Real estate investors constantly hunt for flexible, swift funding avenues. While traditional bank loans remain a reliable source, they aren’t known for speed.
Sometimes, you find a great deal or need fast cash— that’s where hard money loans come into play. If you’re considering this option, it’s wise to seek professional guidance on hard money loans.
So, what is a hard money loan?
Key Takeaways:
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- What They Are: Hard money loans are quick, short-term, asset-backed loans from private lenders, ideal for real estate investments.
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- Pros and Cons: They offer fast funding and flexible terms but have higher interest rates, shorter terms, and require larger down payments.
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- Best Uses: Perfect for fix-and-flip projects, bridge loans, and auction buys where speed is crucial.
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- Comparison: Unlike traditional mortgages, these loans focus on property value and close faster but at a higher cost.
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- Alternatives: Consider home equity loans, private lenders, or partnerships if hard money loans don’t fit your needs.
What Makes Hard Money Loans Different?
Hard money loans are short-term, asset-backed loans. Instead of banks, private individuals or companies fund these loans. This difference allows for much quicker closing times compared to traditional loans, which average 42 days to close.
Want to know more about hard money loan rates? These loans are primarily used by borrowers who need swift access to capital for various real estate ventures.
These financial instruments are often utilized for various investment strategies, including property rehabilitation and resale (commonly known as “fix-and-flip”), bridge financing, or in scenarios where conventional lending options are not viable.
For instance, investors with less-than-optimal credit profiles may find hard money loans to be a feasible alternative. These loans come at a higher cost but offer the significant advantage of faster processing and funding.
Breaking Down Hard Money Loans:
Pros & Cons
Advantages of Hard Money Loans
Traditional mortgage loans usually take weeks, even months, for approval. This delay is a non-starter if you want to close quickly on a property, especially in hot markets. With a hard money loan, you’re looking at a matter of days, sometimes even a week, to get your money.
Some hard money loans can close in just a few days. The process is far faster than closing on a traditional purchase mortgage.
Some lenders are known for closing many of their loans in 10 days, though the turnaround time depends on the responsiveness of all involved parties. These parties include the appraiser, the insurance agent, and the escrow company. This gives borrowers the chance to seize time-sensitive real estate opportunities.
These loans focus less on your credit score and more on the asset’s value. That’s why people with less-than-perfect credit, who might struggle to get a traditional bank loan, turn to hard money loans.
This flexibility extends to repayment terms as well. Borrowers and lenders can negotiate customized terms, which can be a lifesaver, especially if your real estate venture has an unconventional timeline.
Disadvantages of Hard Money Loans:
What to Watch Out For
These loans come with significantly higher interest rates compared to conventional loans. This higher cost comes from the increased risk hard money lenders take. As a borrower, factor this expense into your budget.
You should also be certain your investment can generate sufficient returns to cover these interest payments. Hard money loans usually have much shorter terms than traditional mortgages. Think 1 to 5 years, not 15 to 30.
This short repayment window can add pressure. Carefully plan your investment exit strategy, whether it is a sale or refinancing, to repay the loan within this short time frame.
Don’t expect 100% financing with a hard money loan. Be prepared to shell out a larger chunk of change upfront—typically between 20%-30% (sometimes even higher). Hard money lenders need to mitigate risk, so securing a more substantial down payment ensures they recoup some money even if the borrower defaults.
When Is a Hard Money Loan the Right Choice?
Knowing the purpose of a hard money loan is only the beginning. Hard money loans work best in specific scenarios.
Consider these:
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- Fix-and-Flip Investors: The quick cash and short repayment term perfectly align with the fast turnaround needed to renovate and sell a property quickly.
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- Bridge Loans for Real Estate Investors: If you are caught between selling a property and buying another and traditional financing takes too long, a hard money loan helps bridge the financial gap.
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- Auction Purchases: Real estate auctions move fast. Hard money can give you the edge to quickly close the deal before competitors with slower financing methods have a chance.
