What Are Hard Money Loans in Real Estate Investing?

You need fast financing for your investment property, but you’ve hit a wall. The project itself is invigorating, but funding it is a headache. You’re stuck wondering, “what are hard money loans, and are they worth it”?

Before spearheading the construction of your investment property you need to understand your financing options. Otherwise, you could end up losing more capital than you earn. This happens quite often, so every decision is crucial.

In fall 2021, RealtyTrac reported that a whopping 63% of investors list “rising home prices” as the #1 challenge in the real estate investment market. And the ongoing pandemic has added even more obstacles, like high prices and low supply. 

If you want maximum profit on your investment, you’ll need to learn everything you can about hard money loans. 

Let’s begin.

Table of Contents:

What Is a Hard Money Loan?

Hard money loans are short-term and secured by real property, mostly used for fix and flip projects. They’re perfect if you need fast access to funds for your investment property. 

Keep in mind: you might get a lower loan-to-value (LTV) than, say, a mortgage. That’s a small price for convenience and timeliness, though.

Usually offered by individuals or companies, these kinds of loans feature a much shorter funding time frame and payment terms are often negotiable. This is because they’re based on collateral (e.g. a house), instead of the applicant’s credit status. To compare, bank loans typically base loan approval and amount on the applicant’s credit report. 

While all hard money loans are short-term and secured by collateral, they are a couple of categories you can choose from:

  • Hard Money Commercial Construction Loans – Builders use hard money commercial loans to finance real estate construction projects. You can typically count on a 12 – 24 month loan period – just enough time to finish the construction of their project.
  • Fix and Flip Hard Money Loans – These last about 12 – 18 months, and are designed to help investors purchase and renovate a property, which they can then sell at a profit.

The convenience and speed are major upsides, but remember to prioritize higher loan-to-value ratios when choosing a lender. For example,  Revolution Realty Capital offers up to 90% LTV for fix and flip solutions.

Hard Money Loan Requirements

Hard money loans require collateral, a down payment, and an exit strategy. The first and most obvious requirement for hard money commercial construction loans is your collateral. This will likely be the property you’re fixing up, as long as you have enough equity in it. 

To be clear: you can’t secure a hard money loan with a property you don’t own.

Next, you’ll need a down payment. Usually, the minimum will cost from 30% – 40% of the loan amount for commercial real estate and 20% – 30% for residential properties. 

Though, you can often find even better prices, with the right lender

Finally, lenders will want to know about your exit strategy and how you plan to pay the loan back. Will you pay immediately after selling the property? Will you refinance the loan to buy more time? Having these details outlined ahead of time will prove that you are a reliable applicant. 

Now that you know the requirements of a hard money loan, let’s explore the process of getting one.

Hard Money Loan Process

With traditional loans, lenders put applicants through a vetting process where credit scores, proof of income, and more are considered for approval. Hard money loans are completely different. 

The stand-out feature of these loans is the speed. If you’re investing in real estate, a quick turn-around is essential, which makes this option perfect. 

It’s crucial to create a  payment strategy. While hard money loans are fast and convenient, defaulting on the loan could cost you the property and any profit from selling it. Establish a foolproof plan to pay off your loan on time, even if the property rents or sells for less than expected. 

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Next, make sure that you meet the hard money loan requirements. Collateral to secure the loan, your down payment, and a clear exit strategy are all necessary when applying. The most important part of this process is finding a reputable private money lender that you can trust to honor your agreement. Look for strong social proof like reviews and referrals. 

Once you find your lender, you’re ready to start the hard money loan process. Most lenders have an application on their website or in the office. If you have everything prepared ahead of time, this should be the quickest part of the process. It usually takes one or two days for lenders to approve a hard money loan. 

Once approved, all you have to worry about is meeting the terms of your loan within the agreed-upon timeframe. In most cases, funds are transferred within a couple of weeks.

But before you start the loan process, let’s go over what you can expect to pay for hard money loans.

Hard Money Loan Example

Let’s say you buy a fixer-upper at $350,000. It’s not a lost cause, but it needs work. The renovations come to $35,000. Not bad. 

With a hard money loan, you could pay a 10% down payment and then $315,000.

Keep in mind that lenders will likely charge a 2% setup fee, plus 10% interest. That’s an additional expense of about  $34,650, over the life of the loan. Whether or not that’s reasonable depends on your budget and the value potential of the property.

Pros and Cons of Hard Money Loans

In the world of real estate investing, there are risks and rewards everywhere. However, seasoned investors know that the secret to large profits is carefully weighing the pros and cons. Here’s a chart to help you out.

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Hard Money Loan Pro

Flexible terms

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Hard Money Loan Con

Higher interest rates

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Hard Money Loan Pro

Fast access to money

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Hard Money Loan Con

Upfront costs

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Hard Money Loan Pro

Lower priority on credit scores

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Hard Money Loan Con

Risk of losing your investment

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Pros of Hard Money Loans

  • Flexible terms: Hard money loans are asset-based, so lenders will often negotiate terms if you have valuable collateral.
  • Fast access to money: The entire process (deposited funds included) usually takes a couple of weeks.
  • Low priority on credit: Poor credit scores won’t hinder you if you have enough collateral.

Cons of Hard Money Loans

  • Higher interest rates: Interest rates can be 0.5% — 0.75% higher than a residential property loan. 
  • Upfront costs:Lenders charge an origination fee of about 1% – 5% of the loan amount. This is in addition to interest and closing costs.
  • Risk of losing the investment:

    As with all loans, there’s risk involved. Defaulting on your hard money loan could result in losing your investment property.

Final Thoughts

The million-dollar question, “Are hard money loans worth it?”, has a very simple answer. 

Maybe.

If you’re investing in a property and selling it in two years or less, hard money loans can be a great fit. These loans are perfect for fast and flexible financing. Hard money loans offer immediate access to capital quickly.

Whatever you decide, remember that your goal is to profit as much as possible from your investment. Be strategic and choose the right option to make that happen.

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Daniel William

Co-Foundet Acme Corp

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