What is hard money?
Hard money loans are given to you when you have nowhere left to go. Your credit scores are abysmally low: below 620; consider the range 300-400. He has a history of default, late prepayments, missed payments, bankruptcy (among his multitude of misdemeanors). No lender would accept it. Those are the worst scenarios. But you want that house.
Hard money lenders may consider it.
Because what they are looking for is the value of your property rather than your credit score or history. Certainly some may count some of that, but at the end of the day the calculation is based on the value of your collateral: how promising it is and whether it will repay the lender’s funds.
Hard money loans range from $20,000 to $150,000, or more, depending on the lender’s funds. Most loans also have a 3-5 year limit, although you may find some that offer options for longer terms or later payments. Loans also differ. You will find a variety, from commercial to rehabilitation, to so-called social loans and personal businesses. These are the most common.
Hard money loans are also called ‘bridge’, ‘direct rehab loans’ or ‘personal’ as the hard money lender provides you with money that covers your need, whether it is to repair or buy a home (or related emergencies) and he or she loans out of his or her own pocket. The advantages of the hard money scenario are that the process is flexible, fluid and fast. Lenders set their own terms and hours that generally fit your needs. Little paperwork is completed and it all happens in as little as 7-10 days. The downsides consist largely of the high interest rate and low loan-to-value ratio. Hard money lenders must be certified by organizations such as the American Association of Private Lenders (AAPL), through your state regulatory agency, and through the National Mortgage Licensing System (NMLS).
Definitions you may need to know
Bridge Loan: This is a short-term loan to “bridge” the gap between the purchase of one property and the sale of another. A typical bridge loan is for a short-term loan of 6 months or less, although terms vary.
Rehabilitation Loan – This is a short-term loan made to improve a property for refinancing or sale. The borrower shows the lender the construction milestones and results as construction progresses; the funds (which are held on deposit) are released accordingly.
Residential Loan – This type of loan is for buying a private property, usually one you want to live in. Consumer protection agencies and federal governments have issued a series of regulations that protect you. More are coming out as I write this.
Commercial loan: to buy a property that you want to repair and change for commercial purposes. These generally carry a higher risk as they are more expensive to purchase and involve years of costly and lengthy labor. Banks are more reluctant to support them; hard money lenders are generally nicer as they tend to promise more profit.
How Hard Money Offers Work
You’ll want to put together a business plan that spells out your experience, the promise of the property, and why you think it’s a promising investment. The lender will review the deal, analyze the properties and qualify you. If approved, you will be charged fees plus interest. You’ll be put on a balloon payment schedule, which means you’ll pay slightly larger repayment amounts with a significantly larger payment once your loan reaches maturity. Failure to make this payment means that the lender pockets collateral from him. You can also choose whether to pay back regular monthly payments or pay a lump sum of interest at the end.
The pros and cons of investing in hard money
- Your rate of return is invincible to stock market fluctuations, world politics, or even long-term real estate trends.
- There is no need to purchase or manage the real estate in which you have invested your funds.
- You can get proven, predictable rates without tying up your money for years. (Private investors are generally offered a fixed rate between 6% and 14% annualized at no charge, though terms vary by lender and individual transactions.)
- You have absolute control over your loans. You choose your borrower and investor. You decide whether or not you want to lend to certain customers. You also select your funding partners.
There are also downsides to becoming a bridging loan or hard money investor:
- Research required: You will need to have an excellent understanding of real estate law and property values to be successful in this hugely risky field. It will be much more worthwhile to obtain the services of a proven and reputable company that finds, analyzes and organizes the deals.
- time frame: You will have to reapply for one bridge loan after another (since each has short-term applicability). Ideally, you’ll work with a company that you can do a lot of business with over time.
- Risk: All investments carry risk, but this one is particularly risky, especially if “Murphy” shows up: your income plummets, the market changes, your partner divorces, your child dies, who knows what fate he has in mind for you. Result: You lose funds and property.
The conclusion is the following:
Every effort is made to protect the investor’s original investment and, if possible, the interest due as well. However, it may take longer than anticipated and the only real guarantee you have is the value of the house. While that may sound unsafe, consider these facts to put the risk in perspective.
Bridge loans and other hard money loans can be safe and reliable investments when properly examined and executed. Banks have been running these types of loans for years until they become less safe for them. Then individuals took over. If you want to become a hard-earned investor, you may want to consider hiring a private lender who will carefully assess your ability to pay and the value of your property. The key is also that you find a trustworthy and transparent lender that is open to you about terms and sets compelling rates. Also make sure you can pay.