As hard money lenders are well aware, there are many misconceptions about how hard money loans work among people who are used to the more traditional bank loans. Despite their growth in popularity, they are still looked upon with a certain dose of distrust by most people.
However, as many investors know, hard money loans can be a very effective way of obtaining funds for many different project types, especially when time is of the essence.
Below are some of the most common myths about hard money loans and whether there is some truth to them.
Hard Money Loans are Desperate Measures
The first and most common misconception is that hard money loans are for people with a bad credit rating, or who are unable to get a loan from a bank for different reasons. However, contrary to this belief, the majority of people taking loans from California hard money lenders are successful investors.
In fact, bank loans and hard money loans are two different tools in the hands of a businessman, with their respective advantages and drawbacks.
While the banks may offer lower interest rates and a better value-to-loan ratio, there are times when acting quickly to secure the deal is more important, and this is where hard money lenders come in with their flexibility and the ability to process loans much faster.
Hard Money Loans are a Gamble
Another common misconception is that hard money lenders are less cautious and more risk-prone than banks.
In reality, hard money lenders care about their money just as much as the banks do, especially since, in most cases, it is their own money that they lend. This makes it imperative for them to make good estimates on how likely the borrower’s deal is to succeed and earn a profit for both of them.
Additionally, hard money lenders usually operate in the same region where they live. This means that they know their local market very well, and are able to make a good evaluation of the potential of a project or property.
Hard Money Lenders are Loan Sharks
The goal of a reputable hard money lender is to earn a good rate of return on their loan, and not to acquire and re-sell the property. The success of the borrower’s project is in the interest of both parties, as this means that they will both be able to profit from the loan.
However, this doesn’t mean that you shouldn’t be careful when taking out a loan. Although most hard money lenders are legitimate businessmen who are not interested in taking over your property, but rather seeing it succeed, you should always do your research before signing any loan agreement.
Traditional Loans are Less Expensive than Hard Money Loans
This is true to some extent, the real question being what you get for the added expenses. Hard money loans are more expensive, considering they have higher interest rates.
However, with their flexible loan terms, quick approvals and no prepayment penalties, hard money loans are also capable of saving you money, through avoiding opportunity costs, for instance. Additionally, there are some situations and projects on which the banks simply don’t lend at all.
Hard Money Lenders do not require any Documentation
Although hard money lenders do require less documentation than banks or other traditional lenders, they still need to be convinced that they can make a profit on their loan.
Most of them will require documents based on which they can make a risk assessment of the proposed project and define appropriate loan terms. These most commonly include property appraisal, title report, title insurance, and personal ID.
The Exit Strategy of the Borrower does not matter to the Hard Money Lender
Again, the goal of the lender is to have their loan paid back in full at the end of the loan term. The only way this is going to happen is if the project is successful, and this requires a good business plan and a realistic exit strategy.
Similarly to providing a bank with guarantees, the hard money lender needs to be convinced that the borrower has a sound exit strategy so that they don’t end up owning the collateral, going through the foreclosure process and incurring additional expenses.
This is why hard money lenders are interested in the exit strategy of the borrower and will consider it carefully, along with other aspects of the investment plan, before investing their time and money into the project.
Despite all the misconceptions, hard money lending is growing in popularity, as more and more people are starting to realize the benefits it offers. Although traditional loans will remain the primary source of funding for many investors, hard money lending is proving to be a great alternative when it comes to real estate investments, because of its flexibility, speed, and commitment of the lender.