One of the more frequently asked questions from new investors and real estate agents is, “What is hard money?” The answer is much less mysterious than when and why to use hard money. Hard simply means it is tied to a “hard” asset such as real estate, gold, silver, etc. For our purposes it will be tied to … real estate.
Hard money, since it is tied to real estate and not so much the borrower, is generally loaned at a lower LTV (Loan To Value) than conventional funding but does not place as much weight on the borrower’s strengths. It is not generally true, however, that “just anyone” can get a hard money loan.
Hard money lenders, like me, want to know these things:
(A) Is the value in the property real?
(B) Does the borrower have any history in real estate investing and rehabbing?
(C) If the borrower defaults will I be able to take over the project and make a profit?
That, in a nut shell is what we look for. Let me add that it may be easy to fool conventional lenders on price if you can get an appraiser to play ball but on most hard money loans the lender will actually drive out and look at the property, compare the construction cost estimates to their own knowledge and make the determination of values and the lending decision on their own. While we do employ professional appraisers even then we will drive the property ourselves.
Hard money costs more than conventional money for several reasons not the least of which is that this is a high risk lending game. While some lenders, such as my Novation, will lend for as little as two points (percent of the loan amount) and then interest only payments of prime plus one percent. That is bottom pricing – it goes up from there based on risk. Generally for an applicant to qualify for the type of hard money financing listed above they would need to be prequalified for a “back end take out” or “take out” loan (industry terms for refinance) as well as have a decent credit score (640 or higher middle score – not BEACON … MIDDLE) enough assets to pay the payments for six months, etcetera. However for qualifying applicants the loan can go as high as 100% of the acquisition and rehab costs so long as that number is not higher than 80% of the ARV (after repair value).
Many hard money loans require as much as five or six points at inception and the interest rate is as high as 15 or 16 percent interest only. Those loans generally do not require as much borrower qualification as they do property qualification. They also are limited, generally to 70% or even 65% of the ARV – but that lowers the lender’s risk and the lender is more likely to make the loan if they know they can recover the property and still stand to profit.
Who are hard money lenders? A hard money lender may be your next door neighboor who works for the Fire Department or the couple down the street who retired and have a strong credit line. Hard money is generally borrowed from a bigger lender, like my Novation, and then re-loaned to the investor who wants to make a small purchase/rehab for flipping.? Even you can be a hard money lender if you have a line of credit or HELOC of at least $250,000 or more. I do have a seminar on Becoming A Hard Money Lender.
When you really need the money fast and you may not qualify through the bank or the property/project may not qualify through the bank you can consider hard money. Hard money, the higher cost loans, generally requires much less paperwork than conventional lending and does not generally go through an extensive underwriting and quality control investigation. The lending decision is usually made by the person who answers the phone when you call. This can speed the process.
Hard money lenders generally do not care if the property is in terrible shape and will need to be completely rebuilt but they may require building permits, insurance policies and builder resumes. The more the lender can limit their liability the more likely the borrower is to get the loan.
As a real estate agent you should always know a hard money lender you can trust – and one with deeper pockets. A line of credit of $1,000,000 or more is much better than $250,000 (duh) because the latter can be loaned out in a matter of days. Then the lender has to wait for the loan to be repaid, generally in six to twelve months, before they can relend. Hard money loans are generally not sold secondarily and the lender “holds the note” until the loan is closed.
One major disadvantage to most hard money loans it the time period. Many lenders will only lend for 90 or 180 days and if you do not repay they consider the loan defaulted and seize the property. Since you cannot refinance a vacant, incompleted rehab with the vast majority of banks and conventional lenders you either have to (a) refinance your primary and pay of the hard money loan, (b) find a secondary hard money lender who will lend enough to repay the initial hard money loan (c) beg the lender to re-originate the loan or (c) just give the property to the lender. Most hard money lenders really do not want the property … they just want their money … so chances are even the lender who is playing “hard ball” will allow you to re-originate and extend the loan period another 90 days or more.
If you cannot find a hard money lender in your community you just need to search a little farther. Be careful of national level hard money lenders who say they are lending at two points and prime plus one. What you will often discover is that they are charging two points inception fee in addition to regular closing costs which may include another two points origination. But if you really need the money and the deal is a viable profit opportunity pay the piper! You either use your own money or someone else’s and unless you have bundles and bundles it almost always makes sense to use someone else’s. Why? Because if you spend yours (bury in the walls of an investment property) you just limited your ability to make subsequent acquisitions!
If you know of a hard money lender in your community please let us know who they are. If you have any questions about hard money please post them so others can have the answer too!
I do not recommend hard money if you know you are going to keep the property long term unless it needs major rehab. Small rehab costs may be handled “out of pocket” costing you less in the long term than short term hard money acquisitions costing thousands in inception and interest fees. If you aren’t sure ASK! Even if I’m not your lender I will still advise you on any investment deal.
Ken Cook – Nationwide Specialist – Information/Marketing – FHA Home Loans
678-439-8683
— Ken Cook NMLS ID 208452