Are Hard Money Loans a Good Choice?

Hard money loans are often used by developers and flippers who need a short-term influx of cash for an investment. Shutterstock

You’ve decided to go into the house-flipping business, or maybe you are facing foreclosure on your home and need help. You may think these two items don’t go together, but they can be financed in the same way.

A hard money loan can be used in both scenarios. But what is it, and how do you go about taking out a hard money loan?

How a Hard Money Loan Works

Hard money loans are often used by developers and flippers who need a short-term influx of cash for an investment. Those with high home equity, but are about to be foreclosed on, may also use a hard money loan.

These loans are secured by property and are not tied to the borrower’s credit. The loan has a short repayment term, usually less than a year. It’s based on the property’s value and usually comes with a high interest rate.

Some hard money loans are structured as interest-only loans, but have a large balloon payment. They’re riskier loans compared to other types of financing.

Hard Money vs. Traditional Financing

There are many differences between hard money and traditional financing.

For example, applying for and closing on a hard money loan is usually faster than a traditional loan. A hard money loan has a short repayment term, typically three to 36 months.

In some cases, conventional loans can be obtained with a small downpayment as low as three percent. With hard money loans, you need 20 percent. If you are experienced at flipping houses you might be able to put less down.

Who Offers Hard Money Loans

Hard money lenders are not traditional banks. They are generally private investors or companies that specialize in these types of loans.

Hard many lenders aren’t subject to the same regulations as traditional loans. They can make their own rules about debt-to-income ratios or credit scores. It’s basically the Wild West of lending.

Even if you’ve been denied a loan from a conventional lender, you could find a hard money lender who will give you a loan. They focus more on the property’s value than your creditworthiness.

How Much Do Hard Money Loans Cost?

Hard money loans are expensive money.

Interest rates can be double the traditional financing rate. For 2024, hard money rates can run between 9.5–11.9 percent. Origination fees and points are between 1.5–3.0 percent. You will also have closing costs.

They can also be more expensive depending on the lender’s loan-to-value ratio. If the lender will only finance 70–80 percent of the property’s value, you'll need a sizable down payment.

Without the cash, you’ll have problems finding a hard money lender who will loan you the money.

Hard Money Loan Risks

If you’re flipping houses and don’t sell the house in time, you may miss a payment. A hard money loan has high interest rates. But add that to the high downpayment and shorter repayment period, and you can dig a hole for yourself. You must have a plan to cover your loan regardless of what happens.

Why Use a Hard Money Loan?

The costs of a hard money loan are higher than those of a loan from a traditional bank or government lending program, but the hard money lender is taking on more risk.

The advantage to you is that you’ll have faster access to capital. You’ll also deal with a less stringent approval process.

This type of financing works well for flippers because they need cash quickly. It doesn’t make sense to take a 30-year loan for a few months while you sell the house.

If a great deal on an investment property appears, a hard loan may be a good option. Money lenders are usually investors, too, so they’re more apt to approve these kinds of loans.

For people with credit issues, a hard money loan may be the only option. They are sometimes used by homeowners trying to prevent foreclosure.

You can use a hard money loan as an alternative to a bridge loan. A bridge loan is a cushion for those buying and selling a home simultaneously. But if you don’t qualify for a bridge loan, you could use your house for collateral to free up funds to buy a new house.

Because of the short approval time and short repayment term, the hard money loan is a viable option.

Weighing the Circumstances

Typically used by real estate investors, developers, and flippers, hard money loans are a short-term solution.

A hard money loan can be arranged quickly, as opposed to a traditional lending institution, which can take months to approve a loan.

But, as we said, loan terms are short, usually three to 36 months.

Hard money loans are expensive. It is wise to have a plan to pay the loan back during the term. There are no regulations regarding hard money loans, so buyer beware.

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