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What Is A Hard Money Loan And Is It Right For You?

Written by Marc Guberti

Marc Guberti is a Certified Personal Finance Counselor who has been a finance freelance writer
for five years. He has covered personal finance, investing, banking, credit cards, business
financing, and other topics.
Marc’s work has appeared in US News & World Report, USA Today, Investor Place, and other
publications. He graduated from Fordham University with a finance degree and resides in
Scarsdale, New York.
When he’s not writing, Marc enjoys spending time with the family and watching movies with
them (mostly from the 1930s and 40s). Marc is an avid runner who aims to run over 100
marathons in his lifetime.

Updated May 23, 2023​

5 min. read​

what is a hard money loan

Loans are vital financial instruments. They let buyers use leverage to acquire things they otherwise couldn’t afford. For many people, loans are the bridge to home and car ownership. Some people use hard money loans to obtain additional capital, usually to buy real estate. These loans come with pros and cons that distinguish them from conventional loans. We’ll discuss these loans and if they are right for you.

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What Is A Hard Money Loan?

A hard money loan is a short-term loan with a 1-3 year term. These loans have quicker approval times, helping borrowers secure funds sooner. Private lenders offer these loans and have borrowers use the property as collateral. Traditional banks do not provide hard money loans.

How a Hard Money Loan Works

Hard money loans let you skip conventional loans. Some people who can’t qualify for a traditional bank loan will resort to a hard money loan. A private lender will assess the property’s value when reviewing your loan application. Lenders will give less preference to an applicant’s credit score or ability to repay the loan before providing capital.

Traditional Loan vs. Hard Money Loan

Some borrowers see hard money loans as a last resort. These loans are less stringent about your credit score and annual income. You can get a hard money loan even if you don’t qualify for a conventional loan. Hard money loans typically have higher interest rates and down payment requirements than traditional loans.

Some people with high income and credit still opt for a hard money loan. These borrowers need the funds quickly to close a deal to beat out another buyer. You can get approved for a hard money loan in under a week, while approval for conventional loans can take almost two months.

Common Uses Of Hard Money Loans

Hard money loans have several uses that mostly revolve around real estate. Here are some scenarios where borrowers use hard money loans instead of conventional loans.

Flipping A House

Flippers do not intend on holding properties for a long time. These investors find undervalued properties, fix them up, and flip them for a profit. Since these investors hold onto properties for 1-2 years, they are more willing to take out a hard money loan. Receiving funds quicker will make them more appealing to sellers than a potential buyer still trying to get financing. Hard money loans let flippers secure properties faster and get to work.

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Purchasing Investment Property

Some conventional lenders will give you money, but not enough for the property you want to buy. Lenders who offer hard money financing may give you more money since they focus on the property’s collateral when assigning loan amounts. The higher financing gives you more flexibility instead of feeling short on loan proceeds for your desired property.

Purchasing Commercial Property

Conventional lenders have stringent requirements and may not provide enough funds for your commercial property. Since hard money lenders offer loan amounts based on the property’s value, borrowers have an easier time getting enough money. Traditional approval for a commercial property purchase is more complex, but you can get a hard money loan in a week.

Staving Off Foreclosure

Hard money loans aren’t only for real estate investors expanding their portfolios. Some financially distressed borrowers resort to a hard money loan to stall foreclosure. They obtain a new loan based on their home’s value and use it to pay off the conventional loan. You escape foreclosure for the moment and have more time to sell your property. In theory, you could pay back the hard money loan. However, its 1-3 year term with a higher interest rate than your conventional loan puts the odds against distressed borrowers. Most people seeking to avoid foreclosure use hard money loans to get more time to sell the property.

Pros Of A Hard Money Loan

Hard money loans have some advantages, which we have highlighted below.

Faster Approval Process

Borrowers can get a hard money loan within a week. The quick turnaround makes them more desirable to sellers. Conventional loan applicants may have to wait two months to receive approval.

Approval Based On Property, Not Credit History

A poor credit score won’t have as much of an impact on securing a loan. Hard money lenders focus on the property’s value instead of your credit score. They have less stringent or nonexistent requirements for credit scores and debt-to-income ratios.

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More Flexibility

Hard money loans speed up the process. Investors can buy fixer-uppers sooner and get to work. Quicker entries lead to quicker exits since real estate investors can fix the property sooner. You can acquire properties you otherwise couldn’t obtain with a conventional loan.

Cons Of A Hard Money Loan

While hard money loans have their advantages, consider these disadvantages before taking out a loan.

High-Interest Rates

Higher interest rates mean higher monthly payments. Hard money loans usually have interest rates above 10%. Some investors shrug off these rates because they’ll flip the property in a year. However, these loans will take up a larger percentage of your monthly budget.

Large Down Payments

Conventional lenders let some borrowers make 3% down payments on their loans. You won’t find a deal like that with a hard money lender, which will often require a 20%-30% down payment. Hard money lenders may become lenient for professional flippers, but you can expect a higher down payment.

Shorter Terms

Most homebuyers take out 15 or 30-year mortgage loans from a traditional bank. Spreading the debt repayment over many years minimizes monthly payments. Hard money loans have 1-3 year terms, making them much shorter than conventional loans. If the idea of paying off your entire mortgage in 1-3 years stresses you out, we won’t blame you. Most hard money loan borrowers use the proceeds for short-term real estate investments.

Riskier Than Traditional Financing

Conventional and hard money lenders can take your property if you don’t pay the loan. While this risk follows you around for any property loan, hard money loans have higher monthly payments. A 1-3 window and 10%+ interest rate can make the monthly payment feel insurmountable unless you quickly flip the property. Paying $500,000 plus interest in 1-3 years is more difficult than paying the same amount plus interest in 30 years. It works out if you sell the property and keep up with payments, but expenses can become unmanageable and take the property from underneath you.

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Lower LTV Ratios

Hard money lenders provide lower LTV ratios which means you’ll have to make a higher down payment. This structure improves the lender’s chances of making a profit on your property if you default. It also makes the barrier to entry more difficult if you can’t gather enough capital for a down payment.

Additional Fees and Costs

Monthly payments aren’t the only costs of a hard money loan. You will also have to pay origination and underwriting fees. These fees are more expensive for hard money loans than conventional loans since hard money lenders incur more risk.

Some Lenders Require Builder’s Risk Insurance

Builder’s Risk Insurance provides coverage for fixer-upper improvements in the works. The policy covers theft, vandalism, and acts of nature, but it also adds an extra expense to an already strained budget. Real estate flippers with significant capital can afford the additional cost, but it provides another barrier to entry for people getting started.

Some Lenders May Hold The Property Deed as Loan Collateral

Property deeds provide the legal transfer of property. These documents recognize the new owner, but hard money lenders may use this deed as collateral. Using your property deed as loan collateral enables a hard money lender to take your property if you can’t pay back the debt.

Are Hard Money Loans Worth It?

Hard money loans aren’t for everyone. While they give you quicker access to financing even if you have low credit, these loans have higher costs than conventional financing. Most people view hard money loans as a last resort. Most borrowers only consider these loans when they’ve used up other options or need the money quickly for a flip. Hard money loans are not worth it for most people.

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