Hard Money Business Loans For Real Estate: Definition & Guide For Small Business Owners
If you are a business owner or entrepreneur that wants to purchase and develop property, a hard money business loan might be the solution.
Hard money loans are short-term bridge loans that are ideal for poor-credit borrowers, entrepreneurs without proven experience, and other people who want to purchase real estate for business purposes. Find out if this type of loan is right for your financing needs and where to find the right hard money lender in our guide to hard money business loans.
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What Is A Hard Money Business Loan?
A hard money loan is a type of collateral-backed loan that is secured by real estate assets. Borrowers with the necessary collateral can get hard money loans even if they have poor credit or little time in business. Often, hard money loans are considered a type of bridge loan.
As strange as it may sound, a hard money lender isn’t counting on you being able to pay your loan back, which is why your credit isn’t likely to be as big a consideration. Your loan will be based primarily on the value of your collateral. If you default on your loan, the lender will take possession of the real estate you used for security.
How Hard Money Loans Work
Hard money loans closely resemble other high-interest short- or medium-term loans.
Most hard money business loans will have a term length of less than a year, although longer loans can last up to five. Generally speaking, interest rates will fall somewhere between 9% and 21%.
There is no standardized underwriting process for hard money lending. The process can vary greatly between lenders.
Because each hard money loan is unique, your exact terms will depend on the deal you’ve secured with your hard money lender, the region in which you’re buying, and the loan-to-value ratio (LTV). The higher the ratio, the more risk your lender is taking on which, in turn, usually means higher interest rates for you.
Additionally, you might incur closing fees and/or costs in the form of “points.”
Points can refer to a variety of fees associated with a hard money loan. Generally speaking, every point charged on your hard money loan translates to 1% of the loan amount.
For example, if you’re borrowing $100,000 and your hard money lender charges you four points, your fees will amount to $4,000. Points are paid up front and provide the lender with some return on investment in case you pay off your loan early.
Otherwise, a hard money loan is a lot like traditional term loans. Your loan will accumulate interest over time. You’ll make payments (typically monthly) until your loan is paid off. Ideally, you’ll pay off your hard money loan early before its high-interest rates accumulate. Because this is expected, there rarely are penalties for paying off your hard money loan ahead of schedule.
When You Might Need A Hard Money Loan
An easy way to think of a hard money loan is as a loan by investors to investors.
In other words, you’re looking to acquire property quickly and get rid of it almost as quickly (or at least find a way to monetize it).
The archetypal hard money borrower is a person who flips houses, with the purchased property serving as the collateral. This person isn’t planning to stay on the property long enough to get underwater on their hard money loan. Ideally, they fix the property, increase its value, then sell it. Failing that, they find a way to refinance before either losing the property or paying far more in interest than the property is worth.
Renting out the property is another common strategy.
Advantages of hard money loans include:
- Fast Approval: Doing an end run around the byzantine approval processes of banks will usually save you time. This can be especially useful in competitive real estate markets where you need to beat other buyers to the punch.
- Flexibility: If you’re into real estate investments, a hard money lender might be more sympathetic to your fix-and-flip strategy than a bank would be.
- Negotiable: Hard money lenders can, at least in theory, be negotiated with in a way that banks can’t.
- Bad Credit Isn’t Disqualifying: So long as you can provide a good plan, equity, and prove your real estate experience, poor credit probably won’t rule you out of the hard money scene.
Why You Should Be Cautious With Hard Money Loans
As is often the case with innovative, unregulated areas of finance, you should do your due diligence before you sign up for a deal.
Given that there aren’t many regulatory systems in place, the hard money lending space is an ideal environment for predatory lending. Your best bet is to have a lawyer familiar with hard money contracts look over your offer and make sure your interests are being represented.
Disadvantages of a hard money loan include:
- High Interest: Interest rates on hard money loans can easily rise to the high teens and sometimes higher.
- Loan Fees: These would be comparable to a normal loan’s origination fee, but they’re usually much higher, ranging typically between 2% and 10% of the amount you’re borrowing.
- Down Payment: Hard money loans will usually cover, at most, 75% of the cost of the property.
How To Qualify For A Hard Money Business Loan
The amount of money a hard money lender can give you for a loan is based on the value of the property with which you’re securing it. The more valuable the property, the more money you can get. That’s the only and truly non-negotiable qualification for getting a hard money loan.
That said, there are other factors a hard money lender will consider.
Many hard money lenders will deal with a specific type of property (commercial, residential), so you’ll need to find one who works with the type of property you’re securing.
You may need to demonstrate that you have your own capital to invest in the property and have an actionable plan for paying off the loan. They’ll also consider any previous experience you have with real estate transactions.
Your credit rating may be considered so far as determining your interest goes, but it will rarely be a deciding factor in whether or not you get the loan.
Where To Get A Hard Money Business Loan
Hard money lenders tend to be investment companies or private investors with an interest in the real estate industry. Because real estate is tied to a specific geographic area, hard money lenders, with a few exceptions (companies like Amza Capital or Lending One), tend to lend locally or regionally.
Hard money lenders can be challenging to find.
Because you’re trading on real estate, the hotter your local real estate market, the more options in terms of hard money lenders. The flip side is that if your local real estate market is all but dead, hard money may be hard to come by.
Local real estate brokers and associations may be able to point you in the direction of investors/hard money lenders in your community.
You should also look around for online resources that can give you an idea of who is operating in your region. However, be warned that these resources will steer you toward the bigger hard money lenders. If you’re looking for a more personal arrangement, you may have to engage with your local real estate community.
A hard money lender is less interested in who you are as a borrower than in the potential value of the property you’re buying. That said, you should be prepared to demonstrate your credibility as a borrower.
Get The Right Financing For Your Real Estate Purchase
Hard money loans fill a very specific niche. If your business involves real estate development, has bad credit, and needs to act quickly, hard money business loans represent a potentially fast and powerful tool.
Make sure you understand the terms and fees before you put your signature on anything. Before signing, have a well-thought-out exit strategy. Most of the time you want to avoid riding your hard money loan out to the end of your term.
If hard money sounds too risky, or you don’t have much prior experience in real estate, you may want to consider crowdfunding options for purchasing real estate.
Have bad credit but hard money is too niche for your financing needs? Check out some other poor-credit financing options for businesses.