You have been looking to buy a second home as an investment. Your plan is to rent it out to generate passive income. In order to obtain the property however, you have discovered that your bank is not so keen on helping you out. You have decided to try for a hard money loan instead.
You’re on the right track. However, don’t go into it thinking that hard money is just like conventional financing. It is not. There are some significant differences that make the hard money lending experience unique. To that end, below are a number of things you should expect from your first hard money loan.
Finding a Lender Might Be Tough
While there are plenty of hard money lenders out there, finding one willing to fund your acquisition may be a bit difficult. It boils down to what you are trying to accomplish, according to hard money lenders Actium Partners out of Salt Lake City, Utah. They say that various lenders have their individual lending criteria.
Some hard money lenders do not fund small deals. There is not enough interest in your second house to get them to bite. Others look specifically for borrowers like you. The point is that you may have to look around to find a lender.
You’ll Need a Hefty Down Payment
Given that hard money lending is asset-based, you are going to need a hefty down payment. A typical hard money lender works with an LTV of between 50% and 65%. You certainly won’t get a hard money loan with a 90% LTV. This is because hard money loans are risky loans.
You stand a greater chance of being approved with every dollar you can put down. Why? Because your down payment equals equity. The more equity the lender sees in the property you want to purchase, the more likely your loan will be approved. A 50% down payment is ideal.
You’ll Pay a Higher Interest Rate
Be prepared to pay a higher interest rate for hard money. Again, it is all about risk. Hard money lenders take a significant risk by lending on assets rather than buyer financial position. They cover some of that risk by charging higher interest rates. At the time this post was written, rates typically ranged from 6% to 15%.
You’ll Have a Shorter Repayment Term
By nature, hard money loans are short-term loans. A typical hard money loan has a term of between six months and two years. Some lenders are willing to stretch it to three years, but they are in the minority. You definitely won’t get a 30-year loan from a hard money lender.
On the flip side, a shorter term means you will ultimately pay less interest in real dollars. Paying 14% for two years will still mean less total interest than paying 3% for 30 years. Do the math yourself. You will be surprised by how much money you save on a shorter term.
Default Terms Will Be Strict
Finally, expect default terms to be very strict. On a conventional mortgage, it is not unusual for a bank to wait 3 to 4 months after default to begin foreclosing. It could take up to a year for a foreclosure and eviction to go through. Hard money lenders are not governed by the same rules. They also don’t tend to wait as long. They will begin default proceedings just 30 days after an account falls into arrears.
Hard money is an excellent tool for buying a second home. But it is considerably different from conventional funding. Be sure you understand the details before you agree to accept hard money.