits, including faster approvals and funding that is quicker. However, borrowers need to be aware of the risks before deciding which loan is best for them.
Hard money loans have more upfront costs and higher interest rates. They also tend to require a higher down payment, usually 30% or more.
If your credit history and financial standing are good enough to get financing for other purposes, you may find a better option that will be cheaper in the end.
For those who are unable to finance through traditional channels, hard money loans may be an option. They come with higher risk and interest rates and carry much risk if the investment does not go as well as you expected. These types of loans should be left to professionals.
You could look for alternative financing if your mortgage application were denied. It’s safer to work on your credit and apply for a mortgage program that allows those with less than stellar credit histories, such as the FHA loan program.
Hard money might be an option if you cannot get traditional financing for your actual property purchase. Hard money is more likely to close than conventional loans because it is based on your collateral.
Hard money lenders are less likely to spend as long as traditional lenders reviewing your application. However, they will still want to ensure that you repay them. They may not spend as long reviewing your bank statements or verifying your income sources.
Once you have established a relationship, you can quickly move forward with additional funding, allowing you to close deals that other lenders cannot. It can be especially useful in hot markets where multiple offers are made.
Traditional loans might be more affordable if you can qualify for other financing options. FHA loans, for example, allow you to borrow even with poor credit. They also have low down payments and can have lower interest rates than hard money loans.
Hard money agreements may be more flexible than traditional loans. Depending on your circumstances, you might be able to modify the repayment schedule or other strict features that a conventional lender won’t negotiate.
Hard money lenders consider collateral as an essential element. It is easier to get approval for an investment property because the property acts as a guarantee.
Also, you might be borrowing money directly from someone willing to work with your needs which is not a global institution with strict policies.
The hard money loan is not perfect. Although it may seem simple, as an asset secures the loan, all parties are protected. However, hard money also has its flaws.
The additional costs that hard money can cause may be its biggest drawback which is a costly way to borrow money. You will be required to pay closing costs and other fees to obtain funding. The interest rates are high. Hard money loans approval is less critical if you have a foreclosure or other adverse credit reports.
Risky projects that are completed in a short time can be dangerous. If things do not go according to how you planned, like a material delay, structural surprises, or a problem during renovations, you could face a cash flow squeeze or even more interest.
The way lenders value your property can drain your resources faster than you think. If your lender required a 30% down payment when you expected one for 20%, it could signify that you are short of capital for labor or materials.
A hard money loan could be the right solution to help you pay for your dream home. Todd Uzzell, our chief financial advisor, can help you know about all your options better. To discuss your options, fill the form provided on our website and book a virtual appointment!