This post is going to be a two part series about Hard Money. Today’s guest, Jeff Hensel, is going to answer questions about Hard Money from the point of view of a Lender. Next week I will have an active investor, Craig Fuhr, answer the same questions from an investor’s point of view.
I’ll be the first to admit that I know very little about hard money. So when I was contacted by Jeff Hensel of North Coast Financial (www.northcoastfinancialinc.com) about doing a guest post about the topic I was a bit reluctant. It didn’t really align with my site’s main focus.
However, I was curious about the topic as all investor should be. Also, I figured it was a good opportunity to ask you all if you had any questions.
I got a very good response with some great questions. I forwarded these on to Jeff to see if he could answer them for us. The result was this excellent Q&A article answering all the questions.
Let’s jump right in and learn about Hard Money together…
What are the typical hard money terms?
Hard money terms will vary from lender to lender and from region to region. Areas with many hard money lenders such as California will have lower interest rates and points due to competition. Areas with fewer lenders such as Washington State will have higher lending costs.
Hard money lenders generally charge 9-13% interest and 2-4 points. Some lenders will tack on additional fees such as document fees, processing fees, lender fees etc. Make sure to ask early on if the lender charges these types of fees.
Are they negotiable?
It’s up to the specific hard money lender if they want to negotiate on their rates or not. Some lenders have more room to negotiate than others based on their starting rates. Your best bet for negotiating is contacting multiple lenders and seeing what the going rates are in the area. Then let them compete to earn your business.
What is hard money based on?
Hard money lending is primarily asset based. The real estate that is serving as the collateral for the hard money loan is what the lender is most interested in. The borrower must have a sufficient amount of equity in the property. Usually a lender will want to see the borrower have at least 25% equity in the property (and 50% for land due to the increased level of risk).
Does the lender look at your personal credit at all?
The hard money lender will most likely take a look at the borrower’s personal credit, but any credit issues will not prevent the loan from going forward as long as the borrower has equity in a property to use as collateral for the loan. A hard money lender may adjust the interest rate and loan to value ratio based on the borrower’s credit.
Do hard money lenders charge only interest or interest PLUS a portion of the equity?
Traditionally, hard money lenders charge only interest (and the associated points). There may be some hard money lenders/investors who put together complicated hybrid interest/equity deals but it isn’t a standard loan.
It may be done in a situation where the borrower has little or no down payment and the lender is willing to take more risk and get compensated by taking a portion of the profits.
How does someone find a hard money lender that is asset based and not credit/income based?
Most hard money lenders are primarily asset based. The “hard” in hard money comes from the fact that the loans are backed by a hard asset, real estate.
In cases where the borrower is attempting to purchase or refinance their primary residence (owner occupied property) with a hard money loan, the hard money lender must verify that the borrower meets certain income requirements.
This is due to recently introduced government regulations that all lenders (not just hard money lenders) must abide by. Many hard money lenders will not lend on owner occupied properties because of the increased regulation on these loans.
Why is it so difficult to find a hard money lender who doesn’t charge points? They’re already making money back with the money they’re lending.
Points are the fees paid to the hard money lender for bringing the deal together and preparing all the documents. In most cases the hard money lender isn’t lending their own funds directly, but rather lending money from outside investors who receive the interest.
Preparing loan documents and knowing all the (constantly changing) rules and regulations is not an easy task. It is an essential process which protects the parties involved in the transaction and the hard money lender deserves to be compensated for this service. Arranging the funds to be available from a private investor is also a difficult task. If the broker did not charge any points, the broker would be working for free.
What are the things that I would want to look for in a HM arrangement?
Make sure you are able to afford the loan payments and have a reasonable plan for paying off the loan by the maturity date.
Make sure the hard money lender is experienced and is able to deliver on their promises. Ask to speak to other borrowers who have used the same hard money lender if you have any doubts.
Ask if the hard money lender belongs to any professional organizations to keep the broker informed on the constantly changing laws on real estate lending.
Are there some hard money lenders that will fund 100% of the purchase and rehab, for a percentage of the final profit?
There may be a few hard money lenders who will lend close to 100% of the purchase price and probably the rehab costs also. In this case the lender becomes more like a financial partner than just a lender.
In order to compensate for the additional risk, the interest rates and points on loans like this are generally 16-19% and 5-7 points. This is such a risky loan since the borrower would have little or no equity in the property.
If something goes wrong with the property or the market takes a small turn the borrower will have little incentive to invest more money to save the project.
If the market takes a small turn and some of the borrowers walk away from their properties these types of lenders could take some losses and be out of business very quickly.
What are some examples of “creative” loans that can be done with Hard Money?
Hard Money loans fund quickly so a borrower can use a hard money loan to acquire a good deal that needs to close quickly rather than losing the deal. If the property is going to be held long term, the borrower can then take the much longer loan process time to obtain a bank refinance loan.
If borrowers are lacking in down payment funds or have bad credit, they can turn to a family member, friend or business associate who is willing to loan the borrower some down payment money or provide a personal guarantee on the loan in order to get loan approval from the lender.
If a borrower does not have enough cash for the necessary down payment on a purchase transaction but owns other real estate with equity, the borrower can add the second property as collateral for the loan to obtain a higher loan amount.
What are the Advantages of a hard money loan over Private Money?
Some people make a distinction between hard money and private money. Most hard money lenders consider the terms to mean essentially the same thing.
Working with an experienced hard money lender ensures all the necessary documents and disclosures will be completed and all parties associated with the deal will be protected. Working with a licensed hard money lender also will exempt the loan from usury laws in certain states.
If an investor is able to find friends, family or another private party with funds to lend, they can bring the deal to a hard money lender who is willing to prepare the documents and disclosures which would avoid the many legal issues that could arise with an informal handshake deal. Since the deal is being brought to the lender, a lower fee should be able to be negotiated.
I’m not a huge fan of borrowing money, but I can’t deny the usefulness of Hard Money Lenders. While much like many of yours’, my initial reaction to hard money is…damn it’s expensive!
However, Jeff has shed a lot of light into why it’s expensive. I also have a better understanding on what the difference is between a Private Money Lender and a Hard Money Lender. Thanks Jeff for the great information!
Do you have any more Questions?
Do you have any questions that Jeff did not answer? Post them in the comments below and I’m sure Jeff will be happy to answer them for you.