Hard money lending is a specific type of lending utilized when borrowers are unable to get bank financing. But it is not what you think. It’s not that hard money lenders are taking on deadbeat customers who can’t get bank loans because their credit is so poor. Instead, they take on loans too risky for banks and credit unions.
A good example is obtaining a piece of commercial property that needs quite a bit of rehab before it can be rented. Your neighborhood bank likely won’t touch the project. The risk is too high. But a hard money lender will. Why? Why would a hard money lender take a risk that a bank will not take? Because the reward is worth it.
High Risk and Reward
Although most people do not think of lending as an investment, that is exactly what it is. A bank that writes a residential mortgage expects to be repaid the full principal plus interest. That bank is earning money off the amount loaned out. Ergo, the loan is an investment.
The thing is that all investments have some measure of risk attached to them. There is risk attached to purchasing stocks in bonds. You take on a certain amount of risk when you buy gold and silver. Likewise, lenders take risks on every project they get involved with. Risk needs to be commensurate with reward or lenders are hesitant to jump on board.
If the reward is high enough, extra risk is worth taking. The key for lenders is being able to manage risk and reward in such a way as to find that perfect balance. Enter hard money lenders who are more willing to loan for risky real estate investments.
They Are Private Lenders
Among the many things that set banks and hard money lenders apart is the fact that hard money lenders are private lenders. They are funded by individuals or groups of people who pool their finances into a fund. And because they are private lenders, they are not required to do things the same way banks and credit unions do them.
Hard money lenders take advantage of many of the unique aspects of private lending. For example, they can practice an asset-based lending model that emphasizes collateral rather than a borrower’s perceived ability to repay.
Consider Actium Partners out of Salt Lake City, UT. They are hard money lenders that specialize in Utah, Idaho, and Colorado real estate transactions. Clients looking to borrow from Actium bring the properties they are hoping to acquire as collateral. As long as the properties have enough value to cover the amount being requested, Actium can usually find a way to make it happen.
What is in it for them? A significant return. Interest rates on hard money loans are higher than what is charged on traditional loans. Not only that, but hard money loans are short term by nature. Actium can get in on a new project, earn its money quickly, and get out. Then it can turn around and lend on the next project.
It’s Worth It to Many Lenders
The types of loans banks typically will not touch are of particular interest to hard money lenders. To so many, the risk is worth taking in exchange for a significant reward. Does this mean that they always come out as the winners? No, it doesn’t.
Hard money loans are defaulted just like traditional bank loans. But over the course of many years of lending, hard money does very well. It is a high risk-high reward kind of business that some lenders cannot resist.