What Will A Hard Money Loan Cost Me?
Posted July 2nd, 2009 in Mortgage Loan InsightsIf you’re new to “hard money” loans — and many folks are in today’s economy — it’s likely your basis for understanding hard money loans will be what you know about conventional bank loans. In truth, the two are very different.
So is a hard money loan right for you? I can sum it up in a few paragraphs:
Interest rates: If you’re not willing to pay an interest rate that’s 2.5 times or more than what banks charge for similar loans, hard money isn’t for you.
Installment: Payments are mostly INTEREST-ONLY, meaning that you are not paying principal and the outstanding balance due does not decrease with each payment, as is the case with an amortized loan. Note: Interest-only terms may NOT apply to loans secured by a primary residence — certain Federal regulations apply. Most consumer hard money loans on primary residences are amortized terms.
Points: Banks commonly make loans with no origination fees. Hard money lenders do not. If you’re not okay paying multiple points for a hard money loan, then hard money isn’t for you.
Leverage: Hard money isn’t an option for those seeking low down payment / low equity margin financing. If you are buying property with hard money financing you’ll need 40% cash / equity to work with before hard money will step in with the difference. If you own other property with substantial equity we can sometimes lien (“cross-collateralize”) the other real estate as additional security to provide more leverage.
Hard money loans secured by owner-occupied primary residences are governed under Federal and State lending laws, meaning that if the purpose of the financing is for personal, consumer, or household purposes you MUST be able to document sufficient income to qualify for the loan at a maximum debt-income ratio of 50%. There ARE a few exceptions where the requirement may be waived. Investment homes are exempt from the rule, but most private lenders still require some proof of ability to repay the loan regardless of the collateral or equity position.
Hard money 2nd mortgages will generally only be made when the “spread” between the amount of the 1st lien and proposed 2nd lien doesn’t exceed a 5:1 ratio, meaning that the amount of the 2nd typically needs to be no less than 5 times the balance owed on the 1st.
Hard money lenders that make 2nd mortgages would never make a $100,000 2nd lien behind a 1st of $1 million, for example, unlike bank equity 2nds which have no such restrictions.
Hard money lending is conservative. Private lenders are all about preservation of capital, so appraisals lean towards the conservative, loan-to-value is conservative, and lenders are careful with their approach to evaluating potential loans. Equity alone doesn’t merit a hard money loan approval — there are many other considerations that factor into the mind of the private lender.
Hard money loans are always quoted on a “case by case” basis. That means that only after a private lender has had the opportunity to review the specifics of a transaction will the loan-to-value percentage, note rate, fees, and term of the loan be determined with certainty. This is a departure from conventional banking, where a rate and program can be quoted immediately when all of these things are known. This is important, because most people shop for hard money rates and loans the same as they would a conventional loan, and that often leads to disappointment and frustration. An ethical hard money lender will quote a range of rates, points, and percentage of Loan-to-Value pending further review of the application and property.
There are plenty of benefits to hard money loans — see my hard money loans page for more information. This information is intended to expand on the positives about hard money lending by shedding some light on the subject in greater detail.
