Hard money has always been a staple ingredient in the real estate investors recipe book. But since the housing crash and credit crisis all but eliminated many of the traditional lending programs for real estate investing, hard money lending is making a big comeback. If you've never had any previous experience with this form of financing and you need to find funding for real estate investment, you may find this information crucial for your success.
A typical hard money program looks something like this: Loan-To-Value around 65% on average, with some lenders willing to go a bit higher and some who will be as low as 50%. The value is the "After Repair Value or ARV. This means that a hard money lender may agree to loan an investor up to $65,000 on a property that will appraise for $100,000 after all of the repairs are completed.
But unlike traditional lenders, hard money lenders will loan you the money BEFORE the repairs are completed, so that you can purchase the property and get the repairs done. Then you pay off your hard money loan by getting a new traditional loan at a much lower monthly payment. The key is to make sure you get your refinancing in place before taking the hard money loan. If you do, and all goes according to plan, here is how that might look in our example:
Hard money loan: $65000 - Purchase price: $40,000 - Repairs, holding and all other expenses total $25,000. Then you refinance your property for enough to pay off your hard money lender. Since it's now worth $100,000, you should be able to refinance for the entire $65,000 principal, plus interest and other costs such as points. If you can borrow $80,000 on the property, and your total payoff is $70,000 you can pocket $10,000 if your new lenders allows this.
In this example you would have a true no-cash-out-of-pocket deal when all is said and done. And you may have even put an additional $10,000 in your pocket from the proceeds of the new loan. Hard money helps you get financing for properties that are not yet ready for a traditional loan.
Hard money loans typically carry interest rates of around 12% with 5 points and a 90 day to six month term. Payments may be amortized at a 15 or 30 year rate, making the initial monthly payments during renovations as low as possible. Once you refinance, you pay off your hard money lender and then rent or resell the property. (Hint: avoid a common mistake by making sure that your rent income will be higher than your mortgage payment if you plan to rent).
I've also used hard money lenders for a joint venture or partnership arrangement where the lender funds the entire deal 100% and I do all of the work of finding the property, all due diligence, plan and manage the rehab. Then we typically would resell the property to another investor or to an owner occupant. In that type of arrangement, there are no loan terms and no monthly payments or interest. Rather, we split the profits from the resale according to whatever agreement we reach. It may be a 50/50 split, 60/40 or whatever makes sense for the particular deal.
Recently I was asked about a new type of pitch where a hard money lender offers to loan the money for the purchase, charges interest and points on the loan, asks the borrower to pay for repairs, but still wants a split of the profits. Personally I would reject such an offer. I will either make payments on a loan, or will partner to split profit, but I will not pay a loan and split profit. In my experience, it's either a loan that I can pay back, or a joint venture in which we both participate in and share the profits, but not both. Prior to the housing crash we would have never considered taking out a loan that required interest, points and a share of the profits.
Hard money can be a very effective tool when used properly. It can be a very expensive mistake when you do not know how to structure the deal properly, or what the actual terms should be.
Hard money lenders often advertise on the internet, and in local newspapers. Getting a referral from a local real estate investor or investor association may also be a good way to find a reputable lender. Generally there are lots of different types of hard money lenders out there.
If you don't know how to ask the right questions and evaluate a particular hard money loan agreement, you would be wise to hire an experienced real estate attorney or investing consultant to advise you before you sign anything.
Donna S. Robinson is an experienced real estate investor and investing consultant located in Atlanta, GA. Follow her on twitter at donnaconsults. For investing advice or training, contact her at [email protected]