When real estate investors need money to finance their projects, they often turn to hard money funding. And while a few predatory lenders once ruined the industry’s reputation, those elements have no place in the modern lending marketplace. The stigma remains in people who are oblivious of the current state of affairs in the hard money lending landscape.
If you want to venture into this form of lending, the future looks bright due to the popularity of the real estate industry. However, you need to understand how to navigate the lending industry to ensure sustainable profits.
What is a Hard Money Loan?
Hard money loans are essentially real estate-secured short-term loans issued by private money lenders in Miami rather than traditional banks. Typically, the term is 12 months but can be extended to 2-5 years. Borrowers often make monthly payments and balloon payments when clearing the loan.
Hard money lenders approve loan amounts depending on the property’s value. The collateral can be the borrower’s current property or one they intend to acquire. Primarily, borrowers are interested in the property’s value rather than credit scores. The collateral is a vital risk-mitigating component for lenders and borrowers. People with limited access to traditional credit can still get hard money as long as they have sufficient equity in the property.
Hard Money Loan Rates
The rates and points for bridge loans often vary from one lender to another, but the geographic region also affects the rates. For instance, hard money funds in California have lower rates due to the presence of more lenders compared to other states.
These cash loans pose higher risks to lenders than traditional loans from banks. Therefore, the higher risks of hard money lending mean higher average interest rates. Typically, the average interest rate for a regular mortgage is 3.1%; on the other hand, interest rates for hard money financing can be between 10% and 15% depending on the perceived risk of lending.
Additionally, the amount you can lend to property investors depends on the Loan to Value Ratio (LTV) –loan amount ratio divided by property value. Most lenders fund up to 65%-75% of the property value, but some lenders base the amount on After Repairs Value (ARV). However, using ARV to calculate the loan amount introduces more risk since you’ll be issuing more money while the borrower’s investment capital decreases. To ensure a proper risk cushion, lenders often charge higher rates and fees for high-risk loans.
The Legality of Hard Money Financing
Regardless of backlash from the media and other stakeholders, hard money financing options are legal. Typically, if you look at different lenders, you’ll notice they have mixed reviews. This is because this industry seems tarnished by unscrupulous lenders who exploit novice investors.
Nevertheless, the best hard money lenders are legitimate investors with businesses seeking real estate projects to finance and profit from the investment. Like most lending institutions, there are strict restrictions on the types of projects a bridge loan lender should focus on and what they should avoid.
Approval and Borrower Requirements
Since lenders are issuing non-conventional loans, the main concern is the borrower’s equity in the property in question. Records like credit ratings, short sales, and foreclosure may be irrelevant if the borrower can afford to make regular hard money loan monthly payments and the principal amount.
However, it’s essential to evaluate the borrower’s intentions with the property. Ideally, it’s best to ask borrowers to provide a clear plan about the property and how they intend to repay the loan. Mostly, the plan includes property improvements, flipping, or getting long-term financing using the property.
Who Uses Hard Money Loans?
Due to the quick turnaround time and lenient requirements, property investors turn to hard money funding. Unlike traditional mortgages that take 30-45 days, bridge loans funding takes as little as ten days. Most importantly, the application and approval process is swift.
Investors who specialize in purchasing low-cost houses that need value-boosting renovations before selling often use hard money financing. And since these deals happen quickly, flippers are looking for quick funding. Also, flippers sell the property within a few months; hence they don’t need a longer repayment term.
People seeking to purchase rental property but can’t qualify for traditional financing prefer alternative funding to pay for the property. Ideally, these individuals may face financing limitations due to poor credit history, but others require more money than what’s available from conventional sources.
Additionally, business investors seeking to acquire commercial real estate may use hard money when their funding options are insufficient. In most cases, the investor wants to buy a unique or strategic business premise that doesn’t qualify for bank funding.
Due to immediate closure and quick maturity, hard money funds have become popular among most private lenders. The higher interest rates often mean higher risks for your customers, but diligent and honest lenders can make decent profits and protect the investment since the loans involve real estate collateral.