Hard money loan

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A hard money loan is a specific type of asset-based loan: a financing instrument through which a borrower receives funds secured by real property. Hard money loans are typically issued by private investors or companies. Interest rates are typically higher than conventional commercial or residential property loans because of the higher risk and shorter duration of the loan. [1]

Contents

Overview

Most hard money loans are used for projects lasting from a few months to a few years. Hard money is similar to a bridge loan, which usually has similar criteria for lending as well as costs to the borrowers. The primary difference is that a bridge loan often refers to a commercial property or investment property that may be in transition and does not yet qualify for traditional financing, whereas hard money often refers to not only an asset-based loan with a high interest rate, but possibly a distressed financial situation, such as arrears on the existing mortgage, or where bankruptcy and foreclosure proceedings are occurring. [2]

The loan amount the hard money lender is able to lend is determined by the ratio of loan amount divided by the value of the property. This is known as the loan to value (LTV). Many hard money lenders will only lend up to 65% of the current value of the property. [3] There is no such thing as 100% LTV for this type of transactions. These loans are meant for investors and the lenders will always require a higher down payment.

"Hard money" is a term that is used almost exclusively in the United States and Canada, where these types of loans are most common. In commercial real estate, hard money developed as an alternative "last resort" for property owners seeking capital against the equity in their real estate holdings. The industry began in the late 1950s when the credit industry in the U.S. underwent drastic changes. [4]

In recent years, an industry consensus has built that the term hard money no longer accurately describes the industry's direction, structure or attitude and that alternative terms are preferable. In March 2022, the National Private Lenders Association (NPLA), a trade group representing the industry, passed an official resolution encouraging industry participants to no longer use the term “hard money,” and instead use terms like “private lending,” “bridge lending” and “transitional lending.” [5] Through this resolution, the NPLA confirmed its commitment to supporting the cessation of the use of the term “hard money” to describe the lenders or products in the industry. In addition, the American Association of Private Lenders (AAPL), another industry trade group, published an article, “The Demise of ‘Hard Money’ in a Private Lending World,” highlighting the group’s efforts since its inception to minimize the use of the hard money term. [6] AAPL also made the change around hard money terminology the focus of its 2021 conference.

From inception, the hard money field has always been formally unregulated by state or federal laws, although some restrictions on interest rates (usury laws) by state governments restrict the rates of hard money such that operations in several states, including Tennessee and Arkansas, are virtually untenable for lending firms. [7]

The hard money loan mortgage market has greatly expanded since the 2009 mortgage crisis with the passing of the Dodd-Frank Act. The reason for this expansion is primarily due to the strict regulation put on banks and lenders in the mortgage qualification process. The Dodd-Frank and Truth in Lending Act set forth Federal guidelines requiring mortgage originators, lenders, and mortgage brokers to evaluate the borrower's ability to repay the loan on primary residences or face huge fines for noncompliance. Therefore, hard money lenders only lend on business purpose or commercial loans in order to avoid the risk of the loan falling within Dodd–Frank, TILA, and HOEPA guidelines.

Because the primary basis for making a hard money loan is the liquidation value of the collateral backing the note, hard money lenders will always want to determine the LTV (loan to value) prior to making any extension of financing. A hard money lender determines the value of the property through a BPO (broker price opinion) or an independent appraisal done by a licensed appraiser in the state in which the property is located. [8] [9]

The interest rates on hard money loans are typically higher than the rates charged for traditional business loans. Rates could be as low as 6% and as high as 14% or more. Despite this, such loan options are popular among real estate investors for their fast approvals, higher flexibility, less extensive documentation procedures, and because they are sometimes the only option for securing funds. [10]

See also

Related Research Articles

This aims to be a complete list of the articles on real estate.

A bridge loan is a type of short-term loan, typically taken out for a period of 2 weeks to 3 years pending the arrangement of larger or longer-term financing. It is usually called a bridging loan in the United Kingdom, also known as a "caveat loan," and also known in some applications as a swing loan. In South African usage, the term bridging finance is more common, but is used in a more restricted sense than is common elsewhere.

