In years of experience with loans, we’ve never actually seen or heard of anyone getting a hard money loan. I guess that’s because they’re not commonly used. At least not in our circle of investors. In general, hard money loans are used to help finance real estate, and are often used when other credit is hard to come by. Here, we’ll discuss what a hard money loan is and why people use them.
What is a Hard Money Loan?
First of all, hard money loans are called “hard money” because they come with pretty strict (or hard) lending rules. These types of loans don’t come from banks, but rather from hard money lenders. You may have seen some signs for some type of hard money lender in your area. They often have terms like “funding”, “financial group”, “coalition” or “lending” in their titles. There are also lots of hard money lenders on the Internet that offer nationwide loans.
Hard money loans are lent using real estate as collateral. Generally, these loans will not exceed 65 – 70% of the value of the collateralized real estate. They also carry interest rates that are much higher than traditional loans, sometimes more than double the rate.
Why do People Use Hard Money Loans?
Hard money loans are typically used as a last resort, and are often associated with distressed financial situations. Although sometimes hard money loans are used to help real estate investors find creative or alternative ways to finance their real estate project. During new construction, bridge loans are used to borrow money that will then be paid back when construction is complete and permanent financing is attained. Hard money loans can be used similar to this but for existing or distressed properties.
Usually, hard money is only sought when traditional bank financing is not available. Because hard money loans are based on underlying assets, credit scores are not as important as with traditional financing. There are many reasons why someone would not qualify for a traditional loan from a bank. These include: poor credit history, too much credit, not enough income, and a property that is not move-in ready or not fully completed.
Because of the high interest rates associated with hard money loans, they are a risky type of loan and should be used for as short as possible. For example, let’s assume you acquired a hard money loan to help buy an apartment building that you couldn’t get a traditional loan on because the apartment complex was not fully rented and the rents did not justify your loan. Your goal should be to get the property in order, get it fully rented, and increase existing rents in line with market rents. Once you’ve done this, you would want to apply for a traditional commercial loan to pay off the hard money loan.
In summary, hard money can be an important tool in your real estate investing, but only if it is used as a temporary fix until you can get your property refinanced with a better loan.