One of the fastest growing areas in real estate over the past decade is private financing. When the market collapsed many of the traditional lenders went out of business. This created a new market for financing and the demand for hard money financing exploded. What was once a niche sector of the market that catered only to unique situations has since turned mainstream. You can find a hard money lender in almost any market with just a few phone calls. These lenders have business cards, websites and market their services just like anyone else.
If you have any interest in quick flips and rehabs, access to hard money is a must. A traditional lender financed offer, even at a higher price, does not hold as much weight as one with a quick cash closing. Hard money lenders are a necessity, but you still want to make sure you are getting the best possible deal. Here are five important items to look for when working with a hard money lender.
- Approval. Not every hard money lender is a good fit for every investor. The starting point for any lender is approval. Just because you want capital and have a plan, doesn’t mean you will get it. Some lenders have strict lending criteria that in some cases can be stricter than your local bank. Others are based solely on the property and personal collateral isn’t as important. Whatever the approval items and methods are you need to know them up front. If your adjusted gross income is low, you may need to document your income. If the funds are based on the value of the property you should know where they are coming up with the value. The approval methods determine almost everything else in the transaction from rate to terms to available funds.
- Terms. Even though you are looking for capital, it doesn’t mean you should accept a bad deal. When reviewing the terms of the deal there are a handful of important items you should look for. On the surface most people think that interest rate is the end all, be all. The rate is important but not the most important thing. You need to know you are protected in the event of an unforeseen event. There are times when your project will run longer than you anticipate. When it happens, do your terms allow for an extension? If so, how much will the extension cost you? Do you have a prepayment penalty and are you on the hook for a minimum number of payments? The best remedy is to have an attorney review your contract and discuss any red flag items with you. If the lender is hesitant in providing a contract it should be taken as a sign they may have something to hide. There are too many hard money options to get involved with a lender you don’t fully trust.
- Fees. A hard money loan is not the same as a traditional lender. There is a reason you are looking for hard money in the first place. You may not have the income to qualify or your credit score may be too low. You may want the access to quick capital and don’t want to deal with the red tape from most lenders. Whatever the reason, you are the one looking for capital, not the other way around. Because of this you can expect to pay a premium in the way of increased fees. Since the market collapse there have been some regulations put in place regarding financing. Some hard money lenders, and specific loans, apply and others are on a case by case basis. When using hard money you can expect to pay 2-5% of the loan amount in fees. This is certainly steep but when you consider the alternative coupled with the potential return it is usually worth it.
- Rates. Interest rate and fees usually go together when talking about a hard money loan. With increased fees there are also increased interest rates. But, in much the same way with increased fees, higher interest rates may not be as big a factor as you think. With most hard money loans you are only using the money for a short period of time. The interest rate is always important, but if only hold the funds for six months it isn’t as big of a factor as if you held the loan for 30 years. You can expect to pay more in the short term, but if you are making a profit, you may not even feel the impact.
- Access. With a hard money lender you should always try to build a long-term relationship. One off deals can be timely, but what happens the next time you need funds? When initially talking to a hard money lender it is important to ask what kind of access to funds you will receive. Unless you have an established relationship for many years you will not have a blank check to make offers. However, you should have some leeway to pursue deals and properties you think are a good fit. You should simply ask what the process is on every new deal you get. If you have to start back from square one all the time, you may want to look elsewhere.
Every investor should have access to a hard money lender whether you think you need them or not. Use your personal contacts to find at least three local lenders and go from there.
