If you need money in a pinch, and the usual channels aren’t working out for you, it’s time to go hard money. What’s a hard money loan? It’s a loan that’s based almost entirely, if not entirely, on the underlying asset that’s being purchased. So, instead of buying a house with credit, for example, you buy it based on the strength of the home itself and what it’s worth.
Because of this, hard money loans typically have a lower LTV (loan-to-value), meaning that you don’t get as much money as you would from a traditional lender. Additionally, your interest rate is higher even than a subprime loan – considering the lender isn’t using your credit, he’s taking a substantial risk.
Are these loans right for you though? Here are some things to think about:
It’s Easier To Purchase Homes With Bad Credit
When you have bad credit, it’s difficult to get a loan from anyone. Hard money loans give you an option that otherwise wouldn’t exist. So, for example, if you get involved with this tax lien investing program, but you’re like most people and don’t have the credit to support buying multiple homes or taking on debt to buy out the tax lien, then a hard money loan might be the only way to acquire the liens you want.
All that’s needed is security for the loan. You could use your own home in the case of a tax lien, or the home you’re purchasing if you’re buying a tax deed.
The Documentation Is Simpler
Documentation for hard money loans is much simpler, because it doesn’t follow the same rules as a traditional loan. The lender isn’t basing the decision on your credit. Mostly, you’re being judged based on the value of the property that secures the loan and what the lender thinks your ability to repay is.
Documentation will specify the collateral used for the loan, the loan amount, the repayment terms, and legal disclaimers.
The Deal Closes Quickly
When you apply for a hard money loan, the closing typically happens within 3 days. This is much shorter than a traditional loan, which can take several weeks to a few months to close.
The Convenience Is Costly
With all of the advantages of a hard money loan, what’s not to love? Well, all of that convenience comes at a price. Because the lender isn’t basing the lending decision on your credit, he has to charge you a premium for the risk he’s taking.
In other words, you pay a higher rate of interest on the loan. That loan will cost you more, in most cases, than a subprime loan.
The Lender Can Take Your Assets Away Quickly
Lenders aren’t afraid to take your assets away with a hard asset loan. In fact, many lenders almost expect that they will have to repossess properties backed by these loans.
The interest rate is indirect proof of this. They build the added cost of repossession and resale into the loan amount, and some lenders have divisions specifically set up to repossess property and resell it to recoup losses.
With a traditional bank loan, even when it is secured, there’s a lengthy process a bank has to go through to repossess a property through foreclosure proceedings. This is not the case with hard money lending, and the type of property that can be attached to a loan can be almost anything.
So, if you’ve pledged a car, a home, investments, or other property you own, you could potentially lose it all. This is a huge risk, and one that some people might find unacceptable.
The Repayment Period Is Shorter
The repayment period is usually shorter than with a traditional loan. Hard money lenders want their money back quickly, because the longer the loan is outstanding, the higher the risk to them. Remember, they are securing assets that may not always increase in value over time, and they view you as a serious credit risk.
The LTV Is Lower
If you can’t put down a sizable down payment, hard money lending probably won’t work for you. Lenders aren’t in the business of losing money or doing favors. They’re in it for the money. So, come to the table with at least 30 percent of the value, sometimes more.
Because of the sizable down payment required, loans tend to either be smaller (who can afford a $100,000 down payment for a large home?) or borrowers can’t front the money needed to get the loan.
At the end of the day, hard money loans are a financial tool – a tool that can be beneficial under the right circumstances, but which can also be very tricky to use successfully.
Ted Thomas is a Florida based educator, publisher and author of more than 30 books. He is now an in demand international speaker having spoken with Tony Robbins in engagements on investing throughout the world in Singapore, England, Australia and more.