Hard Money Basics: Know Before You Go

Hard money represents a funding option that exists alongside traditional bank and credit union loans. Needless to say, it’s not right for every single financing need. When it is, it can be a godsend. How would you know if hard money was right for you? By learning everything about it and then applying that knowledge to your circumstances.

If you are unfamiliar with hard money lending, it goes without saying that there is a lot to learn. Before you go down the hard money road, know exactly where that road will take you. Hard money can be an incredibly valuable asset for certain financing needs. Yet it can also be a trap.

It Is Private Lending

The first thing you need to know about hard money lending is that it is private lending. Lenders are usually individuals or groups of investors who choose to pool their money and lend it out for a variety of purposes. Some hard money lenders are state-licensed businesses.

Salt Lake City’s Actium Partners is organized as a private company that manages the financial resources put up by investors for private lending purposes. Actium is the entity that approves and underwrites loans. Their staff manages administrative functions, property appraisal, electronic funds transfers, etc. However, their funding comes from multiple investors.

Approval Is Based on Assets

As private lending, hard money is not subject to the same rules and regulations that apply to commercial banks. This plays out in a number of ways, including how loans are approved. Traditional financing requires determining the borrower’s creditworthiness during the underwriting process. A lack of creditworthiness means loan application denial.

Hard money lenders do not look at creditworthiness. Instead, they look at asset value. Imagine a borrower requesting a hard money loan to obtain a commercial warehouse he plans to rent to a logistics company. Whether or not his loan is approved rests almost entirely in the value of the warehouse as compared to the amount of money he wants to borrow.

Terms Are Short

Hard money loans are designed to be short-term loans. How short? A typical loan term does not exceed 24 months. Anything between 6-12 months is the norm. Rarely will you come across a hard money loan with a term of 3 years or longer.

Extremely short terms allow the lender to get in and out quickly, mitigating some of the risk that comes with asset-based lending. Short terms can also benefit borrowers by limiting the amount of time they have cash tied up in loan servicing.

Interest Rates Are Higher

Because hard money loans tend to be more risky, lenders offset some of their risk by charging higher interest rates. Hard money rates can be several percentage points higher than traditional rates. However, it is not as bad as it seems. Shorter terms make up for higher rates to some degree.

Remember that the total amount of interest paid over the life of a loan is a combination of interest rate and term. The shorter the term, the less total interest paid. It’s very possible for a borrower to pay less total interest with a short-term hard money loan despite the interest rate being higher than a traditional loan. The shorter term makes the difference.

Hard money is worth looking into if you have commercial financing needs that do not work well with traditional funding. If it turns out that hard money is your best option, there is no shortage of lenders around the country. Note that hard money may not be right for you. One way or the other, know before you go.