Hard Money Compared
Hard money is a faster, more flexible, convenient and expensive form of financing than conventional mortgages available from banks. Hard money lenders tend to focus more on the value of borrower’s collateral whereas bankers value the creditworthiness of the borrower most. Some of the key differences between hard money and conventional loans are summarized in the table below:
|Hard Money||Conventional Mortgage|
|Credit Score Requirements||None to Low||High|
|Loan Cost||High||Low to Moderate|
|Transaction Speed||Moderate to Fast||Slow|
Hard money lenders in contrast to banks tend to be individuals or small groups of individuals who have pooled their capital together to make mortgage loans to borrowers. Because banks and mainstream mortgage brokers deal with many borrowers, they are only able to efficiently offer a standardized product that offers little flexibility. This is to say that either a borrower meets the requirements and gets the loan or she doesn’t and is rejected. On the other hand, because of the size of their operations, hard money lenders can generally deal with borrowers who don’t fit into the bank’s model.
Source of Funds
Conventional Mortgage Lenders’ primary source of funds are large organizations known as government sponsored entities (GSE’s). Companies like Fannie Mae and Freddie Mac provide the actual capital required to make the loan. In exchange, the lender must ensure that the borrower conforms to the specifications required by the GSE. After the loan is made, it may be grouped with other similar loans into one big pool. This pool can be broken down into shares and sold to investors. Therefore, the modern mortgage lender doesn’t make money from holding onto their mortgages as investments, but rather by bundling and selling those mortgages off to investors. This whole system has made it easy to get a cheap mortgage if one falls into the requirements of the GSE’s. However, for those who don’t qualify, conventional mortgage lenders may seem like an inflexible source of money.
Hard Money Lenders get their money from individual backers and investors. These investors either pool their funds to make mortgages or they purchase mortgages individually. In either case, the hard money lender acts as a broker between those individuals and borrowers. They analyze potential mortgages with a special emphasis on the collateral property. In the event that the borrower stops paying their mortgage, the lender will have to foreclose on their collateral. The collateral must be valuable enough so that the lender will be able to cut their losses when they sell it. This tends to mean that the lender will not lend more than a certain percentage of the fair value of the collateral. This percentage is known as loan to value (LTV). Generally speaking, lenders set their maximum LTV levels at between 60 and 70%. This means that for a property that is worth $100,000, they would be at most willing to extend 60,000 or 70,000 in the form of a mortgage.
Note that there is a place for both standard mortgages and for hard money loans. A shrewd and frugal borrower will pursue a financing source that will mean the lowest cost possible throughout the time that they own the property. In most cases, this means applying for a mortgage through a bank first. However, if the deal is possible through no other means, hard money can provide crucial opportunities.