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How Do Private Money Loans Work?

How Do Private Money Loans Work?

Private money loans, also known as hard money loans, can be useful alternative financing solutions for real estate investors who need access to cash flow for the purpose of purchasing a residential or commercial property where time is limited and multiple parties are interested in the same real estate investment opportunity.

 

Conventional lenders such as banks or credit unions place an emphasis on the borrower’s credit history and the length of time it takes for a loan approval and funding to come from a traditional lender might take too long for real estate investors who need to act fast or risk losing the property to a competing investor.

 

On the other hand, private money lenders determine their approvals through asset based lending criteria that allows for new real estate investors or investors with a complicated credit history to get the money they need when other lenders have turned them down. 

 

If conventional financing is insufficient for taking advantage of lucrative real estate investment opportunities that come your way, a private lender like West Forest Capital can be the hard money lending partner to help you succeed in today’s fast-paced, high-stakes real estate market.

What is a Private Money Loan?

A private money loan is a type of financing issued by a private money lender or private money lending company that is typically collateralized with real estate. Private money loans offer a variety of advantages over banks and credit unions because these traditional lenders lack the flexibility of terms and accelerated approval processes of hard money loans.

 

Most private money loans are intended as short term loans and they are typically used by real estate investors to purchase property. Private money can also be an advantage for investors who may not qualify for a loan from a conventional financial institution due to their restrictive lending criteria and slower funding timelines.

The Benefits of Working with Private Money Lenders

Since hard money lenders consider the value of the asset in which the borrower is investing, the approval process is often quicker as their decision places less of a focus on the borrower’s creditworthiness. This allows for the borrower to get approved and financed faster so he or she can purchase investment properties in a busy market when other private investors are circling the same real estate investment properties.

Get Approved and Funded Fast

Traditional financing avenues like banks and credit unions could take months to review your loan application, perform the necessary due diligence, and if you’re approved, the time it takes to process the application and transfer the funds into your account may put you at a significant disadvantage in a fast-paced real estate market.

Waiting on cash flow before you can proceed with a real estate purchase puts you a step behind everyone else when time is of the essence for closing a deal on a property. But a private money loan can get you the money you need and have it ready to access in a fraction of the time it would take a conventional lender to fund your loan.

Poor Credit

When a borrower’s credit history is preventing him or her from getting approved for a loan from conventional lenders, private lending companies are an effective alternative because their approval criteria is different. Private money is synonymous with asset based lending, so credit scores and debt to income ratios are less of a factor in a decision process that views the value of property being purchased with higher regard.

This allows for more potential borrowers to get access to funding when an investment opportunity presents itself and a fast response is necessary. Banks and credit unions will typically hold potential borrowers to a more stringent criteria for approval and if a borrower makes a high annual income but also holds a high amount of debt, that individual can be denied a loan as per most traditional lenders’ criteria. 

Conversely, private money lenders consider the value of the property and the amount of equity the borrower holds in order to decide whether or not to approve that individual for a real estate loan.

Short Repayment Periods

Private money loans are typically short term loans where the borrower is expected to reimburse the lender in 12 to 24 months. This is because a private money loan will sometimes act as a bridge loan or temporary lending option until alternative financing can be secured and the ioan refinanced with more conventional lenders.

There are a number of factors that play into the decision for using private lenders with a shorter repayment period. The investment properties being purchased, the borrower’s financial situation, and investment strategy for procuring the properties can make private money and a shorter repayment period more beneficial for some borrowers.

Favorable Lending Terms

Hard money loans work differently from conventional lenders This gives the borrower favorable advantages as the terms of a hard money loan can be customized, allowing the borrower to negotiate the most favorable terms with respect to interest rates, repayment schedules, loan amounts, in order to fit that borrower’s investment strategies.  

Limited Liability Company Ownership of Property

Some borrowers may have difficulty getting approved for a loan when the property they intend to purchase will ultimately be owned by a limited liability company (LLC). Traditional lenders will typically require that any property for which they are underwriting a property loan in order to obtain that property be taken out in the borrower’s name. 

But hard money lenders are more willing to allow a borrower who plans to own the property being purchased as part of an LLC to take out the loan on behalf of that LLC.

Own Too Many Investment Properties

Some real estate investors might fail to meet the approval criteria of traditional lenders because they own too many investment properties and that borrower is considered a risky bet for further lending. A hard money lender usually won’t have that type of objection to deny a loan to an investor looking to borrow for investment in another property.

