Hard money lending is a sometimes ignored sector. When it comes to borrowing money, most people think of banks and traditional mortgage lenders. On the other hand, hard money loans lenders provide an alternative method of obtaining the funds you need.
The number of property flips in the United States is significant. There were approximately 300,000 fix-and-flips in 2016, representing a $56 billion market.
Homeownership rates are high, at around 65 percent, whether a buyer wants to acquire a fixer-upper or a recently remodeled home.
Many people have no understanding of how the process of a hard money loan works because it isn't their first thought. Let's look more closely at what a hard money loan is and how to secure one.
What is a hard money loan?
A hard money loan is used by real estate for a brief period of time. In contrast to traditional lenders such as banks or credit unions, they are supported by private investors (or a fund of investors).
The loan terms are typically approximately 12 months; however, they can be extended to longer terms. The loan calls for monthly payments of only interest or interest plus some principal, with a balloon payment in the final term.
The amount of money that hard money lenders can lend to a borrower is mostly determined by the value of the subject property. The property could be one that the borrower currently owns and wants to use as collateral, or it could be one that the borrower is acquiring.
Hard money lenders are more concerned with the value of the property than with the borrower's credit. Borrowers who cannot receive standard financing owing to a recent foreclosure can obtain a hard money loan if they have adequate equity in the property used as collateral. When banks say, “No, hard money lenders are a terrific choice.”
Who Should Use a Hard Money Loan?
A hard money loan can be obtained on practically any sort of property, including single-family residential, multi-family residential, commercial, land, and industrial. When banks are unavailable, or the loan is required in a short period of time, hard money is a viable option. Hard money loans are secured for a variety of situations, including:
- Land Loans
- Fix and Flips
- When the Buyer has credit issues
- Construction Loans
- When a real estate investor wants to make a quick decision
When traditional banks are not an option, and a borrower requires cash quickly, hard loans are ideal.
How long does it take to get a hard money loan?
Hard money loans are frequently accepted and funded within a few days.
The majority of hard money loans have periods ranging from one to three years. Hard money loan rates are often higher, which is why it makes sense to get one if you intend to pay it off promptly.
“Many property flippers use hard money loans because they want to repair and sell the home within a year, and they use the property as collateral for the loan,” says Joshua Blackburn of Evolving Home.
In this situation, the high cost is compensated by the borrower's intention to repay the loan fast.
Guidelines for Hard Money Loan Approval
Hard money lenders do not go through a similar underwriting process as banks. The creditor is focused on the transaction and will make a judgment based on your responses to the following questions:
- Are the financial charges reasonable?
- Is there a buy-one-get-one-free offer?
- Are the renovations adequately budgeted?
- Is it true that the after-repair value (ARV) is correct?
- Is it possible to sell the house for a profit?
- Is the borrower capable of repaying the loan on time?
A hard money loan can be accepted and financed in as little as 7 to 14 days.
A hard money lender will almost certainly run a credit check on you. They require a credit score of 600 to 620. The key problem is determining whether a borrower has a large number of debts or loan defaults.
The worth of the property is taken into account throughout the underwriting procedure. Lenders take a greater risk with hard money loans. The property will be evaluated to determine its genuine value and the best time to resell it. Hard money lenders favor homes that sell quickly.
The lender must take into account the borrower's exit strategy. Is it possible for the borrower to pay off a lump sum payment at the end of the final term? They may also ask for a larger down payment to mitigate their risk. Certain hard money lenders provide long-term loans for investment real estate property with 5 or 10 years' duration.
Hard money lenders prefer the type of borrowers, with at least some real estate experience.
Some hard money lenders prefer to work in their home areas.
Timeline for loan funding
The underwriting procedure is centered on the property's worth. In many circumstances, hard money loans are authorized within 48 hours. Once the process is completed, the underwriter will need to obtain permission from the hard money investors.
Hard money lenders are only able to borrow money from private investors. The lender orders an appraisal after the loan is approved.
The loan can be closed in a matter of days after the appraisal is finished. Depending on the assessment time, a hard money loan can be financed in 7 to 10 days.
How Are Hard Money Loan Rates Determined?
The loan approval process is as follows: the lender evaluates all background information to see if you can realistically commit to making the required payments. Because the lender does not investigate your financial history when making a hard money loan, they automatically assume a higher chance that you would default on the loan.
Hard loan lenders take this risk since the home is designated as collateral, which means they can resell the property if the borrower defaults on their loan repayment.
The fundamental reason for higher interest rates on hard money loans is the increased risk. Interest rates are typically 2 - 10 percent points higher than on standard mortgages. The average interest rate for hard money loans is 11.25 percent as of 2020.
How to Apply for a Hard Money Loan
Lenders' requirements for hard money loans differ. Because hard money loans are frequently made by private individuals or businesses, there is greater room for negotiation.
In general, there are three primary prerequisites for hard money loans.
The primary condition for obtaining a hard money loan is to have the required down payment or equity in a particular property to use as collateral for the loan.
The minimal quantity for residential properties is typically 25 percent to 30 percent and 30 percent to 40 percent for commercial properties.
Occasionally, a lender allows a borrower to use multiple properties to finance a single loan. This is referred to as "cross-collateralizing."
Borrowers with more equity or a larger down payment have a better chance of getting approved—the more the borrower's investment in the property, the lesser the lender's risk.
Overall Financial Stability
Another frequent criterion for hard money loans is that the borrower has sufficient cash reserves to cover any holding expenses and monthly loan installments. HOA payments, taxes, and insurance are examples of holding costs.
The greater a borrower's cash reserves, the more likely they are to be authorized for a hard money loan.
A loan will normally be difficult to secure for an applicant who does not have any cash reserves. However, in some situations, a lender is willing to increase the loan amount and withhold some of the borrower's funds to cover loan payments, insurance, taxes, and other holding charges.
In such a circumstance, the borrower retains their loan, but the lender assures that monthly payments are not skipped.
Real Estate Experience
Most hard money lenders are interested in learning about the borrower's real estate experience.
A first-time fixer-upper borrower may have a more difficult time obtaining a hard money loan than a seasoned real estate investor.
If the borrower has minimal expertise, the lender will request project information, including an exit strategy for the property in question. They'll want to know how the borrower intends to repay the loan.
The requirements for a hard money loan are not set in stone. Although there are broad conditions for hard money loans, they are not as rigid as typical bank loans.
Several hard money lenders, which vary from individual to individual or the organization, are willing to engage with potential borrowers in ways that standard banks are not.
If you need a short-term loan and have a good exit strategy, a hard money loan could be the ideal solution to your borrowing needs.
Provided by Grant McDonald a VP of Corporate Development at 14th Street Capital