How Hard are Hard Money Loans
Hard Money Loans
The reason real estate investors choose to use hard money loans is that they provide a means to purchase and rehab property and make a substantial profit that they may not have without the use of this expensive money. The hard money loans are expensive and even if they were legal for a home owner to borrow from the private lenders offering these loans it would never be advisable. So how hard are these private loans you should ask? The answer is threefold. They are restrictive in loan to value, they are high in rate and high in fees.
Restrictive in Loan to Value.
The maximum loan to value for many hard money loans range from 50% to 70%. No deals are done at the higher loan to value for two reasons. First the hard money lender requires lots of equity in case of default they can list and sell the property quickly because they will in theory be below market value. The reason I say in theory is because there are so many REO’s, Short Sales and foreclosure properties on the market today that what was normally considered an exceptional deal is common place. For that reason The private lenders are more particular about the properties and loans they choose to fund.
Secondly, any real estate investment that has less than 30% equity are not good investments for the investors unless they are purchasing the property for the cash flow. In that case they are long term investments and not suitable for the short term nature of these expensive bridge loans.
High Interest Rates.
Whether you are an investor buying and or rehabbing commercial or residential investor properties the rates are substantially higher than they would be for conventional commercial or residential lending. The rates are higher because the risks are higher. The risks are higher because these loans are not underwritten based on the standard conventional guidelines and there is a very limited or no secondary market for private bridge loans. This is generally not an issue because the borrowers know these are only short term loans. The terms range typically from 3 to 24 months. Therefore, the higher interest rate is of minimum importance because both lenders and borrowers know that the borrowers have an exit strategy to quickly payoff these high interest rate loans. Many lenders require a viable exit strategy before they make the loans.
Higher Points.
Because these loans are short term in nature the hard money lenders always charge discount points. They typically charge 4 to 6 discount points. In addition the private money brokers will charge 2 to 5 points. So on average a borrower is paying 8 to 10 points. Plus closing costs. These are high fees. They only make sense when an real estate investor will make substantially more money and they have no other way to fund the deals.
Why Use Hard Money Lenders.
Simply to make money. As a real estate investor you have choices in financing your deals. You can choose conventional financing that requires at 30% to 35% down payment for properties that are in good shape. There are many other conventional requirements including credit, cash reserves and the current value of the property versus the after rehab value of the property. These all make conventional financing almost impossible.
The other option is to use your own funds and not finance a deal at all. But, most astute real estate investors know that if they can make a net profit of $25,000, $50,000, $100,000 or more using a hard money loan they do not like the fees but they we pay them versus not making any money because of lack of financing.
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