When you need funding for a new property purchase, you might consider taking out a hard loan instead of a traditional loan. The differences and potential advantages of hard money loans can vary depending on whether you wish to purchase a commercial or residential property.
This article provides a look at commercial vs. residential hard money loans and explores how they can help you achieve your portfolio goals with the proper assistance.
What Is a Hard Money Loan?
A hard money loan is a loan that comes from a private organization or individual instead of a traditional lender, like a bank or credit union. Hard money loans can be used to finance "hard" assets, such as property, land, vehicles, inventory, or any tangible asset with value. The defining feature of a hard money loan is that they are secured by some form of collateral. In this article we will focus on hard money loans secured by real estate.
As a real estate investor, the right hard money loan can help you quickly secure the financing you need to purchase a property, especially if you need to meet a closing deadline or your financing falls through at the last minute.
Before signing on any dotted lines, it's important that you understand how hard money loans work to avoid making a costly mistake.
Who Provides Hard Money Loans?
Hard money lenders are either private individuals/investors or private investment firms that set their own lending requirements, rates, and terms based on their risk appetite and area of expertise.
Since hard money lenders don’t have as many limitations and will focus more on the quality of the asset than the financial strength of the sponsor, they may be willing to lend money to you without verifying income or checking your credit.
Differences Between Hard Money and Conventional Loans
There are plenty of key differences between hard money loans and conventional loans.
For starters, hard money loans are asset-based loans. That means that their decision to lend will focus on the quality of the asset and will need to fit their collateral and risk requirements.
For instance, if you're working with a hard money lender that specializes in multifamily properties under $1 million in Georgia, it is unlikely that they will finance a $5 million condo purchase in New York as that does not fit their collateral requirements and exceeds their risk tolerance.
This makes the approval process for hard money loans very straightforward as they can provide quick decisions based on the asset quality, instead of requiring tons of documents related to your personal income or creditworthiness.
Furthermore, since hard money lenders set their own loan terms, they usually have more room to be flexible, especially if the loan request meets their collateral and risk requirements.
Additionally, hard money loans require little to not documentation which makes them faster to acquire than conventional ones. Many traditional loans, particularly mortgages for commercial or residential properties, can take more than 45 days to finalize. A hard money loan can usually fund in less than 14 days.
Hard money lenders don’t prioritize credit as much as conventional loans. Because of this, if your credit isn’t excellent or you're a foreign national with no U.S. credit history, a hard money loan could be a way to help you build start building your real estate portfolio or purchase your next fix and flip project.
Shorter Term Length
Lastly, hard money loans usually have shorter terms than traditional mortgages.
For instance, a traditional fixed-rate home mortgage is usually set for 30 years. With a hard money loan, your term is generally around one year to 3 years; most hard money loans are interest only with a balloon payment due at maturity.
What Is a Commercial Hard Money Loan?
A commercial hard money loan is, of course, a hard money loan intended for the purchasing or refinancing of commercial properties. These are income-producing properties like shopping centers and retail business storefronts.
Generally, commercial properties require improvements or repositioning to qualify for hard money commercial loans, though the specifics can vary heavily. Depending on the building in question and the plans of the borrower, a hard money lender may consider the following:
- Sponsor's experience in the commercial real estate space
- Occupancy rate of the property and rent rolls
- Improvements made to the property
Commercial hard money loans can be valuable sources of income for small business owners who want to purchase commercial real estate quickly but may not qualify for a traditional mortgage or commercial loan for one reason or another.
What Is a Residential Hard Money Loan?
Although a hard money loan is a commercial-use loan, it can be used to finance residential properties, as long as the property is used for income producing purposes such as a rental property.
Residential hard money loans are commonly used by house flippers to quickly purchase distressed properties.
Over a few months, the real estate investor fixes up the property to increase the value, then sells it for a profit. They use the sale proceeds to pay back the loan and have some extra money to purchase another property or take it as profit.
Hard money lenders that specialize in fix and flips, usually lend based on ARV or after-repair value. The difference in price between a home and its after-repair value may be used as a cash advance to repair and restore the property so that it turns a profit.
What Types of Properties Qualify for Residential and Commercial Hard Money Loans?
The type of property that qualifies for a hard money loan will vary from lender to lender. There are some hard money lenders that do it all, and others that are more niche. The best way to determine if a hard money lender can cater to your investment needs is to find out:
- The states or cities they lend in
- The property types they lend on
- Minimum loan amount
- Maximum loan amount
- Max loan-to-value
When Is a Residential or Commercial Hard Money Loan Ideal?
Many people can benefit from residential or commercial hard money loans.
For example, foreign investors who do not have personal or business credit scores to back on to prove their creditworthiness to traditional lenders. Because of this, they may have no choice but to turn to hard money lenders if they wish to start investing or purchasing real estate properties.
However, previous borrowers whose credit scores decreased for one reason can also benefit from hard money loans. If, for example, you had a prior bankruptcy or foreclosure, you might still qualify for financing from a hard money lender if you have sufficient collateral to put up as a guarantee of value.
In addition, a hard money loan can be used as a short-term or private financing solution if your long-term financing solution can take some time to get set up or can fall through at the very last minute.
A hard money loan can allow you to purchase property while a long-term loan solution is finalized over a few months. That way, you don’t have to risk the property being taken off the market or purchased by someone else.
What Are My Other Financing Options?
If you're not sure whether or not a hard money loan is right for you, it may be worth consulting with a lender who can help you explore all of your financing options in one convenient setting.
At Vaster, we can provide an investment mortgage that caters to your specific portfolio needs and goals. Contact Vaster today to see how we can help you get the funding you need ASAP.
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