How Do Hard Money Loans Work?
There are a lot of misconceptions about hard money loans, but they’re more useful than you may think.
As long as you go through a reputable lender and apply under the right circumstances, a hard money loan might be the answer you’re seeking. They can help fund real estate ventures if you’re struggling to turn a profit and need a short-term solution.
So, how do hard money loans work? Are they an advisable borrowing option for your situation? Before applying, you need to know the facts. Here’s everything you need to know about hard money loans, how they work, and whether they’re right for you.
What Is a Hard Money Loan?
A hard money loan is a form of lending secured by a property. Like with other types of loans, the borrower will have to pay back the principal plus interest by the end of the term. If the borrower defaults, the lender has the right to seize the property.
Who Uses Hard Money Loans?
Most commonly, you’ll find real estate investors using hard money loans. Why is this the case?
Well, real estate investors need fast access to cash. This liquidity allows them to close deals quickly, renovate properties, and resell them to profit. Most real estate investors don’t have enough capital for these transactions. So, they need to get funding elsewhere.
Traditional lending options tend to take too long. Plus, they can be harder to qualify for and involve personal liability.
Hard money loans offer the perfect solution. Lenders will quickly approve your application and get you the funding you need. Plus, with the property as the only collateral, there is no personal liability involved.
What Can I Do with a Hard Money Loan?
A hard money loan gives you the cash you need to purchase a property and complete renovations. It allows you to buy, flip, and sell it to make a profit.
Lenders won’t just lend you any amount. They want to see that you have a plan that will allow you to pay back the loan, including how much you need to buy a property and renovate it.
Typically, lenders will require renovation estimates from the contractor. They’ll only approve renovations that will increase the value of the property.
Who Provides Hard Money Loans?
You cannot get a hard money loan through a bank or government institution. Private firms and individuals are the only ones who work with this type of lending. Here at Associates Home Loan, we’re proud to offer hard money loans to real estate investors in need of a boost.
What Types of Properties Are Eligible?
You can get a hard money loan for pretty much any type of property. Some of the most common include:
- Single and multi-family residences
- Commercial and industrial properties
- Land (to be developed)
Generally, lenders will specialize in a type of property. If you want to borrow against a single-family residence, be sure your lender has experience in this area.
Another note: If you want to borrow against an owner-occupied residential property, you may have trouble finding a willing lender. These types of properties have lots of regulations that many lenders would rather avoid.
How to Get Approved
To get approved, you’ll have to apply through a private lending firm and follow their requirements. The specifics of these requirements will vary from lender to lender.
When it comes to hard money loans, private firms may not care about your personal financial history. They may check out your credit and income, but these factors won’t always play a huge role in whether or not you get approved.
What private firms care about is the property that is securing the loan. They want to see that you’ll be able to flip and sell it to pay back what you owe. Most lenders will loan you around 65-75% of the property’s value to make this happen.
How Fast Is the Approval Process?
The approval process is much quicker than other types of lending. A firm can approve your application in as little as a day, and you should have access to the funds within a week.
Loan Term Length
Hard money loans are a type of short-term funding. Lenders expect you to quickly obtain and sell the property to pay the money back on time. Term lengths can vary between 6 and 18 months.
One downside to hard money loans is the high-interest rates. These types of loans are riskier for the lender, meaning you can expect to pay interest rates ranging from 7-15%. This will vary depending on the lender.
Origination fees cover the cost of processing the loan application. For this, lenders will typically charge 1-3% of the amount they are lending.
How Do You Get the Money?
Once your application has received approval, you can access the money via predetermined disbursements (AKA “draws”). The initial draw will cover the cost of purchasing the property. Any ensuing draws will cover renovations costs; contractors may access the money to buy supplies, pay for labor, etc.
What Happens If You Default?
You’ll have to pay back the money before the end of your term. Most lenders require you to make small payments covering the interest and a portion of your principal. At the end of the term, you will pay off the rest via a balloon payment.
Hard Money Loans: The Bottom Line
Here’s a summary of the pros and cons of this type of loan:
- Easy to get approval, even if you have poor credit
- No personal liability involved
- Provides quick access to money for real estate transactions
- Can act as a bridge loan to secure a long-term loan down the road
- High-interest rates and origination fees
- You must pay back the money in a short period
- You will walk away with nothing if you default
- You may not have enough money to complete renovations as the lender estimates and pre-approves how much funding you’ll need (so a hard money loan shouldn’t be your only source of funding)
Many real estate investors rely on hard money loans for their transactions. As long as you carefully consider your options, this type of lending could help you in your next real estate venture. For questions about hard money loans, contact our team at Associates Home Loan today!