What is hard money borrowing
Hard money is one way to borrow without traditional mortgage lenders. Loans come from individuals or investors who lend money (mostly) on the property that you use as collateral.
When credit needs to happen quickly, or when traditional lenders fail to approve a loan, hard money may be the only option. Let's check out how these loans work.
What is hard money
Most loans require proof that you can repay them.
Typically, lenders are interested in your credit scores and income to repay a loan. If you have a solid history of responsible borrowing and the ability to repay loans (as measured by your debt to income ratio), you will be eligible for a loan.
Getting approved with a traditional lender is a painfully slow process - even with great credit scores and lots of income. If you have negative points on your credit reports (or an income that is difficult to verify to your lender satisfaction), the process will take even longer and you may never get approved.
Hard money lenders take a different approach: They lend out loans based on the collateralization of the loan and they are less concerned about your repayment ability. When something goes wrong and you can't repay, tough money lenders plan to get their money back by taking the collateral and selling it. The value of the collateral is more important than your financial position.
Hard money loans are usually short-term loans with a term of one to five years. You wouldn't want to hold onto it any longer because the interest rates on hard money are generally higher than on traditional loans.
Why Use Hard Money?
If hard money is expensive, why should you use it?
Hard money has its place for certain borrowers who cannot get traditional funding when they need it.
Speed: Because the lender is primarily focused on collateral (and less concerned with your financial condition), hard money loans can be closed out faster than traditional loans. Lenders prefer not to take possession of your property, but they don't have to spend as much time completing a loan application with a fine tooth comb to check your income, check bank statements, and so on. Once you have a relationship with a lender, the process can move quickly, giving you the opportunity to close deals that others can't (this is especially important in hot, multi-offer markets).
Flexibility: Hard money arrangements can also be more flexible than traditional loan arrangements. Lenders do not use a standardized underwriting process. Instead, they evaluate each deal individually. Depending on your situation, you might be able to tweak things like the repayment schedules; you could borrow from someone who is willing to speak - not a big company with strict guidelines.
Approval: The most important factor for lenders is security. When you buy an investment property, the lender borrows as much as the property is worth.
If you need to borrow against another property that you own, that property's value is what the lender will take care of. If you have a foreclosure or other negative items on your credit report, it matters much less - some lenders may not even look at your credit (although many lenders will ask about your personal finances).
Most hard money lenders keep loan-to-value ratios (LTV ratios) relatively low. Your maximum LTV ratio could be between 50% and 70%. Hence, in order to qualify for hard money, you need assets. With odds this low, lenders know they can sell your property fast and have a decent shot at getting their money back.
When does hard money make sense?
Hard cash loans are most useful for short-term loans. Fix-and-flip investors are a good example of hard money users: they only own a property long enough to keep it going in value - they don't live there forever.
They sell the property and often repay the loan within a year. It is possible to use hard cash to get into and stay in a property, but you would want to refinance as soon as you can get a better loan.
Hard Money Cons
Hard money is not perfect. While it seems simple - one asset is backing up credit so everyone is safe - hard money is just one option. It's expensive so things have to go according to plan for the profits to materialize. Hard money works differently than loans you might have used in the past: lenders might use more conservative methods of valuing real estate than you expect. Learn about hard money pitfalls.
Costs: Coin loans are expensive. If you can qualify for other forms of finance, these loans could get you ahead. For example, FHA loans allow you to borrow even with less than perfect credit. Expect to pay double digit interest rates on hard money, and you might as well pay origination fees of multiple points to get funded.
If you can't be eligible for a loan because your property needs serious repairs, an FHA 203k loan could pay for a refurbishment at a lower cost.
Find hard moneylenders
In order to borrow money, you need to contact investors. Find out who is borrowing money based on collateral in your area. Local real estate agents and real estate investing groups are good sources of names. Reach out to some lenders, discuss your needs, and develop a relationship so that you can fund projects quickly and easily when the time comes.
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