Why You Should Use Hard Money Loans When Flipping
Flipping homes remains a popular investment opportunity, and it’s easy to understand why. The process of rehabilitating a residential property and returning it to market as a turnkey-ready product serves not only to help new homeowners avoid some of the biggest financial pitfalls involved with buying older properties, but also provides a quick turn for investors seeking to springboard into other real estate investment opportunities by building capital. Hard money loans are the most popular form of financing for both new and experienced property flippers, and for good reason.
What Is Hard Money?
Loans backed by individuals and non-bank, direct-lending companies versus those provided by traditional banks based on the financial position of the applicant are referred to as hard money loans. Any private, investor-backed loan could be considered hard money, but the term has come to mean an alternative debt financing structure to the gatekeeping involved in the bank loan approval process. Hard money loans for flipping properties tend to be secured by the purchased real estate as collateral, with terms from six months to as much as three years as well as interest-only payment options until the final payment of the outstanding principal.
Purchasing Property With A Hard Money Loan
Hard money loans are usually secured by the purchased property, similar to collateralizing a commercial mortgage. The loan-to-value, or LTV, ratio for a hard money loan tends to be lower, commonly in the range of 65 to 70% depending on the lender. Accordingly, this requires a higher down payment. Some lenders, however, may finance up to 100% to allow the property flipper to focus on the rehab and marketing of the property.
Cash Out Financing With Hard Money
Experienced property flippers who already own multiple commercial properties as long-term investments have additional options. They can refinance existing properties using the same hard money loans that other property flippers must attach to the purchased property. This allows them to use income from their existing commercial properties to repay the loan, which reduces risk by attaching the debt to an existing and stable investment. It also allows them to access capital beyond the purchase price if equity is available in the existing commercial property, so that additional improvements and marketing can be financed as well.
It’s not difficult to see why hard money loans are favored over traditional bank loans. Hard money loan terms are based primarily on the value of the property being used as collateral, and not on the financial position of the applicant. The approval process for hard money loans is generally much quicker than traditional bank loans. Finally, the higher cost of hard money loans is typically offset by the shorter term. These are just a few of the reasons hard money loans are the most popular form of financing for property flippers.