Whether you’re a first-time investor or an established industry pro, there may be some financial products that still manage to confuse you. One ill-understood investing tool available to real estate investors is hard money loans. Many people confuse hard money loans—also called private money loans—with family assistance or even a type of mortgage.
Table of Contents - Finance Corner: What the Heck is Hard Money?
What’s a hard money loan?
Hard money loans are issued outside of traditional financial institutions. This makes them convenient for borrowers unable to access commercial credit, for whatever reason.
Some banks, for instance, may restrict the number of mortgages you’re able to carry at a time. Or, you may be caught with extremely unfavourable loan terms because of problems with your credit score. In cases like these, you may want to consider looking at a hard money loan.
Breaking hard money stereotypes
There’s a bad reputation associated with hard money loans. Many people associate them with predatory lending practices and shady back-room financial deals. But hard money loans are subject to the same stringent financial regulations as any other lending product.
As long as you understand what a hard money loan is and how to best leverage it, it’s easy to put this creative financing tool to work for your next investment.
Benefits of hard money loans
Unlike traditional mortgages, hard money loans are based primarily on the property you’re purchasing as collateral. This means hard money lenders are much less concerned about your credit score than traditional financial institutions are. Additionally, they’re able to fund your loan much more quickly than a typical mortgage would be funded.
Hard money loans provide real estate investors with the flexibility necessary to act quickly and aggressively, which can be a real asset in a crowded, fast-paced market. Check out some of the situations where hard money is a smart course of action for securing capital for a deal that needs to get done quickly:
One of the most popular uses for hard money loans is for flipping properties. If there’s a fixer-upper that’s caught your eye, chances are you won’t be able to secure a standard mortgage to purchase it. Instead, look into obtaining a hard money loan from a trusted local lender.
Buying raw land can be a fairly complicated process. It’s important to ensure you can use the land for its intended purposes after the purchase goes through if you do decide to acquire a plat. Hard money loans are often the best way to buy raw land.
Bad credit: If you’re coming off a bad investment, you may be experiencing trouble with your credit score. This doesn’t have to keep you out of the game, however. You can continue your real estate investment journey through hard money loans.
Need for speed
Sometimes, you need to act quickly to take advantage of a great investment opportunity. Unfortunately, traditional financial institutions are notoriously slow. You can rely on a hard money loan, however, to provide you with quick funding so you don’t lose out on a lucrative investment.
What to know about hard money
Savvy investors should know a few key details regarding hard money loans before deciding to use them as part of their investment strategy.
For instance, hard money loans typically last for only a few years—between one and five. Additionally, hard money loans usually have much higher interest rates when compared to traditional mortgages and bank loans.
Hard money loans are most effective when used to acquire a property you’ll be able to pay off within roughly a year. If you’re working on acquiring the capital to purchase a property, but don’t want to miss out on purchasing it, a hard money loan may suit you well.
Similarly, hard money loans are often called “fix it and flip it” loans. This is because they can be used to purchase a property for a short period. The idea is, you acquire an undervalued property, invest in its repairs, then sell it for a profit. After the flip, you’ll pay off your hard money loan and the interest while still reaping a return on your investment.
Because of higher interest rates and shorter terms, hard money loans represent a riskier investment strategy compared to traditional mortgages and bank loans. Once you accept a hard money loan, you have to act quickly and decisively to start reaping a return on your investment and paying off your lender.
Finding a hard money lender
While most hard money lenders are perfectly trustworthy, it’s still important to ensure you’re working with a lender you’re comfortable with and able to trust. The best place to start? Identify a hard money lender with a good reputation in your local real estate community.
A good way to identify a trustworthy lender is by asking around at your local real estate investor meetings. Chances are, at least some of the investors in your area have worked with local hard money lenders in the past. They’ll provide you with honest feedback about their performance.
When looking for a hard money lender, find someone responsive who will act quickly and decisively. Ultimately, the speed at which they can fund your loan is one of the key benefits of obtaining a hard money lending product—this means seeking out a lender with a reputation for working fast.
Give hard money a hard look
While the high-interest rates and rapid payoff times associated with hard money loans may seem frightening or intimidating at first, they can provide you with an excellent opportunity to acquire an investment property rapidly.
So long as you’re careful and responsible for the type of property you acquire a hard money loan for and begin proactively working to recoup your investment as soon as the loan is funded, hard money loans can be a valuable tool to use to facilitate your investments. Make sure the situation is right, the terms are good and the lender is reliable, above all else.