Prosper Newsletter: May 2007 > Real Estate

You understand that the following information is educational in nature and is not intended to be legal, accounting, or tax advice. You are responsible for your own financial decisions and should consult your own legal, accounting, and tax advisors before making your financial decisions.

Understanding Hard Money Lenders

As a real estate investor you may not always be able to qualify for traditional financing methods. At times you may not have time to complete the necessary paperwork in order to obtain a typical mortgage. Being able to find and utilize hard moneylenders will give you additional options and allow you to take advantages of more deals.

Some people are interested in real estate but do not want to take the courses and classes and do the preparation necessary to learn about the whole process. They do, however, have money that they are willing to invest with someone that has gone through that process. These people are excellent sources for funds. People that you find on your own and that permit you to have a lot of control over the terms of the loan are called private lenders. Those who are already set up in business to make loans with their own funds are called hard moneylenders.

Some of the terms that a hard moneylender might require are listed below.

Loan to Value—the ratio of the amount you are borrowing to the value of the property. Usually a hard moneylender will require some kind of appraisal. It is very common for them to limit the amount of the value of the property that they are willing to lend. For example, 65% of the value of the property is a fairly common amount for hard moneylenders to loan. In certain markets they will go higher. Two years ago in Los Angeles a hard moneylender would have gone up to 90 percent because of the depreciation that was going on. Sometimes Loan to Value is based on the repair value of the property, which isn't common with most loans. If you have a hard moneylender that will agree to 65% and you have a property that is currently worth 300,000 dollars, but will be worth 400,000 dollars when you are done fixing it up, the hard moneylender might give you 65% of the 400,000 dollars instead of the 300,000. It would depend on the individual hard moneylender.

Points—the money that is added on to the principal of the loan up front. It is somewhat like a Loan Origination Fee. Sometimes bankers charge you a point or a half a point in exchange for a lower interest rate. What the points mean is that each point is one percent of the base value of the loan and that amount is going to be added on to the principal. So if you were going to borrow 200,000 dollars and pay one point in order to secure that loan, and if you paid it off a day later, you would not owe 200,000 dollars, but you would owe 202,000 dollars, or one percent more than you had borrowed. Commonly hard moneylenders are going to charge anywhere from two to ten points, with five points being the most common. That is a pretty stiff Loan Origination Fee if you think of it in those terms, but what is really happening is that the hard moneylenders are making most of their income from the points. That is why they don't mind agreeing to a very short-term loan. If you go to a conventional bank for a loan that is only going to last for three months, they will be a little upset when you pay it off so soon, because it would take them more than three months for them to recover the cost of granting the loan. A hard money lender, however, will charge the points and make his money up front, and will not be hurt if you pay the loan off quickly.

Hard moneylenders usually charge anywhere from 12 to 20 percent for the interest rate, but they can go from 0 percent to 29 percent. The general rule is the lower the interest rate, the higher the points. For example, for a six-month loan with ten points you could have zero percent interest. At first glance it sounds pretty good, but remember that the interest is not the same as the points. For example, if your choice was five points at fifteen percent interest for a six month loan of 100,000 dollars, or ten points at zero interest for six months, the five points would mean that you now owe 105,000 dollars, with fifteen percent interest that would equal 7,875 dollars to cover the interest. So with the points and the interest added up, it would be 12,875 dollars in interest. The ten points and no interest would be the better deal. It would be 2,875 dollars less in the long run. If you just look at points, you might pick the wrong loan.

When using hard money, typically you are looking for what is called a Bridge Loan, or something to carry you over past a certain event, or a short-term loan. The long-term financing would be hard to do with this situation. You might need a hard moneylender when you need to close very quickly. Hard moneylenders have the ability to decide on a loan much quicker than a bank or other lending institution.

Hard moneylenders usually require that you sign a contract that is very safe for him that will protect him if you default. Make sure you read the contract thoroughly and carefully.

You may also want to use a hard moneylender when your own credit isn't very good, or if your debt to income ratio is too high to suit the local banker. The hard moneylender will base his decision whether or not to give you the loan on the deal that you make, not your credit history or other such factors.

Back to Work

Despite our best efforts to keep focused on our investing business, sometimes our busy schedules prevent us from spending sufficient time working our business. It can be rather frustrating to want to dedicate time and effort to real estate but not be able to for whatever reasons. Unfortunately, many investors in this situation will eventually throw in the towel and completely shut down their investing efforts. This is a terrible mistake, and we shouldn't have this knee-jerk reaction when life's responsibilities pull us away from our real estate activities.

If you completely stop all real estate activities for a period of time, when you do find the time again, you will come back into the market cold and have to start from square one. A very simple and easy way to stay in touch with the market while you are "away" from the business is to spend a few minutes everyday looking at property listing sites (literally a few minutes is all you need). Even though you may not have time to look at properties and make offers, it will be tremendously value to stay in tune with what is going on in your investment areas and your local market by simply keeping abreast as to what homes are on the market, how long they are sitting, what they are selling for, etc. Now, when your schedule is freed up and you can start working your business again, you are not coming in cold but are aware of market trends and know what has been going on during your hiatus

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