Hard Money Loans vs. Traditional Mortgages: A Quick Comparison
To solidify what you have learned so far, consider the main differences between hard money and traditional mortgages:
| Hard Money Loans | Traditional Loans | |
|---|---|---|
| Lender | Private investors or companies | Banks, credit unions, mortgage companies |
| Approval Criteria | Focus on property value and borrower’s equity, less on credit history | Credit score, income, and debt-to-income ratio are major factors |
| Interest Rates | Higher | Lower |
| Loan Terms | Shorter (typically 1 to 5 years) | Longer (typically 15 or 30 years) |
| Closing Speed | Much faster (days to weeks) | Slower (weeks to months) |
Are Hard Money Loans Regulated?
Unlike traditional lenders who must follow regulations by entities like Fannie Mae, hard money loans don’t typically fall under the same regulatory umbrella. This is because they are usually made by private lenders and are considered higher risk.
This less strict oversight gives borrowers more leeway in securing unconventional funding. However, it also emphasizes doing thorough research on potential lenders.
Finding Reliable Lenders
Finding trustworthy and experienced hard money lenders takes time and requires legwork. Reputation and a successful track record of lending in the areas you plan to invest in matter.
Use your network, local real estate investment groups, and referrals for recommendations. Thoroughly review interest rates, fees, terms, and conditions.
When deciding between lenders, compare those details to ensure the lender and their terms align with your investment strategy and risk appetite.
3 Alternatives to Hard Money Loans
If hard money loans don’t feel like the perfect fit for you, there are other funding options for your real estate deals:
1. Home Equity Loans/Lines of Credit
Use the existing equity in your home as leverage for funding. Be cautious, though—you risk losing your home if your investment sours and you cannot repay.
2. Private Lenders (family or friends)
If you are lucky enough to have connections who believe in your vision, this could be an option. Tread carefully—mixing finances and personal relationships could lead to strained ties if things don’t pan out.
3. Partnerships
Find an investor interested in sharing the risk and reward of the deal. Partnership agreements should be carefully structured to outline everyone’s roles and responsibilities.
FAQs About What is a Hard Money Loan
What is a hard money loan, and how does it work?
Hard money loans are typically offered by private investors or companies to real estate investors. They are for those who need fast funding or may not qualify for traditional mortgages.
As a form of asset-backed lending, the loan is secured by real estate, not the borrower’s creditworthiness. This setup allows for quick approvals and more flexible terms, making it appealing for situations like house flipping.
What are typical terms for a hard money loan?
Terms change depending on individual lenders and borrowers. Interest rates on hard money loans average between 10% – 18% but may go higher. They generally have terms between six months and five years.
As of May 2024, traditional purchase mortgages have a nationwide average interest rate hovering around 7.09%.
What is an example of hard money?
Here’s a situation. Say you’re a seasoned house flipper, and you’ve found an incredible investment opportunity—a rundown property with major upside potential if renovated quickly.
Instead of going the long route of a conventional mortgage, you secure a $100,000 loan from a private lender. Your chosen hard money loan requires a 20% down payment and an 11% interest rate, repayable over two years.
This allows you to purchase the property and gives you ample time to make renovations and sell the property.
What credit score do you need for a hard money loan?
Unlike conventional mortgages with stringent credit score requirements, a hard money loan doesn’t heavily weigh creditworthiness as a decisive factor. Your credit score matters, but less so than with conventional loans.
Most traditional loans require a good to excellent FICO® Score to qualify (often 670 or higher), although this can change from lender to lender. What really counts is the equity in the underlying property that backs your loan.
What is a Hard Money Loan: Your Key to Swift Real Estate Financing?
Is a hard money loan the key to your next successful real estate deal? Now that you have a deeper understanding consider whether this powerful financing option’s speed and flexibility outweigh its costs. Every real estate venture is unique, and so are every investor’s financial goals. Make an informed decision that makes sense for you.
Ready to explore your hard money loan options?
Don’t navigate this complex financial landscape alone. Contact Nomadic Real Estate today for expert guidance tailored to your unique real estate investment needs!
Our experienced professionals can help you determine if a hard money loan is the right move for your next project and guide you through the process with ease.
