Where did hard money come from?
Hard Money Loans in general have traditionally been only for investors seeking to purchase real estate quickly and with little documentation. Investors by nature are much more educated about their financial situations and options since they are utilizing their sources and going through the lending process much more frequently than the average home owner.
Investors did not want to have to go through a 30-45 loan process every time they purchased a new investment property. Often times their investment projects were time sensitive and needed to be quickly financed or they would lose the deal. Enter Hard Money.
Historically hard money was meant to lend money to anyone based only on the equity position of the property. These new forms of commercial and residential loans were both lent based on the assumption that the lender would only provide 60-65% of the value of a property. They would not be securing their money against the credit worthiness of the borrower, just the equity of the property. This meant no more lengthy credit underwriting bank reviews. Interest rates are much higher with a hard money loan than with traditional financing, but investors are more than willing to pay the higher interest rates and points associated with acquiring these loans in exchange for not being declined due to credit, job, or income issues.
Commercial Hard Money Loans Evolve
Hard Money Loans filled a huge gap in the lending and banking industry. Investors were now able to obtain short term financing very quickly to purchase their properties.
These loans also became very popular with residential lending over time. The average home owner through mortgage brokers gained easy access to these loans which was advantagous to them for several reasons as well. A loan of this type became an option for a home owner who was falling behind in their mortgage payments. Traditional banks and lenders wanted nothing to do with someone that was not able to make their monthly mortgage payments. Often times these people only needed a short term reprieve to overcome some challenge they had been faced with in their lives.
This new loan allowed the home owner to refinance and catch up on mortgage payments. Their payments inevitably rose even higher due to the higher rates, but the loan also allowed the home owner to cash out up to 65-70% of the value of their home! This gave the home owner the power to pay off other debts, catch up on their mortgage history and then refinance again once they were in a better position to more traditional loan options.
Whats in it for the lender?
The lender has several incentives for their risks. The most obvious is the interest the investor makes on his money. It is not uncommon for a hard money lender to command anywhere from 10.99% all they way up to 18% interest on their loans depending on the risk and property types.
The second incentive is the points that a lender collects for offering you their money. The lender often collects anywhere from 1-8% of the total loan amount as their fee for offering you such high risk money. In addition to these upfront fee’s and the high interest rates, the lender may also impose a prepayment penalty ensuring that they get their interest payments over a 6-12 month period. Should the client refinance or sell the lender is able to collect even more fee’s for using their money.
The final benefit is the property itself. Often times the lender does research on the property and determines their risk by their ability to make money should they take back the property from the client. If the client falls behind in their payments the lender would be able to take ownership for example of the mulitfamily apartment complex and make money on the net operating income the property would offer. If the return is not high enough for them they are also able to sell at a discount. Remember they are only lending 65% of the value of the property so if they take it back they can always sell quickly at a discount in order to make quick money on the capital gains of the sale.
Hard money commercial loans today
Hard Money has truly evolved. With the fallout of the credit markets in 2007 this market has a new face. In both residential and commercial markets, hard money seems to have replaced a void left by the subprime market. Subprime is a whole other article but let us just agree that subprime was not only for bad credit buyers and therefore now that hard money is takign that market space neither is hard money.
These loans now can accommodate a wide variety of loan scenarios. It is no longer just for the foreclosure bailout crowd or bad credit investors. The product can cover anything outside the normal local banking guidelines. Private lenders are now allow CLTV’s up to 90%! A commercial investor may only need to bring 10% of the purchase price and can still obtain a hard money loan. This means not showing tax returns, not waiting for lengthy underwriting processes, and getting their money fast.
A commercial Lender today will often do their own due dilligence and appraisals. They are streamlined and have formula in place to quickly tell them if they will be likely to see a return on their investment.
This product is becoming ever more popular in the mortgage industry. Non Standard sources flock to hard money lenders to help them invest their money including pension funds, insurance funds, etc.
As mortgage brokers further infiltrate the commercial market we are sure to see an explosion of hard money commercial loans becoming available to more commercial investors whos only access to commercial money in the past may have been their local bank.