What Is a Hard Money Loan and How Does It Work?
A hard money loan can provide you with cold, hard cash quickly — typically in just a few days. These loans are secured by a physical asset (like real estate) that the lender can repossess if you default on your payments. While hard money loans can be a quick way to buy a property, they come with risks, including higher interest rates and shorter repayment terms. Learn more about hard money loans below, including how they work and what to consider before borrowing one.
Key takeaways
- Private companies and investors — rather than traditional banks — typically offer hard money loans.
- Getting a hard money loan is often a faster process than getting a standard mortgage.
- If you default on a hard money loan, the lender can seize your property.
How a hard money loan works
Hard money loans have the same purpose as a regular mortgage — to finance a real estate purchase. But that’s where the similarities end for the most part. A key difference is that individuals, investment companies and other private businesses offer hard money loans instead of traditional lenders. In addition, hard money lenders generally have a less stringent approval process than standard home loans.
Hard money loans most commonly use real estate as collateral, but other hard assets — like vehicles, equipment, machinery and precious metals — could also secure the loan. The typical terms for hard money loans range from six to 24 months.
In order to offer a fast closing time, hard money lenders typically don’t look into your credit history. They mainly base the loan amount on the collateral’s value. You’ll also likely be limited to a 65% to 75% loan-to-value (LTV) ratio — the lender wants to limit its risk in case you default.
Hard money loan rates
Hard money loan rates generally range from 9% to 15% and are typically higher than standard mortgage rates. To put those numbers into context, the average mortgage rate for a traditional, 30-year fixed loan is currently 6.44%, according to Freddie Mac’s Primary Mortgage Market Survey®. Interest rates on hard money loans depend on several factors, including your loan amount and property value.
Is a hard money loan right for you?
If you have poor credit or need a large sum of money quickly, a hard money loan could help. Be aware, though, that it’s a more expensive way to get the cash you need.
Here are some of the types of borrowers who tend to consider hard money loans:
→ Borrowers who don’t qualify for traditional financing
→ House flippers (people buying fixer-uppers to renovate and resell them)
→ Real estate investors
What is BRRRR?
Besides being a noise you make when you’re cold, BRRRR stands for “buy, renovate, rent, refinance and repeat” — it’s an acronym and method used by house flippers. If you don’t want to wait the six weeks or so that it takes to close on a mortgage refinance, you could instead use a hard money loan to help you complete the BRRRR process.
How to get a hard money loan
1. Compare hard money lenders.
Like with any major purchase, it’s important to compare lenders to find the best fit for your needs. When comparing hard money lenders, consider the company’s reputation, rates, terms and fees. In addition, make sure you understand each lender’s requirements, including the minimum income, credit score and down payment you’ll need.
2. Select a lender.
Once you’ve compared hard money lenders, you should have a good idea of your preferred company. It can be helpful to choose a lender that has expertise in real estate transactions similar to yours. Be sure to ask the lender any questions you have about your loan contract before signing on the dotted line.
3. Gather your documents.
Collect the documents that are relevant to the transaction, which may include bank statements, tax returns, proof of homeowners insurance and a project budget (if you’re financing a fixer-upper.) You may also need a property appraisal.
4. Fill out the loan application.
Next, it’s time to fill out the hard money loan application. You’ll likely need to provide identification and other supporting documents. Most hard money lenders offer online applications, and some lenders even provide loan offers within 24 hours.
Hard money lenders: What to know
Credit unions and banks don’t typically offer hard money loans. Instead, look to real estate investment companies and private investors. Some examples of hard money lenders include HouseMax Funding and Express Capital Financing. You may qualify with different lenders depending on whether you’re taking out a business hard money loan versus an individual one, and whether the asset is owner-occupied.
Keep in mind that most hard money lenders provide loans between 65% and 75% of the secured asset’s value. This means you’ll need a higher down payment than what’s often required for a traditional loan — between 25% and 35%.
Pros and cons of hard money loans
| Pros | Cons |
|---|---|
| No minimum credit score requirement: Hard money lenders tend to rely solely on the value of the collateral securing the loan and don’t take the borrower’s credit score into account. Quick closing time: Rather than the loan closing process taking weeks to months, hard money loans generally close within a few days. Short terms: If you expect to repay the loan quickly, even a high interest rate may not add up to a larger bill. Looser underwriting requirements. Hard money lenders are generally more flexible with their approval guidelines than traditional lenders. | High interest rates: Because the lender isn’t taking your credit score into account, the loan is considered riskier and has a higher interest rate than other loan types. Lower maximum LTV ratio: You may only qualify to borrow up to only 75% of the asset’s value. Meanwhile, you could borrow up to 85% with a home equity loan or home equity line of credit (HELOC). Risk of losing the collateral: If you default on the loan, you’ll lose the asset you put forth to secure the loan. Less regulatory oversight. Hard money lenders aren’t as regulated as standard mortgage lenders. |
Alternatives to hard money loans
If you decide a hard money loan isn’t right for you, here are some alternatives to consider:
- Land loans. If you want to buy a lot of land that doesn’t have a house built on it yet, a land loan could be an option.
- Private loans. Finding a private investor, such as a relative or friend, could end up being cheaper than a hard money lender.
- HELOCs. If you have equity in your current home, you could use a HELOC to finance the purchase of another property. However, this is a riskier option, since your current home will be used as collateral on the credit line.
- Investment property refinance loans. You may be able to tap the equity in your investment property with an investment property refinance loan and use the equity to buy other properties. You could also use the funds to pay off an existing hard money loan.
- Peer-to-peer loans. Another way to access funds for a real estate purchase is a peer-to-peer loan. Like hard money lenders, peer-to-peer lenders typically have less stringent approval requirements, making it an option for people who don’t qualify for traditional mortgages.
- Cash-out refinancing. A cash-out refinance involves replacing your current mortgage with another, larger mortgage and pocketing the difference between the two. You can use the money you receive for various purposes, including a rental property purchase.
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