Hard money lenders play an important role in the real estate financing landscape. They offer multiple short-term loans that are primarily secured by real estate assets.
Unlike traditional bank loans, where the main focus is on the borrower’s creditworthiness, hard money loans are actually asset-based with these money lenders. This means that the property itself serves as the primary form of collateral. Additionally, these hard money loans are commonly used by real estate investors who are looking for quick financing. Also, working with these lenders helps especially when conventional lenders aren’t an option due to the borrower’s financial situation.
What is a Hard Money Loan?
A hard money loan is a type of real estate loan that is secured by a physical property rather than the borrower’s credit profile. These loans are usually provided by most private investors or companies rather than traditional financial institutions. Moreover, hard money loans are borrowed to solve short-term issues and are often used by real estate investors to purchase, renovate, and quickly resell a property.
Furthermore, hard money lenders focus more on the value of the property used as collateral. This is unlike most conventional loans that focus on the borrower’s credit score or income history. This makes qualifying for a hard money loan easier than a conventional mortgage. However, it also means that these loans come with higher interest rates and fees.
How Do Lenders Of Hard Money Loans Work?
Here is the process guide of how borrowing a hard money loan works:
Asset-Based Lending
Hard money loans are primarily based on the property’s value as collateral. The lenders will typically lend a percentage of the property’s value, known as the loan-to-value ratio (LTV). Also, the LTV ratios for hard money loans are generally lower than traditional loans, ranging from 60% to 75%. It means the borrower may need to make a larger down payment or bring additional capital to the transaction.
Higher Interest Rates
The lenders of hard money loans take on more risk by lending quickly and often giving to borrowers with less-than-perfect credit. Hence, they tend to charge higher interest rates than traditional lenders. Furthermore, the interest rates for hard money loans typically range from 8% to 15%. Although, it depends on the lender and the borrower’s experience in real estate investing.
Short-Term Repayment
Hard money loans are borrowed to be used for a short term, typically ranging from 6 months to 3 years. So, borrowers usually use these loans to acquire and renovate properties quickly. Moreover, they do this intending to sell or refinance the property before the loan term ends.
These are the steps of how a hard money loan works and what to expect when you take one out working with a reliable lender.
When Should You Use a Hard Money Loan?
Now, hard money loans are not for everyone as there are various options. However, there are several situations where they can be advantageous which include:
A Fix-and-Flip Project
Any real estate investor who wants to buy properties to renovate and resell (fix-and-flip) often turn to hard money loans due to the speed at which they can be approved and funded. Moreover, these investors need quick capital to purchase a property, make necessary repairs, and sell it for a profit before the loan is due.
Short-Term Investment Needs
Another main benefit of hard money loans is that it is ideal for short-term real estate investments where the borrower needs financing for a brief period. This could include where the borrower needs temporary funding to bridge the gap between buying a new property and selling an existing one.
Non-Traditional Borrowers
There are still borrowers who cannot qualify for a traditional mortgage due to issues like self-employment, poor credit, or a lack of documented income. However, with a hard money loan, they may still be able to secure a hard money loan, provided the property has a lot of equity to satisfy the lender’s requirements.
Speed of Funding
Taking out a traditional mortgage may have its approvals take weeks or even months. However, hard money loans can be approved and funded in a matter of days. This makes them useful for real estate investors who want to move quickly to secure a property, especially in foreclosure sales.
These are some of the best cases and times when you can conveniently work with a hard money loan.
Pros and Cons of Hard Money Loans
Here are some pros and cons of hard money loans that you can check out:
Pros
Some of the main benefits of working with hard money lenders include:
Quick Approval and Funding: Hard money lenders can approve and fund loans much faster than banks, sometimes within a few days.
Flexible Loan Terms: Unlike conventional lenders, hard money lenders are more flexible with their loan terms. Most of the time, they often tailor it to meet the specific needs of the borrower.
Less Focus on Credit:
Borrowers who have poor credit or inconsistent income histories can still qualify for a hard money loan if the property value is high enough.
Ideal for Real Estate Investors:
Additionally, hard money loans are tailored for investors who need quick cash for short-term projects like fix-and-flip or bridge loans.
Cons
Here are some of the drawbacks of hard money loans you might want to consider:
High Interest Rates:
Hard money loans come with significantly higher interest rates compared to traditional mortgages, typically ranging from 8% to 15%.
Short Loan Terms:
With these loan terms ranging from 6 months to 3 years, borrowers must repay or refinance the loan quickly. This can prove to be really challenging if the investment didn’t go as planned.
High Fees: In addition to higher interest rates, hard money loans often come with substantial fees, including origination fees, underwriting fees, and closing costs.
Risk of Foreclosure: Since these loans are asset-based, failure to repay the loan on time can result in the lender foreclosing on the property.
These are some of the pros and cons of these loans and working with hard money lenders.
How to Find Hard Money Lenders
Finding a reputable hard money lender is crucial for ensuring a smooth borrowing experience. Here are some tips on finding a trustworthy lender:
Research Online:
Many hard money lenders advertise their services online. Start by searching for lenders in your area and checking reviews and ratings on platforms like Google and Better Business Bureau.
Local Real Estate Investor Groups:
Real estate investors are known to have really strong networks. To start off, you can attend local real estate investor meetings or groups to get recommendations for reliable hard money lenders in your area.
Consult Real Estate Agents:
Furthermore, many experienced real estate agents work with hard money lenders and can provide referrals to reputable lenders.
Check Credentials: Also, you have to ensure that the lender is properly licensed and has a solid reputation within the industry. This also means that you should be cautious of lenders with hidden fees or unclear terms.
Additionally, you can also try asking for referrals from your friends and family who have worked with one previously.
Frequently Asked Questions
Here are some frequently asked questions you can check out:
What is the difference between a hard money loan and a traditional mortgage?
The main difference is that hard money loans are asset-based, relying on the value of the property as collateral. On the other hand, traditional mortgages will always consider the borrower’s creditworthiness and financial history.
Also, hard money loans are short-term with higher interest rates, while traditional mortgages are long-term and have lower rates.
Can I use a hard money loan to buy a primary residence?
Hard money loans are primarily used for investment properties, such as fix-and-flip projects or rental properties. While it’s possible to use a hard money loan to buy a primary residence, it is less common. Also, borrowers may face additional challenges due to higher interest rates and shorter repayment terms.
What happens if I can’t repay a hard money loan?
If you cannot repay a hard money loan, the lender has the right to foreclose on the property used as collateral. It’s essential to have an exit strategy in place, such as selling the property or refinancing before the term expires.