There are three types of primary real estate financing for residential deals which are: bank loans, hard money lenders, and private money lenders. These types of real estate financing are classed as short term financing and in this article, I am going to show you the pros and cons of each, who should use which, and how to avoid unaffordable mistakes.
With the current health crisis of coronavirus pandemic and all the lockdown, it is no doubt businesses especially the real estate industry has changed forever. With the banks designing new strategies to curb and protect liquidity, the face of real estate financing will no longer be the same.
For the purpose of clarity, this article will be focusing on short term financing like, buy, flip, rehab, etc. People looking to buy and rehab a house then flip for a profit or hold as an investment.
3 Types Of Primary Real Estate Financing And Their Cost
Yes, I decided to use this image of very strong bank vaults because this is how hard it is for anyone to get a bank loan after this coronavirus pandemic. Bank loans are very very hard to get even before the pandemic but hang in there as this article will break down how to easily get one.
First, you have the conventional lenders, for example, Smith or Scolly bank, these are your usual 30 years mortgaged that folks typically get mainly for their homes. For investment properties, the bank usually limits you to 10 mortgage properties. That means if you have more than 10 mortgages, you have a very limited chance of getting these loans.
Because they have very strict financing rules and if you want to buy and rehab or looking for rehab investment properties, conventional lenders will not lend you at all.
That leaves you with the limit of 10 mortgage properties, meaning that the limit of 10 mortgage properties says if you want to buy and hold a ready to go investment property, or if you are looking to buy and rehab properties, then the usual bank loan is out of option.
Even if you are able to get the conventional bank loan you need, there is going to be a monumental amount of paperwork to go through. For example, you need to have sparkling credit, you must have at least above at least 30% deposit, due diligence/background checks, pledge allegiance to them, do a drug test, literally sign over your life to them, the whole nine yard. I am sure you get the picture and that is if you manage to get the bank loan.
The truth? Is it very hard to get a conventional loan or qualify for one these days? Especially for you the investor, and it is so ridiculously painful to deal with accompanying underwriters.
Therefore if you are looking to buy properties in need of rehab, investment properties, then conventional bank loans should be your last resort.
Which Best Bank Loan To Go For Your Real Estate Financing
The best alternative or conventional financing option for you are your local community banks and credit unions. These are more pleasant to deal with.
These lenders are basically small banks in your home town who are mandated by your local authority to lend within your region to help grow local businesses in your region.
They are much friendlier towards investors than the typical high street banks. They have construction loans for investors. They are typically considered commercial banks and you can get credit lines or construction loans from them.
You can also refinance your investment properties from short term to medium-term financing and the underwriting process is much simpler.
They have fewer restrictions in place because they are in-house lenders usually known as portfolio lenders. Instead of selling these loans to the secondary market for Smith and Scolly bank, for example, they issue you a loan and keep it in their book. Hence they can create their own lending criteria.
Because they understand the need for local investors to grow, you have got much less bureaucracy to contend with.
For example, if your loan is under a certain amount, your loan officer sometimes can make credit underwriting decisions himself on your loan. Although you still must qualify based on your income, global cash flow, your credit score, and a dependable balance sheet with a zero link to another bad loan.
Pros of Bank Loan (Local Community Bank)
- Easily accessible than your typical high street conventional banks.
- Instead of a 30 yr fixed rate, they are going to carry short term calls three, five, or ten yrs resets.
- Loans will reset based on market interest rates
- Depending on your circumstances, your loan officer can make a credit underwriting decision himself on your loan.
- You are avoiding the headache of dealing with conventional lenders.
- Only for short-term/medium-term real estate financing options. Not suitable for a 30 yrs or above long term investment financing.
Hard Money Lenders
Hard money lenders are asset-based lenders otherwise known as hard money. These lenders will give you a loan based on your asset value also known as collateral loans.
They don’t really care much about your credit score, income, or global economy. All they are interested in is the deal itself and they are much easier to deal with than the conventional lenders and your local community bank put together.
With hard money you can only borrow for a very short term, usually, 12 months and they can be very expensive. And they carry severe penalties if you default.
Their business is basically turning their money and loans over quickly and you are usually paying up to eight points upfront. The interest rates are very high, They run up to 12% to 16% and if you default, the points stack up and they can foreclose on you if you default badly.
The best advice is to pay on time and do not default. Also, make sure you have a good exit strategy place. It is very easy to get into trouble if you do not know what you are doing when dealing with hard money lenders.
Pros Of Hard Money Lenders
- Easily accessible
- No bureaucracy
- No monumental amount of paperwork.
- Fast cash readily available
- Very expensive
- High-interest rates
- Point stack up at the default
- Risk foreclosure on your asset if you default.
- 85% of people defaults due to unforeseen circumstances.
- Thins can turn ugly very quickly for you if you do not have a solid exit strategy in place.
Private Money Lenders
Private money lending is much easier and can I say fun than the previous two options above.
Private money lenders basically mean you are borrowing from individuals just like you are me and I have a picture of a lady in a posh car sitting casually by a private jet and that could be your private lender.
