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Getting approved for a mortgage can be a complicated process, and things don’t always work out as planned. Frankly, not everyone can qualify for a traditional mortgage, especially when there are rigid requirements.
Sometimes investors need money right away to purchase real estate and find themselves in search of an alternative solution. The information below sheds light on hard money loans and how they might work for you. The best thing that you can do is make an informed decision.
About Hard Money Loans
Hard money loans are for the purchase of real estate, and funding is often based on the value of your property. This is a different focus than traditional banks that focus on your ability to pay the loan back. Hard money lenders are private firms and individuals who lend money in consideration of the borrower’s specific needs. Unlike banks, they make decisions to fund loans by analyzing each unique situation without cookie-cutter requirements.
There are different kinds of hard money loans. Some of the more common hard money loans include fix-and flip loans, construction loans and bridge loans. There’s also the owner-occupied loan, but it’s less common and provided for those who are unable to qualify for other loan products.
Aptly named, a fix-and-flip loan is used to purchase, rehab and resell a property. A construction loan is for real estate developers with new construction projects who plan to refinance and sell the property immediately. Bridge loans let you purchase, refinance or resell a property. Alternately, you can use a bridge loan to buy a new property now and then obtain cash for a down payment when you sell a property that you already own.
A Closer Look at Hard Money Loans
Hard money lenders primarily fund real estate loans. They are less likely to provide loans for owner-occupied properties because they require adherence to far more regulations, which tends to complicate the lending process. For instance, they would have to comply with the Dodd–Frank Wall Street Reform and Consumer Protection Act, among other regulations. There would also be additional licensing requirements.
Hard money loans are for a very short term of 12 months, but sometimes a couple of years. Borrowers are typically only required to make monthly interest payments, as opposed to monthly payments to the principal and interest. There are even hard money loans that do not require any monthly payments at all. Each hard money lender has different criteria. Additionally, real estate investors often appreciate the quick and easy application process for hard money loans. Generally speaking, it can take less than a week to complete the process.
Usually, hard money loans require a down payment that’s based on your property’s Loan-To-Value (LTV) ratio or After-Repair-Value (ARV) ratio. At the end of the loan, you’ll make a balloon payment that covers any fees, the principal and the remaining interest.
How Hard Money Loans Are Different
There are few similarities between hard money loans and traditional bank loans. Hard money lenders have criteria that can be wide-ranging, interest rates are usually high, sometimes there are hidden fees, and the repayment period is very short. There’s also a lack of government oversight and it can be difficult to refinance a hard money loan because of traditional mortgage regulations. These aspects of hard money loans can make them less desirable.
As it relates to the benefits of hard money loans, one important advantage is that hard money loans can give you the money that you need fast and the terms are flexible. Essentially, you will have the financial resources that you need when a real estate investment opportunity is presented. Many investors find that the advantages of hard money loans outweigh the disadvantages.
A commercial construction loan is a loan type that is utilized in funding the expenses linked to the renovation or construction of a commercial building. The money from a construction loan can be utilized in paying for materials and labor for the building of a new property, the renovations of current property, or the buying and developing land for a commercial project.
How Constructions Loans Work
Construction loans are not like typical loans. Unlike regular loans, construction loans are not received upfront as a lump sum. The borrower collaborates with the lender to come up with a draw schedule. Hence, parts of the loan will be provided as the project meets new milestones. For instance, the initial draw will be used for clearing and developing the land. The second draw will be offered during pouring of the foundation. A third draw will be offered during the framing of the building, and so on.
Each completion of a milestone will see the lender expect confirmation from an inspector verifying that the job is done prior to the release of the next draw. This will progress until the completion of all milestones and the distribution of the full loan. With this loan type, you will incur the interest cost of the loan amount received only.
The structure of the loan allows the borrower to only pay the interest until the full disbursement of the loan. Borrowers can then pay the principle as a single lump sum at the construction project’s end. However, instead of paying the lump sum, the borrower can obtain a commercial mortgage. The property will be the collateral and money received from the commercial mortgage will be utilized in covering the construction loan. With the new mortgage, the lender can make affordable payments over a specific period.
Commercial construction loans require borrowers to pay an interest rate of between 4 and 12 percent. If you have good credit, you will get a low-interest rate. The lender type will also impact the interest rate you are charged. If you get this loan from a bank, there is a chance you will pay a low-interest rate. However, hard money lenders will charge you more interest.
Taking a construction loan is associated with a number of fees. The type of fees and the amount will vary according to the lender. Some of the fees include fund control fees, documentation fees, guarantee fees, project review fees, and processing fees.
Since a construction loan is a high-risk loan, there is a requirement to make a deposit. Through paying the deposit, you will share the risk with the lender. Usually, the down payment for most of the projects ranges between 10 and 30 percent of the overall project cost. Lenders rarely pay for 100 percent of the project costs.
Types of Construction Loan
SBA/504 Loan Program is one of the most popular construction loans since it has low deposits, better interest rates, and a 600 credit score requirement. A borrower can get up to $5 million from a Certified Development Company that is SBA-approved. The deposit amount can be as low as 10 percent.
The SBA7 (a) Loan Program can be used to buy or build commercial real estate. Borrowers can get as much as $5 million and have a repayment period of up to 25 years. One also requires to have a down payment of between 10 and 20 percent as well as a credit score of over 600.
Business owners can also get a traditional construction loan from a bank. Repayment terms, down payment requirements, and interest rates will depend on the bank. Normally, at least 10 percent down payment is needed, and repayment term can be up to 25 years.