Hard money loans are an avenue for real estate investors to turn to when they want or need financing for a property deal but cannot connect with a bank or other traditional lender. This post compiled by real estate financing pros at RTI Bridge Loans – an established hard money lender in Southern California – sheds some light on how hard money loans for real estate investment work. Let us dive right in.
What is a Hard Money Loan?
Commonly referred to as an asset-based loan or short-term asset-backed bridge loan (STABBL), a hard money loan is a type of real estate financing secured with the property in question. It’s a short-term and often risky loan, so it is synonymous with private lenders.
Something unique about asset-based loans is that they are quicker and easier to secure than traditional bank loans. This makes them ideal for house flippers and other real estate investors who do not want to go through the prolonged and more rigorous application and approval process for conventional loans. That means you do not have to worry about your creditworthiness when considering hard money loans. The lender’s decision primarily lies in the value of the property you intend to buy.
When Should One Use Hard Money Loan in Real Estate Deals?
There are plenty of reasons why real estate investors may choose the private lending path over conventional loans for property rehabilitation, fix and flip projects and other real estate investments.
Hard money loans have an easy and faster application and approval process. That means you can access your funds within days. A hard money lender will likely not spend much time evaluating your application, creditworthiness, verifying your income, or reviewing your bank statements.
Once you build a good relationship with a hard money lender, it becomes quicker to access additional funding. You get an enviable opportunity to close deals faster than your competitors, particularly critical if you are dipping your toes in a hot market where property sellers receive multiple offers.
How Hard Money Loans Work for Real Estate Investments?
If you do not qualify for a traditional loan, asset-based loans might be the best option to fund your next real estate project.
For collateral-based lenders like ourselves, RTI Bridge Loan, their focus is your ability to pay and a strong exit strategy. As such, W2 income, debt to income ratio, and FICO score hardly determine your eligibility for a hard money loan for real estate investment.
Your private money lender will focus on the property’s after repair value (ARV), which is the property’s estimated value after rehabilitation. Hard money loans are particularly ideal for house flipping projects, where investors renovate a property and sell it for profit in the soonest time possible.
The main benefits of hard money loans include:
Mortgage loans are subject to rigid regulations which lengthen and harden the application process. In comparison, you can get a hard money loan within weeks, making it critical for time-sensitive, large-scale real estate projects.
The property being purchased serves as the collateral. Some lenders are flexible enough to allow you to secure the loan with personal assets such as residential property or retirement accounts.
» Flexible Terms
Dealing with a private lender rather than a mainstream financial institution means more room for negotiating hard money loan terms. You can have the origination fee reduced or removed or the repayment terms customized to your needs.
Whereas hard money loans for real estate investment are more convenient than typical bank loans, there are two drawbacks to consider:
» Higher Costs
Because bridge loans are short-term and riskier, they typically carry a higher interest rate. Additionally, you might pay more loan-servicing fees, origination fees, and closing costs.
» Shorter Repayment Terms
Because a hard money loan is designed to help you quickly prime a property for the market, it has a much shorter repayment period than conventional mortgage loans. Be sure the property you want to buy will be profitable enough to pay off your hard money loan in the stipulated term.
Borrower Requirements for Hard Money Loans
Hard money loan requirements vary from one private lender to another, but the good thing is that you can negotiate the terms. Typically, the lender will review your investment history, verify the collateral’s value, and require you to pay between 30% and 40% down payment. Often first-time borrowers have a hard time getting approved for hard money loans than veteran investors as they will be required to supply additional documents. As you build your investment portfolio, it will become easier to access financing.
What are Hard Money Loan Points?
Points refer to the fee a hard money lender charges to cover expenses associated with the loan, including loan initiation and administrative cost.
Hard money loan points range between 2% and 10% of the total loan amount depending on the risk, equity, and borrower’s investment experience. The higher the risk, the more origination fees (points).
What are Interest Rates on Hard Money?
Property investment is pretty risky, so hard money loans have higher interest rates than conventional loans (like a traditional mortgage). The rates lie somewhere between 7% and 15%, which is about 2-3X bank loan rates.
What are Hard Money Loan Down Payment Requirements?
Like traditional financial institutions, a hard money lender will require a down payment, typically 10% of the property’s value.
Lenders usually use the property’s loan-to-value (LTV) to calculate the hard money loan down payment. Let’s assume a lender offers an 85% LTV and the property you are interested in is valued at $200,000. The amount of your hard money loan and the required down payment would be $170,000 and $30,000, respectively.
As mentioned earlier, lenders may apply ARV (after-repair value) rather than LTV. The lender will evaluate the property to determine its current purchase price and estimated value after repairs and upgrades are completed. Comparable properties in the neighborhood may be considered to determine the after-repair value of the property in question. Note that ARV may mean higher interest rates and points.
The general formula for ARV is:
Purchase price + value from rehabilitation
Some lenders forgo down payments but charge beginner investors exorbitant origination fees and interest rates.
When should you Contact a Professional Hard Money Lender?
Suppose you are looking for a competitive advantage in a seller’s market characterized by several competing bids on a property. In that case, it might be best to partner with a hard money lender for quick financing.
If you have bad credit and cannot access a traditional bank loan, a hard money lender can offer you the point of entry you need to build your investment portfolio. Considering the property in question serves as the collateral, hard money lenders often overlook a compromised financial history and other risk indicators.
RTI Bridge Loans is primarily a direct portfolio lender with 30 years of expertise providing hard money loans secured by first and second trust deeds on California real estate. Our hard money loan options are hassle-free, allowing you to stay ahead of the competition and build your investment portfolio without worrying over financial constraints.
Whether you’re just setting out or you’re a well-seasoned investor, we are here to help! Call us today at 562-857-2285 to learn our financing can help with your real estate investment goals.