As a real estate investor there may come a time that it is to your advantage to get a Hard Money Loan (HML, bridge loan, private financing or equity based loan) for a transaction that you can not get financing from a conventional lending. As a matter of fact even if the rate and fees may be higher on an HML it may be better for you even if you qualify for conventional financing. These short term bridge loans can help you close a “HOT” real estate investment deal and utilize creative financing that you may not have been able to employ using conventional financing. Ultimately the goal is to make money. Private money programs are designed to do just that. They help the borrower make money as well as the lender, with as little red tape as possible.

How to Qualify for a Hard Money Loan.

The underwriting by HML lenders is different from conventional. Yet the criteria reviewed is the same. Basic underwriting reviews the 4 C’s of credit. They are Collateral, Capacity, Credit and Character. Each criteria is looked different based on the program. Let us compare the two.

Collateral.

Whether conventional or bridge financing both place a heavy emphasis on the property, which is the collateral. From a conventional perspective the value is always based on the lower of the purchase price or the appraisal. Another important factor is ownership seasoning. Standard guidelines view the value as the lower of the appraised value or purchase price for the first 12 months of ownership. A Hard Money Lender will consider the After Rehab Value with minimal consideration to purchase price. As such a conventional lender may lend 80% of the value to an investor while a HML lender only lends 65% of the ARV. The 65% may actually be higher.

Capacity.

This is the ability to repay the loan. For the tradition investor loan the lender reviews the income verses the debt and bases the approval on an acceptable maximum debt to income ratio. Where the bridge loan lender reviews the file they want to make sure the borrower has a solid exit strategy to pay off the loan completely. If they require monthly payments they do review debt ratio’s to insure the borrower can make the payments. The ability to repay the loan is important in both situations because all lenders want their money back to make more loans. Contrary to popular belief Private lenders do not want the property. If they did they would just invest in below market distressed property. They have the money. No, they are in the loan business. They make their money by making short term loans and reinvesting the proceeds to make more short term loans.

Credit.

While excellent credit is essential to a convention financing source it is not so important to a Hard money lender. If your exit strategy is to refinance the property the lender wants to ensure you can. But if you are going to sell, they are more concerned that you have a buyer that qualifies to buy the property. This goes back to the importance of a solid exit strategy.

Character.

A conventional lender really can not and does not make personal character determinations about a borrower. They only look for compensating factors like time on the job and stability factors. Savings and assets are important as well. For a bridge program, the lender can talk to the borrower, review their experience and they have much more flexibility based on their feel for a borrower. After all this is private money and no one can dictate who the lender will lend their money to when it is for business and investment purposes.

Real Estate Investor.

With this information in hand a real estate investor can know where they need to improve to guarantee their real estate investment project. As a HML broker All Dominion can evaluate your deal and suggest areas of improvement, helping you to qualify and preparing you to make lots of money as a real estate investor.

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A loan from a hard money lender is a short term financing arrangement made to a real estate investor who usually want to purchase and rehab a commercial or residential property. The interest rates and fees on these loans are much higher than conventional financing. They are attractive to real estate investors because most of these loans are made based on the after rehab value of the property. The collateral is the most important qualifying criteria for this type of loan to the private lender. The collateral should also be the most important criteria to the real estate investor. The collateral is the investment and the basis of any investment is to buy low and sell high with as little risk as possible while investing as little money as possible. Understanding this basic investment philosophy and having a tight focus on your own real estate investment philosophy will help you choose the right investment property.

Personal Investment Strategy.

Once you decide to invest in real estate the first choice you need to make is to determine the type of property you want to invest in and the location or area you want to invest in. First do you want to invest in residential or commercial property. If you choose to buy residential property do you prefer single family homes or 2, 3 or 4 unit properties. These decisions may be guided by the property available as well as financing options. Whether you choose to invest in residential or commercial property the availability of financing is a key factor. Historically it has been easier to finance single family residences. Since all financing has gotten tighter financing larger units may be a better option in todays market. Just in general the more units you are financing the lower the loan to value lenders are willing to lend. The reality is that in todays market there are more financing sources for commercial properties than there are for residential investment properties.

