Last Updated on August 2, 2021
What are Hard Money Loans? Everything You Need to Know
A hard money loan is a non-traditional loan given from a private lender in which the asset being purchased with the loan doubles as collateral for the loan. These loans are also sometimes called short-term bridge loans, as they “bridge” the gap between long-term financing and investment purchases. Hard money loans are mainly used for real estate transactions and help speed up home financing, as they can help speed of the process between buying and selling a property. However, they do have a few other potential uses, and could be very helpful for providing funding, depending on your goals.
In this guide to hard money loans and hard money lenders, you’ll learn all about:
- How hard money loans work
- Why hard money loans are helpful
- Whether or not you should get a hard money loan
- Problems with hard money loans
- Alternative options
- When and how to use hard money loans
How do hard money loans work?
With hard money loans, the funds come directly from private investors rather than traditional lenders, and the property itself being purchased acts as collateral. If for some reason you can’t repay the loan, hard money lenders will then sell that property in order to get their money back. These loans typically have shorter terms than most mortgages and usually last one to three years. They act as an alternative to conventional loans from the bank, particularly in situations that can be risky such as flipping houses. If you’re interested in fix-and-flips, we’ve written the quintessential guide that can be viewed here. Hard money loans are useful for these types of projects as well as a multitude of other situations which we’ll discuss below.
Why are hard money loans helpful?
While traditional mortgage lenders focus on your income and credit score to see if you can repay their debt, hard money lenders mainly care about your collateral and how valuable it is. This helps people with low credit scores or variable income obtain a loan for a property. It also allows people to get money to buy a property very fast, which can be incredibly useful if you’re in a time crunch for a property.
Should I get a hard money loan?
If you’re looking to invest in real estate quickly but struggling to obtain traditional funding, you could consider a hard money lender. This is a good option if you have a poor credit history. Since private hard money lenders don’t have as many factors to consider, they tend to move faster when providing funding, which helps you secure deals fast. If you’re trying to buy real estate in a hot market and compete with other offers, a hard money loan could be for you. It can also help you get approved faster, since the property itself acts as collateral. This speedy approval is especially useful for investors looking to take advantage of hot real estate markets like Florida, for example.
Due to their speed, hard money loans can also come in handy when purchasing a house for personal use. If your house is at risk of foreclosure, consider using a hard money loan to try to turn that situation around. Similarly, if you’re looking to buy a new house but haven’t sold your current house yet, you could think about using your current house as collateral for a loan from a hard money lender. This solution would put you on the fast track to buying a new home, as you will have the necessary funds to do so quickly.
Additionally, hard money loans can have more flexibility and room to negotiate than traditional loans, depending on your situation. For example, it can sometimes be possible to adjust repayment schedules. This can also be a more personalized experience than working with a typical mortgage lender, as you are working more directly with individuals than with major banks.
Problems with hard money loans
Unfortunately, hard money loans can still be an expensive way to borrow money. Some people consider these loans to be a last resort method of obtaining funds for a purchase. Hard money lenders often have extra costs, such as high interest rates and closing costs. These high costs help reduce some more of the risk for the lender. Sadly, hard money lenders also usually demand a relatively large down payment, sometimes going above 30%. Although you may not need a good credit score to obtain a hard money loan, it is still important to have some assets on hand for this situation. Additionally, if you are buying an investment property with a hard money loan, you may feel like you have less freedom throughout your project, as delays or alterations in your plans can become costly due to the need to keep paying another party. Lenders can require steep payments at times and put pressure on you to keep up.
Alternative options to hard money loans
There are some conventional loans, such as FHA loans, that you can still obtain without perfect credit. Thanks to assistance from the Federal Housing Administration, these loans have relatively low down payments while still maintaining much lower interest rates than hard money loans. Lenders are protected by the FHA and so can take more risk when deciding who to loan money too, which allows them to offer loans even to people with struggling credit or a history of bankruptcy. These options do still have stringent requirements and other factors to investigate, however. These requirements and more can be found here.
Another possibility to look into for real estate financing is home equity loans. Equity refers to the gap between the value of your home and how much you still need to pay as part of your mortgage. These secondary mortgage loans let you take advantage of that equity and use it to pay back your loan with monthly payments.
Hard money loans
Although it can be easy to get approved for a hard money loan, most lenders will only offer low loan-to-value (LTV) ratios. Typically, the maximum LTV ratio is somewhere from 65% to 75%, and so you will still need some assets to qualify for a hard money loan. These conservative LTV ratios make lending money less risky for hard money lenders, as they will have an easier time making back their money should something go wrong. It’s important to keep in mind that private money lenders must always be ready for the worst-case scenario, and so will likely never want to provide 100% loan financing. If you think you have an amazing opportunity and would still like to try and pursue 100% financing, you can do further reading here.
When can I use a hard money loan?
Due to high interest rates, you only want hard money loans for short-term loans. If you are looking to fix and flip a property and make a profit fast, hard money loans could be an excellent way to speed up the process. There are a lot of great ways to take advantage of hard money lenders, especially in hot markets. Hard money loans are generally preferable for people looking to invest in a property and sell it, rather than those who want to live in a property (due to their short-term nature and high rates). If you feel you have an exceptional situation in which this doesn’t apply to you, contact a hard money lender for more personalized advice.
How can I get a hard money loan?
If you’re looking to get a hard money loan, reach out to institutions that specifically offer hard money services. Hard money lenders may not be as hard to find as you think, particularly if you look for them online. Reach out to lenders, real estate agents, and local investors to make connections and start funding your projects quickly and easily. Try negotiating with different lenders to see who has the best terms.
Hard money loans are provided by private hard money lenders for investment in real estate. These loans have short terms, and provide reduced risk for the lender because the asset and the collateral are the same. Keep an eye out for high interest rates and pay attention to the LTV ratio offered by a lender. If you are looking for a short-term loan to finance your investment, or if you have struggled to gain traditional financing, hard money loans could be a great fit for you.
Jack Roberts has spent the last 5 years in the Private Money Lending world helping real estate investors secure financing for their non-owner occupied real estate investments. When he’s not thinking about real estate, Adam is an avid Jazz music fan and fisherman.