Getting a home loan is relatively easy these days. A hard money loan is from a non-traditional or private lender backed by a tangible asset. These loans have higher rates and shorter terms than traditional mortgages in most cases. You can use them to make quick turnarounds between purchasing and selling a property. Also, until a buyer secures a conventional loan, they can be helpful in fast home financing. They are common in the real estate sector, where investors purchase homes, renovate them, and eventually sell them again. This process, known as flipping, can be challenging to fund. Additionally, some investors may use hard money loans for rental or commercial properties if they can’t get conventional financing.
How do hard money loans work?
Hard money loans enable you to borrow money while avoiding traditional mortgage lenders. Individuals or investors lend you money based mainly on the asset you use as collateral. To evaluate your creditworthiness, traditional lenders review your credit scores and income. However, hard money lenders are less concerned about your credit ratings. Their main concern is the value of the collateral securing the loan. They expect to recover their money by taking the collateral and selling it if they cannot pay the borrowed money back. Generally, they are short-term loans lasting between 1 and 3 years. They also come attached with relatively higher interest rates.
Loan Term and Payment Structure
The main difference between conventional commercial and hard loans is that the latter usually have a shorter loan term of between twelve and thirty-six months. The repayment is somewhat similar in both types of loans. Once you take up a hard loan, you are expected to make interest-only payments throughout the entire loan term, a balloon payment to clear off the balance once the repayment period elapses. Nonetheless, some lenders will ask for a down payment, which may range between 10 per cent and 20 per cent of the entire loan amount depending on the borrower’s experience in the real estate or flipping business.
Do you need a hard money loan?
Hard money loans are convenient, especially when you have challenges securing traditional funding for your project. Hard money agreements may be more flexible than conventional options depending on the circumstances. You might be able to adjust some terms, such as the repayment schedule to fit your ability. Also, since hard money lenders are not a global organization with strict rules, you get a loan from someone willing to partner with you directly.
How to get a hard money loan
The best way is to contact individuals or organizations specializing in this transaction. You can discover several lenders in your location through a quick internet search for hard money lenders. Also, local real estate investor groups and real estate agents are excellent sources for referrals. Contact several lenders and develop working relationships if you need to fund your projects quickly. Since hard money loans are not strictly regulated, it is always best to shop around for lower rates and better terms.
Pros and cons of Hard Money Loans
Hard money loans come with several perks and drawbacks. Understanding them can help you make an informed decision as to whether it suits you or not. In a nutshell, here are some pros and cons you should know about hard money loans.
- Because there is collateral, they can be closed faster than typical loans
- They are pretty flexible and do not require an underwriting process.
- Your financial situation is mostly less of a concern.
- Since the borrower offers collateral, payment isn’t emphasized.
- High-interest rates
- Due to real property protection, they have a lower loan-to-value ratio and demand higher interest rates.
- Lenders face considerable risk.
- Due to property rules and regulations, the lender may not provide financing for an owner-occupied dwelling.
Is the loan worth it?
Although it may seem simple, hard money loans are far from perfect. Their major drawback might be extra costs incurred. Apart from the high-interest rates, you may also be obliged to clear closing costs and other charges before receiving funding.
The short time frame poses some risks. For instance, you may pay more interest than projected or grapple with a cash flow crisis if your plans get messy. Moreover, your resources might be drained by the lender’s valuation process.
What it means to investors
Although you need assets to qualify for a loan, most lenders maintain relatively low loan-to-value (LTV) ratios. Lenders believe that they can quickly sell your asset and have a better chance of recovering their money with conservative ratios. For short-term loans, hard money loans are most sensible. This is because most fix-flip investors own a property for a short while and sell it as soon as they increase its value. Hard money loans play a vital role in filling financing and investment purchase space. They can be helpful if you require funding but not from traditional lenders. Before settling on a particular lender, you need to research and determine whether they are reliable and trustworthy.