One of the most common reasons why hard money loans are selected over bank loans is because of the unique nature of the scenario. Traditional bank loans are typically used for run-of-the-mill loan requests and permanent financing needs. For example, these loans are used when a buyer wants to hold onto the property for several years or more and when the property is already in good condition. A hard money loan, on the other hand, is a short-term loan that is most commonly used to reposition the property in some way. One of the more common repositioning tasks relates to renovations.
A well-executed renovation may increase the property’s value substantially. If it is an income-producing property, the renovations may also enable the property to generate higher levels of income. If you are looking at ways to bolster profits from your upcoming real estate renovation project, it may have crossed your mind to complete at least some of the work on your own. After all, if you can eliminate labor costs from the total renovation budget and complete the same caliber of work, you could potentially save thousands of dollars or more throughout your renovation project. Before you follow through with this plan, spend time learning more about lender requirements and thinking through all aspects of this possible renovation plan.
Your Lender’s Requirements
When a hard money lender is providing you with funds to renovate a property, the lender usually wants you to contract with an approved, licensed contractor to complete the work. Documentation showing the contractor’s experience, license and insurance may even be required as part of the loan approval process. Each lender is different, and there are no hard and fast rules in the hard money lending world. Some lenders may be agreeable to letting you complete at least some of the work yourself, such as demolition or landscaping. However, most lenders will only let you take draws that are based on specific contractor quotes. Some will actually pay the contractors directly rather than run the funds through you as a conduit. If you plan to do any of the renovation work on your own, discuss this option upfront with a few lenders so that you can select a hard money lender that allows it.
Your Skills and Experience
Remember that work must be completed to code in many cases, and you may also need to obtain a permit. Some lenders specifically require you to use a licensed, experienced contractor to ensure that these criteria are met. However, if you are a skilled contractor by trade, some lenders will allow you to complete the work yourself. You may need to document your experience and prove that you are properly licensed and insured according to local requirements. Some lenders will also conduct a walk-through of the property or need an inspection after the work has been completed to ensure that the work has been completed properly.
The Issue of Timing
Remember that a hard money loan is a short-term loan. Contractors can typically complete quality work in less time. When you do the work on your own, you may have a one-man team, and this could slow down the progress of the project. You also may not be able to focus on the renovations as well as a full-time professional and his or her crew could. You must complete the work on your property within a specified period of time, and you must leave ample time for your exit strategy to be implemented. Common exit strategies for hard money loans are to refinance the property into a permanent loan or to find a buyer. Both of these processes cannot begin until the work is completed. In addition, both processes can take at least a few months of time to complete. A hard money loan typically has a balloon payment due at a specific date. While some extensions are possible with select lenders, this should not be your primary plan to rely on. Because timing is critical with a hard money loan, it may be best to let a contractor work on at least some of the project. This is, of course, if your hard money lender lets you complete the work on your own.
It seemingly makes financial sense to complete as much work as possible on your renovation when using a hard money loan. After all, doing the work yourself can keep valuable funds in your pocket to bolster overall profitability of the project. However, there are significant reasons why you cannot or should not make this your renovation plan. There may be some steps that can be taken on your own, such as landscaping or demolition. However, many other steps need to be or should be completed by a licensed and insured contractor. Your hard money lender can provide you with more information about its specific requirements.