Or your gardener at home whom you never knew had a stash of cash saved up from his retirement fund and has no clue what to do with it.
Usually, these private lenders have some idle cash sitting around, have a full-time income, and don’t know how to invest in real estate. They may have one or two investments in the stock market but may not be happy with the returns they are getting.
You have to be introduced to them by a friend or you are having a conversation about how to invest in real estate and they happened to become interested but want to partner with you as they don’t usually have the experience.
These are regular people you meet at church, meetings, networking, library, conventions, and even at the workplace. These are not professional lenders.
Another great thing about this kind of short term real estate financing is that you can Google up hard money lenders in your area.
For example, you can type in hard money lenders in Dallas, Texas, Michigan, Ohio, London, Liverpool, Birmingham, etc no matter where you are and you will see a bucket load of listings popping up. These are professional lenders and it is your job to cultivate and build a relationship with them.
There are fewer regulations, documentation requirements are really up to the lender, usually little, and the terms, the best thing about private lending is the terms can be completely open and very flexible.
Pros of Using Private Money Lenders
- Easy to access
- Less paperwork to go through.
- It could be anybody really.
- Cash readily available.
- It could easily result in a long term real estate business partnership.
- You can easily Google this kind of lenders in your area as there is always a ready list to go through.
- Only suited for short term borrowing.
- Yes there less paperwork to go through but fees can be very high due to short term borrowing.
- It could get complicated if you default. Hence always have a solid exit strategy in place before.
- You are literally going in blind as you do not know what to expect.
- Building a relationship sometimes takes longer and could be a pain.
- This kind of borrowing is always secured against solid asserts just like hard money lenders.
Recap of The 3 Types Of Primary Real Estate Financing And Their Costs
First, we have the conventional lenders which are your regular high street banks. We both now know from this article that it is not the best option especially with the stringent and thorough bureaucratic processes involved with the underwriting.
Unless you have friends in high places or relation to the fund manager. Even at that, these banks are obliged to follow stringent rules and a first-time borrower may find themselves buried in paperwork for so long a time your business will go down.
The second option in the conventional Smith and Scolly high street bank example is your regular community bank. Yes, they are local and a bit easier than the conventional bank lenders but still got its won perks.
You still have to go through almost the same process and when you eventually get through, their loans are usually for short term only. If you have a long term real estate business plan, it may not suit you in the long run.
The main second option of primary real estate financing is the hard money lenders. Looking at the pros and cons associated with this kind of lenders I think you should be wise not to bother in the first place.
The last option is the private money lenders. You may see that it is a bit easier and can I say better? Or even more easily accessible than the two options.
But there is always the issue of swimming in the dark as you don’t really know what condition is going to be associated with the repayment.
Yes, it could be your next-door neighbor or your high flyer friend or even your inlaws but there is always a great uncertainty associated with conditions of both borrowing and repayment.
And they are all heavily borrowed against solid assets which you may or may not have.
Now, what if I tell you there is another way you get funding with fewer uncertainties and risks associated with the 3 types of primary real estate financing above?
This best option involves the use of private money lending but you have to know how to structure it better. Let us jump right in below.
How To Structure Private Money Deals To Get Lenders To Chase You
Now if you are familiar with a real estate technology software called Rehab Valuator you will understand there are free versions and the full premium version.
It is a web-based real estate software platform that helps you with all things real estate solutions. You can read up the full and insightful Rehab Valuator review here
The premium version has active members with private money lenders looking for deals every day or who to partner with. Now I am going to show you a video that will work you through all the process of structuring private money deals that will get these lenders begging to invest or partner with you.
Private money is when you borrow money from other individuals. If you’re looking to borrow a 100% of your purchase plus the cost of renovations, it’s impossible to do it with the community banks, it’s very hard these days to do it with hard money lenders, but with private lenders, you could structure a deal that way.
In this video, you are going witness first hand how to structure your private money deals and get lenders to chase you. This is a phenomenal video with a lot of good numerical examples and case studies. So please grab a pen and paper, and a cup of coffee by the side.
The Instructor on this video is a real estate investment expert called Daniil Kleyman, a friend and the owners of True Vission Analysis based in the United State. He held nothing back on this video and you now have the opportunity to repeat and rinse his strategy.
Everything you see here, you can do with the free version of the software. So if you don’t have that software, go to RehabValuator.com and set up your free account.
And of course, if you’re already an account holder you can upgrade to Rehab Valuator Premium.
One of the things that you can do with the premium software is you can create a really good persuasive deal funding proposals for your hard money and private money lenders, and even banks and this video will demonstrate all that for you.
Alternatively. you can click the image below to download a FREE private money report called “Art of private money structuring by Daniil Kleyman” below. That is if you prefer to read the whole report instead of the video version.
This is my take on 3 types of primary real estate financing and their costs available to you. If I missed anything or you have tried any of this option or even better have questions, please do so below and I will get back to you soon as possible. If you enjoyed this article please like and share the heck out it for me on your social network. Many thanks.