Guide to Hard Money Lending: Part 2
What Does the Borrowing Process Entail for a Hard Money Loan?
Interested in a hard money loan? If so, then you might be wondering what to expect from the entire process from application to funding. Generally, the process will begin with you approaching a reputable lender; this can involve getting a pre-approval (which can sometimes be done online) or even submitting a complete application for full approval. Often times, getting pre-approved is the easiest and quickest first step to take because it doesn’t require as much documentation. Once you and your borrower work out specific loan terms, then a more thorough application and screening process may be completed
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When applying for a hard money loan, there are a number of different types of documentation that a lender will typically ask for. This includes:
- documentation on the value of the real estate property
- estimates of repairs or construction/rehab costs
- breakdowns on the estimated after-repair-value of the property
- documentation on the title of the property
- proof of insurance (needs to be furnished at closing)
Most lenders will require all of this, in addition to your personal information and written permission for them to run a credit check on you. Typically, you will also need to have an inspection and appraisal done on the property. The appraisal is key in making sure that the amount you’re seeking to borrow doesn’t exceed the current value of the property, as this would be a risky loan for the lender to get into.
In most cases, once you are approved for a hard money loan, you can expect to receive your funding within one to two weeks. This quick turnaround is a major reason that many borrowers in the California real estate market turn to hard money loans as opposed to traditional real estate loans, which can take much longer to close.
A Note About Loan-to-Value Ratios for Borrowers
If you’re in need of 100% financing on your real estate purchase, you may be out of luck. Keep in mind that very few lenders will finance 100% of your purchase, as most will require some form of down payment. Usually, the maximum you can expect a lender to issue for a loan will be around 75% of the total value of the property. This is known as the loan-to-value ratio. It’s not uncommon for some lenders to issue as little as 50% of the total value of the property in a transaction to mitigate their risk. However, this varies from one lender to the next, and because hard money lenders work in a private realm, the specific terms are up to them to decide. The good news is that there are other loan options available to cover down payments, such as mezzanine loans, for those who don’t have the cash up-front.
Typical Repayment Terms for a Hard Money Loan
So, you’ve been approved for a hard money loan. Now what? First, you’ll want to take some time to become familiar with the terms of your loan before you sign off on anything. Remember that hard money loans are meant to be short-term financing solutions, so you will generally not have more than 12 months to pay back the loan, plus any interest, in its entirety. In some cases, repayment periods may be as little as six months. The shorter the repayment period, the higher your payments will be but the less you’ll end up paying in interest when all is said and done.
In some cases, it is possible to negotiate a longer repayment term with a hard money lender. While rare, repayment periods of several years may be worked out. Of course, you’ll need to keep in mind that you’ll pay significantly more in interest if you go with a longer repayment period on your loan. From a lender’s perspective, shorter term loans are always the more lucrative option. They carry less risk and they allow investors to quickly receive their repayment and move onto funding the next deal.
As far as interest rates go, keep in mind that hard money loans tend to have higher interest rates than conventional real estate loans. Usually, interest rates will range between about 10% and 20%, though this can vary greatly from one lender to the next. Interest rates can also vary based on the calculated risk on the deal; a higher risk deal is naturally going to have a higher interest rate so that the lender isn’t completely out-of-luck in the event of a defaulted loan, whereas deals with less risk will tend to have lower interest rates.
Common Hard Money Loan Uses
There are many potential uses for a hard money loan with in the real estate market in California. However, some of the more common uses for this type of loan include:
- construction
- land purchase/development
- fix and flip projects
Many borrowers interested in hard money loans wonder if they’ll be able to get approved with less-than-ideal credit. This is another factor that can vary from one lender to the next, as some may rely more heavily on credit scores in the application process than others. For most lenders, a credit check will be part of the application process. However, so long as borrowers can demonstrate their ability to pay the money back, it is unlikely that poor credit alone will be grounds for denial of financing.