4 reasons to consider a hard money loan
Hard money loans aren’t for everyone, but here’s when they might make sense.
- Hard money loans are generally short-term loan products designed for real estate investments.
- While qualifying may be easier than traditional mortgage financing in many cases, hard money lending doesn’t make sense for everyone.
When it comes to financing real estate investments, you have several options. In some cases, you may be able to use a traditional mortgage from a bank. For example, the standards of Fannie Mae and Freddie Mac allow home loans. There are asset-based loans specifically designed for properties that will generate rental income. However, many investors use the equity in their existing property to finance all or part of their real estate investments.
A hard money loan is another option, particularly when other methods of financing are impractical or unavailable. These loans are certainly not without drawbacks. They typically have short loan terms and high interest rates and fees. They also tend to require higher down payments than conventional mortgages. But they can make sense in a few cases.
1. You need fixed and reversible financing
By far, the number one use case for hard money loans is house flipping. You usually can’t use a traditional mortgage when flipping a house, especially if you’re hoping to fund renovation costs, and it’s not always practical to use cash to fund an entire project. For these reasons, the short-term nature of hard money loans can be an excellent financial tool.
2. You need a bridge loan for long-term financing
Let’s say you want to buy a currently uninhabitable triplex, renovate it down to the half-timbering and create a beautiful, profitable rental property. In such cases, banks may not be willing to grant a mortgage in the state the property is in.
This could be a great situation for a hard money loan, as long as the numbers still work. For example, you could get a 12 month hard money loan, and once the property is in new condition, refinance and get a conventional mortgage to keep it as a rental property.
3. You need money fast
If you’ve ever gone through the mortgage process, you know that approval and funding doesn’t exactly happen overnight. Conventional mortgages typically take a month or more from start to finish. In contrast, hard money loans can often be granted in just a few days.
More: Our picks for the best FHA mortgage lenders
So even if an investment property that you plan to hold for a long-term rental investment box qualify for a traditional mortgage right away, but you need to be able to close quickly for some reason, a hard money loan can be a good short-term solution.
That said, it is generally not economical to go into debt longer than necessary. These loans typically have interest rates between 10% and 18%, so financing costs can get out of hand pretty quickly. If you end up using a hard money loan for a quick close, keep that in mind.
4. You buy commercial property
Another common use case for hard money loans is for commercial real estate investments, such as an office building, retail building, or apartment building with five or more units. If you’re a new investor, it can be difficult to get approved for traditional business financing, and it’s also common to see hard money loans used for unique properties.
The basics of hard money loans
Hard money loans can be valuable financial tools for real estate investors, but they are not suitable for all situations. Since these are usually expensive, short-term finance vehicles, it’s important to consider all available options to ensure that a hard money loan is truly the best fit for your situation.