A hard money lender is an alternative to traditional bank financing. They are usually private individuals with an abundance of money that they will lend to real estate investors on a short-term basis. These loans are not limited to the purchase of real estate but can also be used for the repair of distressed properties.
Hard money loans are called this because they charge higher than market interest rates, have higher upfront fees at closing usually in the form of points and will lend to a much lower loan-to-value (LTV) ratio compared to traditional bank financing. The terms charged by hard money lenders vary from lender to lender and are sometimes influenced by the experience level of the investor and the amount of transactions they have completed with the lender. Lenders will generally lend anywhere from 60 to 75% of the after repaired value (ARV) at a rate of between 10 to 18% and charge points from 2 to 8 points. The loan terms usually range from 6 to 18 months.
These loans can be an effective tool used by real estate investors as they build their real estate empire. With the recent tightness in the lending market, it has become more difficult for investors to get loans for investment properties. Traditional lenders are requiring a higher down payment percentage and they will not finance the rehab costs. For investors this means they are required to come up out-of-pocket costs for the down payment and the rehab. For some investors this amount will limit their ability to purchase a profitable property. Hard money lenders on the other hand will lend based on the ARV instead of the purchase price. If an investor is able to purchase a property at a low enough value then they could finance the entire acquisition cost and rehab cost which allows them to essentially purchase a property with little to no money down.
Starting August 1, 2008 Freddie Mac is lowering their loan limit for investor loan from ten loans to four loans. Investors who wish to invest in more than four properties will have to find alternatives to loan endorsed by Freddie Mac. Hard money loans can provide an alternative source of financing for real estate investors.
Traditional bank financing usually takes 30 to 60 days to close on a loan. Hard money lenders can sometimes close on a loan in as little as 48 hours but the average is seven business days. If a real estate investor finds a deal that is on the verge of being foreclosed on in a week’s time then they would not be able to purchase that property using traditional bank financing. A hard money loan is the only viable alternative in that scenario.