The Current Condition of the Investment Property

Real estate investing might sometimes involve the purchase of a property that requires a significant amount of repairs to bring that property back to life, so to speak, and prepare it for occupancy. 

But that can get tricky when it comes to approaching a traditional financing source to underwrite a loan to be used to purchase that property. 

Banks and credit unions must abide by strict policies that govern their ability to approve a real estate loan that will be put towards the purchase of a property that needs a lot of work. Many traditional lenders will typically avoid lending money to borrowers who want to purchase a fixer-upper and a part of the review process of the loan application is to get a full assessment of the property’s current condition. The worse shape the property is in, the more likely the financial institution being asked to issue the loan will deny the request.

Banks get nervous offering real estate loans on properties in poor condition but many private lenders have no such reluctance towards getting a borrower the money needed to invest in restoring that property and bringing it to market.

Private Money Lender Criteria and Loan to Value Ratio

Private Money Lender Criteria and Loan to Value Ratio

What sets private money loans apart from traditional loans is the criteria applied to the borrower’s request for financing. Hard money loans consider property value over the borrower’s credit history when deciding on an approval or a denial of the applicant.

In particular, it’s the loan to value ratio that is taken into consideration on determining the amount that can be lent to the borrower for approval. The loan to value ratio refers to the loan amount divided by the value of the property that is being purchased with the funds and applied as collateral on the loan. 

Based on this ratio, a private money lender will assess whether the borrower should be approved for the loan with most lenders offering 60 to 75% of the current value of property being purchased as a real estate loan. These paramaters are applied for real estate loans when used for the purchase of investment properties on the market.

After Repair Value (ARV)

Conventional lenders are often leery of underwriting real estate loans on properties that need major repairs.  But investors can find private lenders who are willing to extend private money loans on fixer-uppers, despite the potential inherent risk of underwriting a loan on a property that may not have much value.
That’s why most private lenders will consider approving a private money loan based not on the loan to value ratio of the property in question but the after repair value (ARV) which takes into consideration the estimated future value of the property after all the repairs and renovations have been completed.
In order to qualify, a borrower will need to possess some equity adequate enough to motivate the lender to issue the loan as a property in serious disrepair would not be acceptable collateral for a private lender. But if the applicant can meet the standards of the private lender willing to work with him or her on a hard money loan, this short term solution could be the ideal alternative when all other lenders have denied them.
Hard Money Lending and Primary Residences

Hard Money Lending and Primary Residences

Although hard money loans are usually secured by borrowers in order to purchase real estate, that investment is typically made on a property that is not meant to be the primary residence of the borrower. That’s why some private money lenders will deny an applicant who intends to purchase or renovate a primary residence instead of a property that can bring an income, either to flip the property after repairing it or a commercial property where tenants will pay rent to occupy it. 

But some hard money lenders will approve a real estate loan for the purchase of a primary residence, as long as the borrower has sufficient equity to collateralize, the property in question has high value, and the borrower’s finances are in order demonstrating the financial strength to repay the loan on a timely schedule.

Private Money Lending Interest Rates

While private money lenders will consider the value of the property intended for purchase with the loan being issued, the interest rate on that loan can be affected by a variety of contributing factors that are more familiar to traditional lenders.

Here is where the borrower’s credit history, credit score and other facets of the borrower’s financia condition come into play as the lender will review all of this information and make an informed decision on how much the borrower will pay in interest on a private money loan.

Just as you would expect, a lower credit score and complicated or checkered credit history can result in a higher interest rate for that particular borrower.

But there are other factors that are considered as well, centered on the property in question that is being purchased. Loan to value ratio, amount of equity the borrower owns, the condition of the property, and where the property is located. All of these can reduce the interest rate or possibly drive it up. 

Is a Hard Money Loan Right for You? Call West Forest Capital.

There are many private lending companies out there, but West Forest Capital has them all beat. We are the industry leader in offering innovative private money loans that are uniquely tailored to help borrowers of all backgrounds and financial situations secure the financing they need to invest in residential and commercial investment properties.

We are the industry leader in offering innovative private money loans that are uniquely tailored to help borrowers of all backgrounds and financial situations secure the financing they need to invest in residential and commercial investment properties. 

Our team can provide short term loan solutions for investors who need quick cash flow to purchase a hot property and long term loan options to borrowers with complex projects on the horizon and a time frame that involves a lot of moving parts. 

We specialize in creating tailor-made hard money loans to help you meet your real estate investment goals. Give us a call today and let’s talk. 



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