Advantages And Disadvantages Of Using Hard Money Loans

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Hard money loans are very popular among investors. They use them in order to finance shorter-term rental properties and real estate investments but can be used in various different circumstances. Such loans are obtained with the purpose of rehabbing a distressed property (what many refer to as fix and flips) or with the purpose of securing buy and hold properties.

Hard money lenders generate loans based on properties being used as collateral. They also think about borrower factors including real estate investment experience and credit score.

What is important is to seek out hard money loans only after understanding the advantage and disadvantages of using this financing option. It is not difficult to find a very good Houston hard money lending company but you need to first decide if this is exactly what you need. You do this by looking at advantages and disadvantages, just like any other decision you would make.

 

Hard Money Loan Advantages

Usually, hard money loans are given to those investors that have a bad credit history. This is surely not always true but it is hard to argue with the fact that the loans are quite beneficial for those that have poor credit.

The main advantages of using hard money loans are the following.

 

Very Fast Approvals And Closings

When you are approved for hard money loans, there are not as many requirements as with other financial options like bank loans. This means the hard money loan can be funded in under 48 hours. Banks often spend over one-month structuring loans. They make their choice based on credit scores and property profitability. Also, when you already have a relationship with the hard money lender, extra benefits become available, like lower origination points and faster loan closings.

 

Low Credit Scores Are Accepted

Banks will decline those that have lower credit scores. With hard money lenders, this is not something to worry about. Decisions are made based on subject property profitability, not credit. Usually, if the investor’s credit score is over 620, it is very easy to get a hard money loan. When the score is lower, you might still be approved. You just need to talk with the lender and explain why the deal is profitable.

The point is, even if the credit score is low if the deal is profitable, there is a very good possibility you will get approved for the loan.

 

Easy To Fund The Fix And Flip Real Estate Properties

Fix and flip real estate properties are usually outdated and vacant. This allows the investor to purchase at a very low price. The investment is risky but the hard money lender realizes the fact that such properties can bring in a very high profit. Lenders fund the deal after numbers are broken down. Basically, the entire decision is a financial one decided by investment numbers.

With the banks, you work with risk-averse lenders. This means that there are specific lending criteria in place that have to be respected at all costs. When properties are considered to be uninhabitable, you are not eligible for the loan. The hard money loans are built for investors that look for fix and flip options. Banks do not work with these.

 

Partnerships Are Established

Hard money lenders do not just give you money. They also help you with advice, guidance, and contacts. The lender can actually help you find very good contractors, stagers, real estate agents, title companies, and many other professionals. You no longer contact the lender simply because you need money. You establish a relationship with the lender since he works with you to increase the possibility that your investment will become profitable.

 

Free Underwriting

In order to receive the hard money loan, you have to be pre-qualified through the underwriting process. This is something that determines loan risk and deal profitability. Lenders take into consideration several things like experience, collateral, and credit score. Fortunately, lenders usually offer free underwriting, which is highly advantageous.

 

Zero Pre-Payment Penalty

If you manage to complete the project early, you can pay back your loan early. Usually, the term is one year, but you can give the money back sooner. In most cases, you do not have to pay a prepayment penalty.

With the conventional loan, lower monthly interest is charged. However, pre-payment penalties are pretty high. The investor that finishes projects early is capable of saving money with hard money loans.

 

Investing In Off-Market Properties

These are properties put on the market by wholesalers, which are individuals that locate off-market properties. They secure the properties with contracts and then resell them to the investors. The process usually takes just a few days.

The big problem with these properties is that they are not advertised on the internet or in any other public place. Lenders can actually put you into contact with local wholesalers and you can thus locate some perfect off-market properties.

 

Hard Money Loans Disadvantages

You cannot just look at the advantages before deciding if a hard money loan is a good option for you. Always analyze the disadvantages that are presented below before the final decision is made. This will help you to easily choose something that is good for you.

 

Medium To High-Interest Rates

Typically, the interest rates associated with hard money loans are around 10%. This is significantly higher than what the banks charge. Hard money lenders do take more risk on you so they have to charge higher. With banks, interest rates are lower since they deal with lower-risk properties.

 

A Down Payment Is Required

For the fix and flip real estate properties, the investor has to bring forth 20% or more of the closing property purchase price. For novice investors, this is quite difficult to do. That is especially the case when properties are expensive.

Hard money lenders need the down payments because:

  • They reduce foreclose and default risks.
  • They incentivize the investors so that projects will actually be completed.

 

Origination Fees

These are fees that borrowers pay so that money from the lender can be used. They also cover the time spent by lenders to create a deal. When closing the loan, borrowers pay up to 5% of the entire amount of the loan. However, this can drastically vary from one hard money lender to another. And the fees can be reduced when the investor is highly experienced.

 

Extension Fees

In most cases, the length of hard money loans is 1 year. There is a contract signed that requires borrowers to complete flips, sell properties, and also pay back lenders. All needs to be done during that time. When there are problems that change the timeline, the borrower might not be able to be finished. In this case, an extension can be requested.

The hard money lender is flexible with extensions. But, borrowers have to get ready to deal with the consequences. This can include higher monthly interest payments. And, of course, the extension fees.

 

Default – Foreclosure

Foreclosure risk is quite similar to bank mortgages. Whenever monthly interest payments are not paid, properties are not repaired or maintained, the unpaid loans can force borrowers to deal with foreclosure. For the lender, this can be quite costly. As a result, borrowers are usually helped to figure out game plans so that projects can actually be finished.

When real estate investments do not bring in the results desired and there is fear of foreclosure or default, make sure that you discuss it with the lender. A failure to do this will lead to you losing the property you invested in. This is something you need to avoid at all costs.

 

Final Thoughts

You can avoid the risks highlighted above when you properly understand the fees and terms of the lender. You also need to have a very good exit strategy in place though and you have to commit to all the discussed payments, especially when it comes to paying the lender on time.

The very good news is that the hard money lender will be much more interested in helping you a second time in the event that the first deal you signed was successful. This will lead to lowered origination points and interest rates.

The bad news is you cannot actually get a hard money loan from the first lender you find on the internet. There are some on the market that are not really interested in helping investors. They just care about the profits they can make. Such a lender should be avoided because the possibility of having to deal with serious problems whenever something goes bad is pretty high.

Take all the time you need to compare all the different hard money lenders that could help you. Get quotes so you know exactly what you agree with but make sure everything in the quote is also included in the contract you sign. Never blindly chase deals that seem to be too good to be true. There is a huge possibility you will be faced with things that could have easily been avoided.

 

By Andrew Simmons

 

Bio – Andrew Simmons is an experienced digital marketing consultant and a passionate blogger. He has a vast knowledge of search media and online advertising to promote online branding and reputation. He loves to share his industry knowledge and experience with readers.

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