Hard money loans are a type of mortgage loan that exclusively designed for real estate investors who buy and flip homes. Many such homes are not eligible for conventional financing offered by banks and credit unions. Borrowing from a hard money lender democratizes real estate investing and provides an opportunity to compete with all-cash buyers. Hard money loans and not for everyone. However, if you follow these seven basic principles, they can propel you forward financially and help you build long-term wealth at the accelerated rate.
Let’s dive in
Select the right hard money lender
Much of your success as rehabber hinges on the hard money lender you pick. It’s best to work with a hard money lender that is local and direct. Transparency, integrity, and service are the keys. Ask other investors or your real estate agents for referrals and check the online reviews. Your lender’s capability to close your loan on time and with the terms initially offered is as vital as their capacity to effectively service your loan. Those chasing the cheapest rates should expect the bottom-of-the-barrel service.
Be realistic and stay within your budget
Part of your skill as a rehabber is to recognize a profitable deal and filter out those transactions that might not be worth the risk. Don’t let emotions sway you. Stay within your predetermined budget and at or below the purchase price your hard money lender pre-approved you for. Learn to run your own comps, so you don’t have to rely on your real estate agent to determine the after-repair value of the property.
The quicker you repay your hard money loan, the more money you make
Hard money lenders take on a higher risk than conventional lenders and because of that charge a premium. This is why it’s essential to make steady progress on your rehab. Also, make sure that your hard money lender doesn’t charge a prepayment penalty. “Our typical loan term is twelve months,” says Anastasia Sennott, a partner at New Funding Resources, a hard money lender in the Washington, DC area. “We always encourage our borrowers to pay off their loan with us as quickly as possible. It’s a win-win for both us and our client. They make money, and we have more capital to fund the next transaction.”
Ensure your construction escrow is managed well – both by you and your lender
It’s customary for hard money lenders to place your construction funds in an escrow account. Your lender’s obligation is to disperse the funds swiftly and fairly. Your responsibility is to complete the rehab according to the scope of work you’ve proposed. If your scope of work indicates acquiring permits, ensure that you obtain them. If it specifies finishing the basement, make sure you finish it.
Have some cash on hand to meet unexpected expenses
It’s impossible to plan for all eventualities. Shipments get delays, sinks get broken, and contractors go rogue. Make sure you have enough reserves to plow through such challenges. The last thing you want is to have your rehab come to a halt because you ran out of funds.
Cultivate open lines of communication with your lender
To successfully flip a home using hard money, you need to build a relationship with your lender that is based on transparency and accountability. Hopefully, you will find yourself working with a company whose team is well-trained and accessible. Do your part to keep them in the loop of the progress you are making or any challenges you’re experiencing. A reputable lender with local expertise should be able to offer actionable advice on how to manage your risk, avoid common pitfalls, and grow your profits.
Stay on top of your responsibilities
Of course, you’re obligated to pay your lender back on the terms you’ve agreed, but you also have other obligations. If you’re rehabbing a property, many lenders require a builder’s risk insurance policy. As the property owner, you need to keep up with the taxes. Failure to pay taxes could result in your home sold at a tax sale. If your property is located in the community with a homeowner’s association, you might be expected to pay its fees and assessments.