Lenders in the hard money space may not put a lot of time and effort into determining borrower creditworthiness, but that doesn’t mean they hand out loans willy-nilly. They actually put considerable effort into making sure the loans they offer are both secure and profitable. They just go about it differently compared to traditional lenders.
If hard money lenders aren’t looking at credit reports, paystubs, and financial statements, what are they looking at? That’s the million-dollar question and one that definitely deserves a sound answer.
Actium Partners, out of Salt Lake City, UT, explains the vast majority of hard money loans made in this country go toward real estate transactions. Actium itself specializes in commercial real estate. With that understanding, it’s easier to make sense of what lenders look at prior to approval.
Real estate is an asset with tangible value. It’s also a high-value asset capable of securing approval for a hard money loan. That’s exactly what happens in the vast majority of cases. Borrowers present the property they hope to obtain as collateral on the loan being requested.
In this respect, lenders are looking for assets with more than enough value to cover the amount being borrowed. Lender loan-to-value (LTV) ratios play a role here. Let’s arbitrarily assume that a hard money lender’s standard LTV is 50%. The lender would have no problem approving a $500,000 loan on a property worth $1 million. There is more than enough value in that asset to cover the loan.
While asset value is the most important factor, hard money lenders also look at borrower exit plans. An exit plan is nothing more than a strategy for paying off a loan in accordance with agreed terms. Lenders expect to be presented with a reasonable exit plan before approval is given.
Actium Partners once funded the acquisition of a multi-unit apartment complex in Utah. The borrower’s exit plan was straightforward: he would apply for traditional funding once he could prove sufficient rental income to satisfy the bank. Everything worked out as planned. Actium funded the initial purchase while the borrower secured traditional lending several months later and repaid the hard money loan.
Since the vast majority of hard money loans go toward real estate investments, another thing lenders look at is investor experience. This is not to say that a first-time investor can’t get a hard money loan. Rather, it is to say that experience goes a long way toward fast approval and the most desirable rates and terms.
Hard money lenders are no different than their institutional counterparts in the sense that they want to lend to the least risky but most profitable customers. They appreciate repeat business from borrowers who return time and again to fund new projects. Years of real estate investing experience helps in establishing the kinds of relationships that facilitate repeat borrowing.
Finally, hard money lenders look at an investor’s commitment as represented by how he intends to fund his down payment. Despite what you may have heard, hard money lenders do require down payments in nearly every case. Those down payments can be quite substantial. Lenders want to know that borrowers are committed enough to put their own cash into the deal.
Hard money is a different way to lend and borrow. But because lenders are private companies rather than traditional financial institutions, they can look at other things to determine whether or not to approve. It all works out to everyone’s benefit.