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The Pros and Cons of Hard Money Loans

Hard money loans are popular with real estate investors looking to buy investment properties, yet they don’t have enough cash upfront.

Private money lenders offer these loans, and unlike traditional banks, they do not have strict lending requirements.

Borrowers looking to use hard money loans to secure an investment property should do thorough research before choosing a lender to work with.

If you’re new to hard money lending, this could be a great opportunity for you to get into real estate investing without entirely using your own money. We’ve rounded up some of the pros and cons of hard money loans. But first, let’s see how they work.

What is a Hard Money Loan?

A private money loan is a short-term bridge loan taken by a real estate investor from a private money lender for investment purposes. The loan often has a short repayment period of 12 to 18 months but can be extended to 3 years, depending on the lender. Hard money loans have varying repayment terms with interest rates ranging from 7%-15%.   

Some lenders require the borrowers to pay only the interests every month, with the principal amount payable at the end of the loan period. Others allow borrowers to pay the interest and some portion of the principal amount every month, i.e., provided they clear the balance by the due date.

Most lenders do not have a pre-payment penalty, meaning you can repay the loan earlier without facing extra fees. However, most lenders impose a late payment penalty or extension fees. 

The key requirements to qualifying a hard money loan include having the required down payment and cash reserves to settle out-of-pocket expenses. Real estate experience and proof of financial stability are the other factors most lenders prioritize. 

Now that you know more about hard money loans, let’s look at the pros and cons to help you make informed decisions.

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Pros of Hard Money Loans  

  • Quick Approvals and Fast Closings. A typical hard money loan takes one to two weeks from processing and approval to get the amount deposited in your bank account. This is way faster than bank loans which take months to process before approval and crediting. Real estate investors prefer this option as it allows them to hunt for good deals and close them in a matter of weeks. 
  • Credit Score isn’t a Loan Qualifying Factor. Banks rely on credit scores to qualify borrowers. A low credit score implies a high risk to the banks; hence they aren’t likely to give you the loan. With hard money lenders, credit history isn’t a loan requirement. This means investors with poor credit scores can still invest in rental properties without having to dig deep into their life savings.
  • It’s Flexible. Private money lenders, unlike banks, do not have strict lending requirements. The benefit to this is that you can negotiate lower interest rates if you are a regular client. You can also ask for loan-terms adjustment depending on your unique financial situation, and more often, the lender will understand.
  • Allows You to Fix and Flip Properties. Banks and institutional lenders only finance a habitable property, while a hard money loan can be used to finance vacant, old, or outdated structures. These properties often need some serious renovations before they can go to market. And while they are riskier, the profit margins are bigger. 

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Cons of Hard Money Loans 

  • High-Interest Rates. Interest rates of 7% to 15% are quite high compared to bank mortgages with typical rates of 3% to 4%. Hard money loans attract higher rates due to the high level of risks that investors incur.
  • High Down Payments. Hard money loans come with down payments in the range of 25% to 50%. This is quite high compared to banks that require an average of 20% down payment. Often, the higher the down payment, the less risk the lender will incur.
  • Foreclosure Risk. With hard money loans, the property you purchase is used as collateral. Failure to repay the loan means the lender has the right to sell the property and recover the outstanding debt amount.
  • Short Repayment Period. A repayment period of twelve to eighteen months is relatively short compared to bank mortgages with repayment periods of up to 30 years. This increases the risks of foreclosure just in case the property fails to sell within that short time. Extending the repayment period also comes with an extension fee.

Is It Right for You?

Hard money loans offer a great opportunity to make money with real estate investing, but only if you understand the market well enough. If you are taking this loan for reasons other than investing, repaying it within the 12 to 18 months period can be challenging, if not impossible.

When looking for the best private money lenders in Florida, always check the lender’s reputation, loan terms, and industry experience. Doing some background checks, e.g., reading customer reviews and even asking for testimonials, can help you gauge the lender’s credibility.

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