Do you need financing for a high-risk venture? Were you recently turned down by traditional lenders or simply want to secure a loan without dealing with more red tape?
Hard money loans are a viable option for borrowers in your situation. Unlike traditional bank loans, this type of loan requires property as collateral.
So, what is a hard money loan and how does it work?
A borrower's collateral represents a physical "pledge" of repayment. If the loan is not repaid, the lender is allowed to keep the collateral as payment.
There are four primary types of collateral accepted by hard money lenders. Collateral types include real estate, invoices, business equipment, and inventory. You've likely heard of people putting up their cars as collateral; this is called a title loan, but the concept is similar.
Want to learn how to get a hard money loan?
Let's delve more into the nuts and bolts of this high-risk loan type.
What Are Hard Money Loans Used For?
You can use your hard money loan for different purposes.
For example, suppose you're a business owner whose venture has been deemed a "high risk" by traditional financial institutions. You could put your equipment or invoices up as collateral to secure financing for your business. Using invoices as collateral is a good idea if you know you have money coming in to pay them.
You may also be categorized as a high-risk borrower if your credit score isn't high enough to qualify for traditional bank loans. However, having tangible property proves you have liquid assets, making hard money loans a possibility. Thus, having bad credit or even a fair credit score doesn't have to be an obstacle.
A high-risk business owner can also use equipment as collateral to secure a hard money loan. However, you must be sure you can pay back the loan, otherwise, you'll lose the equipment you need to run your business.
Hard money loans are often used to finance real estate purchases, especially for entrepreneurs in the house-flipping industry.
House flippers buy "as is" real estate to sell quickly. Buying a house in "as is" condition means the previous owner doesn't have to invest in any repairs before selling. Instead, house flippers fix up the house to sell as quickly as possible.
However, house flippers have to work fast to earn a good living in this industry. As soon as you buy one home, you need another lined up as you're fixing up the previous purchase. Using properties in your house-flipping portfolio as collateral is a quick way to secure funding for the next property.
Types of Hard Money Loans: Transactional Loans
Once you've decided that you need financing, your next step is to consider the different loan types available.
Transactional loans may be the quickest of the hard money loan types. They're meant for short-term financing. This means they're expected to be paid back pretty quickly.
This type of hard money loan is regularly used by house flippers who are buying and flipping properties quickly.
Read the fine print closely. The loan amount is based on the real estate's "after-repair" value. Remember that transactional hard money lenders take on more risks than traditional institutions.
You don't have to show your credit score to be eligible for this loan, but you do need proof of collateral. It does help to create a payback plan and show it to the lender; this will help create a good working relationship with your private lender.
If all goes according to plan, you could receive your loan in as little as one day. Even better, you can score lower interest rates for this loan than you would for a "bad credit" loan because of your real estate collateral value.
Bridge Hard Money Loans
Your next option is a bridge hard money loan.
These types of loans are less risky for private lenders since the collateral is based on real estate property value. However, your bridge loan will likely come with higher interest rates than a transactional loan. Both loan types are used for short-term financing.
You may find that bridge loans are more flexible for your financing needs. Borrowers typically have up to a year to pay back their loan which is plenty of time to sell off another property to pay for the loan.
Similar to transactional loans, you can expect fast approval if you meet the hard money loan requirements. These may take a bit longer to pay out, typically dispersing funds within two weeks of approval.
Commercial Hard Money Loans
Hard money loans aren't just for financing single-family homes to flip. You can also apply for commercial hard money loans if you want to purchase an office building, for example. Rental loans are also available to finance any renovation needs; these are also available to new house flippers who need renovation funds for their first flipping project.
Commercial projects require much higher loan amounts than loans for single-family homes. As long as you have tangible collateral of high value, you can secure a commercial hard money loan without presenting a credit score. You could also use equipment, retail space, and invoices as collateral.
Pros and Cons of Using a Hard Money Loan
There are many pros already outlined in this article. Another benefit is foreclosure help. Research foreclosure bailout lenders before the bank steps in to take your property.
There's also the possibility of having a steady and reliable lender for years. As long as you pay back your loan and have valuable collateral, you can streamline your financing even faster. Hard money lenders work more quickly than traditional lenders because there are fewer hoops to jump through.
However, if your private lender spots a compliance issue during the bridge loan process, you may experience a setback. Ensure your real estate collateral isn't breaking any compliance codes before using it to secure a loan. This is especially true when it comes to bridge loans.
Are Hard Money Loans Right For You?
Do you need a fast loan and have the collateral to back it up?
Hard money loans may be the right solution for you.
Review this guide again to study the pros and cons before applying for financing. The blog is also full of topics that can help.