A non-conforming loan is a loan that fails to meet bank criteria for funding.

In the United States a commercial lender offers loans backed by hard collateral. In most cases this is real estate, but it can also include factoring, non-conforming assets, or other sources of collateral.

<span class="mw-page-title-main">Mortgage-backed security</span> Type of asset-backed security

A mortgage-backed security (MBS) is a type of asset-backed security which is secured by a mortgage or collection of mortgages. The mortgages are aggregated and sold to a group of individuals that securitizes, or packages, the loans together into a security that investors can buy. Bonds securitizing mortgages are usually treated as a separate class, termed residential; another class is commercial, depending on whether the underlying asset is mortgages owned by borrowers or assets for commercial purposes ranging from office space to multi-dwelling buildings.

Lenders mortgage insurance (LMI), also known as private mortgage insurance (PMI) in the US, is a type of insurance payable to a lender or to a trustee for a pool of securities that may be required when taking out a mortgage loan. Its purpose is to offset losses in the case where a mortgagor is not able to repay the loan and the lender is not able to recover its costs after foreclosure and sale of the mortgaged property.

<span class="mw-page-title-main">Second mortgage</span>

Second mortgages, commonly referred to as junior liens, are loans secured by a property in addition to the primary mortgage. Depending on the time at which the second mortgage is originated, the loan can be structured as either a standalone second mortgage or piggyback second mortgage. Whilst a standalone second mortgage is opened subsequent to the primary loan, those with a piggyback loan structure are originated simultaneously with the primary mortgage. With regard to the method in which funds are withdrawn, second mortgages can be arranged as home equity loans or home equity lines of credit. Home equity loans are granted for the full amount at the time of loan origination in contrast to home equity lines of credit which permit the homeowner access to a predetermined amount which is repaid during the repayment period.

<span class="mw-page-title-main">Loan-to-value ratio</span> Financial term used by lenders

The loan-to-value (LTV) ratio is a financial term used by lenders to express the ratio of a loan to the value of an asset purchased.

<span class="mw-page-title-main">Commercial mortgage</span> Mortgage loan secured by commercial property

A commercial mortgage is a mortgage loan secured by commercial property, such as an office building, shopping center, industrial warehouse, or apartment complex. The proceeds from a commercial mortgage are typically used to acquire, refinance, or redevelop commercial property.

This article gives descriptions of mortgage terminology in the United Kingdom.

Loan origination is the process by which a borrower applies for a new loan, and a lender processes that application. Origination generally includes all the steps from taking a loan application up to disbursal of funds. For mortgages, there is a specific mortgage origination process. Loan servicing covers everything after disbursing the funds until the loan is fully paid off. Loan origination is a specialized version of new account opening for financial services organizations. Certain people and organizations specialize in loan origination. Mortgage brokers and other mortgage originator companies serve as a prominent example.

Mortgage insurance is an insurance policy which compensates lenders or investors in mortgage-backed securities for losses due to the default of a mortgage loan. Mortgage insurance can be either public or private depending upon the insurer. The policy is also known as a mortgage indemnity guarantee (MIG), particularly in the UK.

<span class="mw-page-title-main">Real estate investing</span> Buying and selling real estate for profit

Real estate investing involves the purchase, management and sale or rental of real estate for profit. Someone who actively or passively invests in real estate is called a real estate entrepreneur or a real estate investor. Some investors actively develop, improve or renovate properties to make more money from them.

Requires updating to reflect the current Income Tax Act and the growth of MICs that trade on the TSX.

Private money investing is the reverse side of hard money lending, a type of financing in which a borrower receives funds based on the value of real estate owned by the borrower. Private Money Investing (“PMI”) concerns the source of the funds lent to hard money borrowers, as well as other considerations made from the investor's side of the equation.

Commercial hard money is a term describing a commercial loan that is generally non bankable. The company usually does not meet the standard banking criteria, but has real estate and or assets that are sufficient to collateralize the loan to the investors/lenders.