Criteria for Financing a Property with a Hard Money Loan.

A simple strategy I employ when investing in real estate, whether residential or commercial is to not invest in more than 50% of the after rehab value. That means the total acquisition costs plus the rehabilitation costs will be equal to or less than 50% of the After Rehab Value. Your acquisition costs include any costs associated with the purchase of the property. This includes all soft costs, title charges, attorneys, taxes, transfer, insurance, inspections, appraisals, and financing costs. Your rehabilitation costs are labor, materials, permits and inspections. The total of your acquisition and rehabilitation costs should not exceed 50% of the the after rehab value because you need a solid exit strategy to refinance or sell the property after your investment property has been rehabbed.

Exit Strategy.

When you invest property by using a hard money loan most lenders require a solid exit strategy. Remember your interest rate is much higher than you would pay for conventional financing and your loan is only for a short term as a requirement of the hard money lender and in your best financial interest you should have a solid exit strategy. A solid exit strategy is not selling the property, if you do not already have an approved buyer in place. A solid exit strategy is not refinancing the property if you can not qualify for the refinance loan. So ultimately, you should have an approved buyer in place or you yourself can qualify and have been approved to refinance the property. This is why when you choose an investment property the after rehab value is greater than 50% of the acquisition and rehab costs. These properties are easier to finance and easier to sell for a profit. You could even sell to another investor, pay off your hard money loan and make a profit.

Return On Your Investment.

Though the costs of a hard money loan may seem obsene at times, where can you invest little or no money in an asset that doubles in value in less than 6 months. You can investing in residential and commercial real estate. A hard money lender can make you a fortune if you understand leverage and choose the right properties with a solid exit strategy.

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Many times investors ask me to send them information on a hard money loan. As a mortgage broker with many programs and options it is hard to tell them exactly what the qualifications are for financing their project. They are many because hard money lenders are private investors. Each private investor makes up their own guidelines. Unlike conventional financing there is no secondary market and there are no quasi government organizations like Fannie Mae or Freddie Mac that establish uniform or conventional guidelines. There are qualifications that each bridge and real estate rehab lender have in common. They are:

1. The property and after rehab value.
2. The exit strategy.
3. The down payment.
4. The investors experience.
5. The investors credit.
6. The investors cash reserves.

The Property.

There was a time and will be again were the property and the after rehab value of the property was the sole consideration of doing a short term loan to a real estate investor. Whether the deal is commercial or residential investment property this remains the most important key to the deal. The reasons it is not the only criteria is that lenders have been burned by the declining value of properties and the excess of properties available. This means that if they have to take the collateral for the short term loan the property has been harder to sell and they get less money for it. Yet the collateral still remains the most important criteria. The lower the loan to value the better the deal. Even though some lenders will go as high as 65 to 70% of the after rehab value those deals are tough when so many are available at or below 50%.

The Exit Strategy.

Almost of equal importance to the collateral to many purchase rehab lenders require a solid verifiable exit strategy. This means if you say you are going to sell it you should have a buyer who is pre-approved and their information needs to be verifiable by the lender. If you say you want to refinance the property then you need to have the income, credit and assets to qualify for a conventional refinance loan. Whatever your exit strategy is it must be verifiable by the lender. This is good for the lender and for you. No one wants to get stuck with a non performing asset.

Down Payment.

Though there are programs that do not require down payment they are fewer than ever. Most purchase rehab lenders require a down payment. For this reason it is good to be prepared to invest 20% to 30% in your projects. Because there are so many projects available yet funds are limited a down payment makes your project easier to fund. Also if you have poor credit assets help.

The Investor.

The credit, assets and experience of the investor plays a role in the qualification process. For a real estate investor qualify the should have good credit, assets and experience. If they do not and are short in any of these areas they need to be stronger in others. Meaning they should have a deal with lower than 50% loan to value, a strong exit strategy and or a down payment. Because each private investor has different criteria, it is hard to say one deal will qualify and another would not based on one criteria or another. But, the first three are the most important. Most deals that the real estate investor has that requires funding will qualify based solely on the after rehab value of the property, the exit strategy and the down payment. Even though there are no down payment deals available you need to be a strong investor to qualify for them.

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