The Preferred Funding Source for Real Estate Investors
A hard money loan is an loan secured by an asset- typically a piece of real estate. It is the preferred source of funding for most real estate investors for a variety of reasons.
Hard money lenders can be individuals or large companies serving small communities or an entire country. One of the primary reasons real estate investors favor hard money loans is for their speed. These lenders do not have to conform to the same rules and regulations as banks and thus have less red tape to go through when putting together a loan.
Knowledge of Investing
Another reason many real estate investors come to hard money lenders is because these financiers understand the business of real estate investing more than traditional banks. This appreciation presents itself in their unusual criteria for loans. Instead of looking at standard measures like credit scores or income, they are much more concerned with the potential of the property and of the investor.
They also understand that many times real estate investors need more than just enough money to purchase a property- they need the means to rehab and get it ready to rent or sell. Many traditional banks are unwilling to facilitate this need.
Amount Funded
The amount of a hard money loan is determined by a loan to value ratio. The LTV ratio ranges from lender to lender, but it is typically 65-70% of the quick sale value of the property. The quick sale value is not the same thing as the market value appraisal. This value refers to the amount of money the lender could get for the property within 1-4 months of a potential default. Because hard money lenders base their loans on the value of the borrower’s real estate, it is important for them to know they would be able to sell the property and recoup most of their investment should the debtor fail to pay.
Most hard money lenders choose to lend in a first lien position, which means that they are the first creditor to receive compensation should the borrower default on the loan. This practice along with a low loan to value ratio and higher interest rates serve as security for the hard money lender.
Flexibility
The primary advantages these lenders offer over traditional banks is speed and flexibility. Many people feel that the creditor-debtor relationship is much more personal with a hard money lender than a traditional banker. Loans can be structured on a personal basis and interest rates and LTV ratios are variable depending on the person and the property.
The loan to value ratio typically refers to the property’s after repair value- or how much the quick sale value would be after it was rehabbed. Because of this, it is standard that borrower’s provide a “scope of work” or list of repairs they plan to make to the property. Most of the time hard money lenders won’t even ask to see the property in person, although they may require an inspection. Lenders like to familiarize themselves with the buyer’s plan before hand- but this is usually to ensure that they are on the same page. Again, hard money lenders are usually flexible and understanding if the amount projected in the “scope of work” isn’t exact.
Trust
The requirements and structure of a hard money loan depends on the lender’s perceived risk of the property and real estate investor. Often, real estate investors will use the same hard money lender for multiple properties- developing trust and great flexibility for their loans.
Overall, real estate investors find that hard money lending is the best financing option for them. A combination of speed, flexibility, and understanding of the real estate market make hard money lenders the most convenient option.