What is a hard money loan and how much does it cost?

Hard money loans are available in most areas of the United States and they allow the Borrower to use the equity in the asset as collateral for the loan.

How to finance investment real estate

How to finance investment real estate

The main advantage of using hard money is that it is easy for a borrower to qualify since the equity in the property is the most important element of the loan.

Therefore if you can find a great deal, using hard money will get you into the game. Hard money is considered to be “hard” because the points and interest are typically high and it can be painful to absorb the high cost of this type of financing.  Some hard money lenders will provide 100% financing, but more are trending toward requiring the borrower to put skin into the game in the form of a down-payment or by not funding all of the repairs for the property.

Therefore if you can find a great deal, using hard money will get you into the game. Hard money is considered to be “hard” because the points and interest are typically high and it can be painful to absorb the high cost of this type of financing. Some hard money lenders will provide 100% financing, but more are trending toward requiring the borrower to put skin into the game in the form of a down-payment or by not funding all of the repairs for the property.

Typically hard money lenders will charge 3 – 8 points. A point is equivalent to one percent of the mortgage amount. The total mortgage amount usually includes the price being paid, closing costs and the renovation fix-up expenses.

1.  Hard Money Loans

Price $60,000
Closing Costs $5,000
Renovation Budget $35,000
Total Mortgage Amount $100,000

If the hard money lender charges 5 points, that would equate to $5,000 in this example. The other loan term to be aware of with hard money is the high interest rate. Many hard money lenders charge between 12 – 18% interest only. In this example, if the hard money loan requires 15% interest, the monthly payment will be $1,250 per month.

 

If the borrower pays 5 points and keeps the property for five months, the total interest will be $11,250 on this $100,000 investment. The total interest is a lot to absorb which is why it is described as “hard money.”

Total cost using hard money:  $11,250

 

2. Easy Money Loans with Private Lenders

I prefer to use easy money loans on short-term real estate joint ventures. They still get the investor into the game, will provide 100% financing, provide a great return for the lender but provide a lot more profit for the real estate investor.

Instead of paying 15% interest and 5 points, I like to structure my short-term ventures on terms such as 8 – 10% interest and no points. That turns the overall profit margin upside down when compared to using hard money. If you use the same example as the hard money so the total loan amount is $100,000 and borrow at 10% interest the monthly payment will be $833.33 per month.

For the same five month period, the total interest paid will be $4,166.65.

Which loan would you rather use?

Hard money loan interest: $11,250.00

Private money loan interest:  $4,166.65

Jim Ingersoll cash flow idea

Hard money loans can get investors into the market and provide nearly 100% funding on houses you want to flip, but borrower beware and fully understand all the terms and associated risks of the loan you are taking to avoid surprises in the future. Also be aware that most hard money lenders also have numerous fee’s added into the closing costs.

If you can joint venture with a private lender, you can pay a rate of return that is roughly 3-4 times the earnings of a CD and still have a great return for both yourself and the private lender.

What are your thoughts?

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Comments

  1. Ryan Hakes says:

    Great article thanks Jim!

    I think for people doing their first few rehabs it can be challenging to find private money investors because they don’t have the experience to prove they can flip successfully yet. Without immediate friends or family with capital…sometimes hard money may be one of the few remaining means to the end.

    That said… after a few successful flips… and a few more years later, the experience rehabber may (should) have a chunk of capital working for him (golden slaves as George Clason called them). Two ways to put those golden slaves to work – Hard Money & Private Money. That’s why I love Real Estate – there is truly no cap to the income you can make!

    One theory I’ve contemplated myself to get to private money sooner than later would be for the inexperienced rehabber to find top notch crews that do rehabs for other investors – especially turnkey investors.

    You can drive hot zone neighborhoods during the day to find these guys working and simply share information. Then leverage their portfolio of successful flips in presentation to a private money lender and hire them to do the work (after you’ve thoroughly reviewed their past performance and credibility with a decent background check & references of course).

    What do you think about that idea Jim?

    • JimIngersoll says:

      Hi Ryan

      Thanks for your comments.

      Good point – If hard money is the only way you can get a ticket to the game, then consider taking it, just understand your costs so you are not surprised in the end.

      Good thoughts. A credibility kit can help establish credibility as well. I think it is best to start with folks you are already doing life with and educate them on how they can participate in your deals. Starting there should unlock some private capital and get some deals moving

      Jim

  2. ed billheimer says:

    If you are hiring a contractor who is working for someone else be sure he has the manpower to do the job for you and not short the person he’s already working for. Contractors sometimes find it hard to say no and then become overextended and unable to finish anybody’s job on time.

  3. Bill Turner says:

    Jim,
    Your thoughts on a lender who charges 9% or 10% annualized, interest only and no prepayment penalty. With 1 point and using the above example, the borrower would pay $5,500 for this loan for six months, instead of $11,000 and change.
    Not as good as with a true private money, but not much more, about $1,350 or so?

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