<span class="mw-page-title-main">Mortgage loan</span> Loan secured using real estate

A mortgage loan or simply mortgage, in civil law jurisdicions known also as a hypothec loan, is a loan used either by purchasers of real property to raise funds to buy real estate, or by existing property owners to raise funds for any purpose while putting a lien on the property being mortgaged. The loan is "secured" on the borrower's property through a process known as mortgage origination. This means that a legal mechanism is put into place which allows the lender to take possession and sell the secured property to pay off the loan in the event the borrower defaults on the loan or otherwise fails to abide by its terms. The word mortgage is derived from a Law French term used in Britain in the Middle Ages meaning "death pledge" and refers to the pledge ending (dying) when either the obligation is fulfilled or the property is taken through foreclosure. A mortgage can also be described as "a borrower giving consideration in the form of a collateral for a benefit (loan)".

In real estate, creative financing is non-traditional or uncommon means of buying land or property. The goal of creative financing is generally to purchase, or finance a property, with the buyer/investor using as little of his own money as possible, otherwise known as leveraging. Using these techniques an investor may be able to purchase multiple properties using little, or none, of his "own money".

A Jumbo mortgage is classified in the United States as a residential mortgage or other home-equity secured loan in an amount greater than $650,000, although lenders differ on just what constitutes a super jumbo mortgage subject to their own internal investment criteria. Super Jumbo mortgages are made available to borrowers whose loan requirements exceed the guidelines commonly referred to as Jumbo loan limits, which apply to mortgage loan amounts in excess of the FNMA / FHLMC conforming loan limits of 417,000. Unlike Jumbo loan limits, the super jumbo mortgage category is not directly defined, controlled, or regulated by any of these aforementioned agencies. Instead, mortgage lenders internally and independently define their own parameters and criteria for what defines a Super Jumbo mortgage. The minimum loan amount for some lenders to classify a loan as Super Jumbo ranges from $500,000 to $1,500,000, with maximum super jumbo loan amounts generally running into the $10,000,000 to $20,000,000 range.

A licensed trust deed investment company (TDIC) offers investments in collateral-backed property loans in the United States. Unlike private individuals who are generally subject to usury laws limiting interest rates on loans, TDICs can legally lend to property owners at rates determined by market demand. Because TDICs usually lend to borrowers with needs banks cannot accommodate, market rates for trust deed investments are usually significantly higher than bank mortgage rates.

References

  1. ↑ Adams, Kurt. "What Are Hard Money Loans and How Do They Work?". LendingTree. Retrieved 2023-07-27.
  2. ↑ Bhutta, Neil; Skiba, Paige Marta; Tobacman, Jeremy (March 2015). "Payday Loan Choices and Consequences". Journal of Money, Credit and Banking. 47 (2–3): 223–260. doi:10.1111/jmcb.12175.
  3. ↑ Pustejovsky, Phil (2012-06-11). How to Be a Real Estate Investor. Freedom Mentor. pp. 186–87. ISBN   978-1-4752-3521-0.
  4. ↑ "Evaluating the Consumer Lending Revolution" (PDF). FDIC Office of Inspector General. 17 September 2003. Retrieved 7 February 2019.
  5. ↑ Kame, Amy (2022-04-07). "The National Private Lenders Association". National Private Lenders Association. Retrieved 2023-02-01.
  6. ↑ AAPL (2022-03-15). "The Demise of "Hard Money" in a Private Lending World". American Association of Private Lenders. Retrieved 2023-02-01.
  7. ↑ "Usury Law". Washington State Department of Financial Institutions. Retrieved 12 October 2015.
  8. ↑ "Comptroller's Handbook - Commercial Real Estate Lending" (PDF). US Department of the Treasury. 15 January 2017. Retrieved 9 September 2017.
  9. ↑ Private Lenders Guide
  10. ↑ "Hard Money Loan FAQs". CIVIC. Retrieved 5 May 2022.
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