When you read the term ‘Hard Money Loan’, what is the first thing that you think? Some shady money sharks, dressed in blacks conducting their business in a gloomy ally? No, it is not exactly that.
Hard money loans are a method of borrowing money without having to use traditional methods aka mortgage lenders. The loan will be given to you by private investors or individuals, depending on the collateral property in discussion.
The money lenders usually aren’t interested in the credit score of the borrower. Borrowers’ will largely depend on private investors when the bank or financing institutes deny them funding due to weak credit score, disputable property, uncleared dues, and many more. The moment the legal financing options shut the door; private investors stand out with ‘welcome’ placards.
The hard money lenders come with their own approach. Given that they lend you the money basis on the collateral property, they are rarely concerned about the repayment.
If things don’t work out, they conveniently get their money back by acquiring the collateral property and selling it. They value the pricing of the collateral more than your financial worth.
Usually, the hard money loans are short-term, lasting for a maximum of five years. The shorter the better, because longer than that you will end up spending more than you bargained for.
Hard Money: Why Use?
This is one of the most common questions concerning hard money, why use it? As mentioned above, all the borrowers who are denied money by banks, only have hard money to depend on. But here are some factors reasoning its usage.
Flexible. As compared to the traditional loan agreements, hard money is more flexible. The lenders for this money will not depend on the standard borrowing process. They will make their own rules based on every case. Depending upon your requirements and situation, you will discuss with the money lenders and tweak the rules for you. Whether it is borrowing money from one person or a corporation, you can discuss and set your own rules.
Speed. When it comes to hard money, the lender is always more focused on the collateral property. Also, acquiring this loan is a quicker process as compared to the traditional loan. Initially, lenders will never take possession of your property, neither will they set their loan rules in stone, or focus on your monthly income. Once you have established your own rules with the lender, the process will move swiftly ahead, giving you the edge that banks or credit institutes could not give.
Approval. The lender will give you money only equivalent to the worth of the collateral property. If you want to borrow money from some other property, the lender will only be concerned about the worth of that property. Even if you have a negative credit score or some unpaid claims with the bank, the lender will not peep into it. However, there are chances that sometimes that lender might ask you basic questions about your personal finances.
The LTV ratio (loan-to-value) is relatively low when it comes to hard money. The ratio ranges from 50 to 70 percent, which means that you will have to own assets that qualify for this ratio. The ratios are deliberately set this low because if you are unable to repay the lender, they can sell your property and get their invested money back.
Hard Money: What Projects Qualify?
Hard money lenders come with very few set rules. One of them primarily being that collateral property be non-owner occupied. To explain it simply, during the tenure of the sum borrowed, the borrower cannot live in the house assigned as collateral.
Also, before you borrow money, ensure that you check with your lender if they work in your city or state. Many lenders will not work nationwide, they will only work in one specific state.
Here are some projects that qualify for hard money lending:
- New construction
- Cash-out finance
- Fix and flip
New construction literally means the same, a property that is either under construction or a newly constructed property that has never housed any tenants. Cash-out finance means refinancing an ongoing property loan, where the new loan amount is higher than the ongoing amount.
In this scenario, either the lender or the borrower will get the difference between these amounts. Fix and flip, is the most popular projects, in terms of revenue generation. In this scenario, you either buy a property or land, renovate or develop the property, and sale it for a much higher price.
Each of these projects comes with their own set of pros and cons, so it crucial that you check with the hard money lender if the project that you are working on qualifies for a loan. However, before you contact the lender, ensure that you have all the facts in place for further discussion.
Hard Money: How soon will the money flow?
Is it possible to get immediate access to money? Yes, this is one of the benefits of this system. The first step will ideally have all the documentation and discussion pointers in place.
Within a few conversations with the lender, assuming that your plan has no loopholes, the lender will give you an answer on whether or not they will be helping you. After submitting the necessary documents, the initial review (all this depends on the kind of lender you are dealing with), a contract will be drawn.
This contract will highlight the scope of work, duration of the loan, loan amount, rate of interest, and will be agreed upon by both the parties. The lender will also involve a professional appraiser to provide an estimate of the collateral property, to avoid foul play.
Once all these things are done, the amount in the discussion will be provided to the borrower, by officially signing the proposal in the presence of an attorney. The entire process could take a couple of days or weeks depending upon the clarity of the project.
Hard Money: Documentation
Since this is not a traditional bank that you are functioning with, hefty documentation is often not needed. However, you will have to put together the following set of basic documentation to jump-start the process:
- Application: Highlighting the need, the collateral property along with its worth.
- Guarantee: Lenders usually don’t need this. But, it is a standard industry norm.
- Finances: Include all the necessary financial documents.
- Appraiser: Lenders will have their own appraiser, but you can give your suggestions as well.
- Inspection approval: Lenders will want to inspect the collateral property. Provide them with written permission for the same.
- Others: Lenders will need to look at pictures of the property, financial information, and other financing options (if any).
Hard Money: Finding lenders
Now, that you are sure that you will be opting for this method, it is important that you find the right lender for the same. Start with the basic research, find lenders in your area who loan money purely on collateral property. A good place to begin is by connecting the group of local real estate agents and real estate investor groups in your vicinity. Contact a few lenders, have the basic discussion with them, develop trust so that it becomes easier for you to get project funding.
When understanding, which one is the best lender for you, you should consider the following basic qualities:
- Market reputation
Word of mouth is the best way to get feedback about your lender. Even a simple online search will give you a brief insight. Before you finalize someone, check if they have licensing. Most hard money agents or companies will have licensing under their name. Moreover, you can connect with your local licensing board and check if the lender has any complaints registered under their name.
The biggest benefit of hard money is the ‘quick’ process. Borrowers’ do not have to pay heed to lengthy documentation. A quicker process is possible here because the only concern is collateral property. However, if your lender is giving you a tough time, then it is a sign that this is the right lender for you. Best lenders rarely overcomplicate the whole scenario.
As a real estate investor, there are costs that you must bear for your property. Often these costs are more than just buying a property, it also means investing some amount for renovation. Yes, increasing the loan amount means hefty interests, but sometimes it is necessary. To ensure that you are responsibly using the money given, hard money lenders will often dispatch the loan amount in installments. Therefore, check with your lender for this option.
Hard money loans have their own perks and some hidden drawbacks. Take all the time required to vet your lender and read the norms set by them carefully before you sign the contract. Though these loans are risky, they do offer a major upside to the borrower and the lender.