Believe it or not, about 36.6 percent of households in the United States rent their home. This means that no matter where you’re located, there’s almost always a demand for rental properties.
If you’re considering fixing up a home and turning it into a money-earning investment property, now is the perfect time to get started.
However, you’ll still need a way to pay for that investment property. For most people, this means taking out a loan. While traditional loans can work, a hard money loan may be a better option.
Here’s what you need to know about the differences between hard money and traditional bank loans.
Hard Money Loans Have Fewer Uses
Traditional loans are available to finance just about any type of purchase you can imagine. If you’re looking to buy a car, you can apply for a traditional auto loan. If you’re trying to buy a house, a standard mortgage loan will help you finance the purchase.
The restrictions to those loans are clear according to the type of loan you apply for.
Hard money loans have slightly more limited uses. In most cases, borrowers use them for large real estate transactions. These could involve buying a house to fix and flip or borrowing money to renovate a multifamily apartment building.
Though they’re limited to real estate projects and property investments, hard money loans don’t outline what you can do with the money for those projects. This means you’re free to complete tasks as you see fit.
They Come with Higher Interest Rates
Traditional loans have interest rates that are set by the banks based on industry standards. This means that different lenders may offer you different interest rates, but they’ll typically all be within the same range.
Hard money loans typically have higher origination fees and higher interest rates compared to traditional loans. However, borrowers are often able to get larger hard money loans which makes it possible for them to complete their projects quickly.
Repayment Terms are Less Flexible
Most traditional loans have terms ranging from one year to up to 30 years depending on the type of loan you apply for. The longer the loan lasts, the smaller your monthly payments will be.
If you find that the loan is too expensive to repay, you may be able to refinance the loan to get a lower interest rate.
Hard money lenders typically extend loans for a period of up to 12 months. You’re expected to repay the money in full in a lump sum payment by the end of that 12 months.
This means you won’t have to worry about monthly payments and can allocate all of your available cash to complete your project quickly.
That said, you’ll need to have enough cash at the end of your project to pay off the loan and any interest accrued over the course of the year. If you don’t, the lender can seize the property.
It is possible to refinance a hard money loan with a conventional loan issued by a bank, but you must take out a large enough loan to cover the hard money loan in full by the 12-month repayment deadline.
This could result in higher interest costs and increased debt.
Hard Money Loans Are Not Issued By Banks
Traditional loans come from banks and other financial institutions. When you apply for one, you work with a representative of that bank and borrow money from the institution itself.
Hard money loans come from private investors, not banks. This means individuals get to decide who they loan money to, regardless of the borrower’s financial situation.
Instead of looking at your credit score and your overall finances, hard money lenders look at the scope of your project and the equity you’ll have in the property. If they see the project as a good investment, they’ll be more likely to issue you a loan.
They Don’t Require Great Credit
When you apply for a traditional loan, banks take a long, hard look at your credit score and current debt level. If your score is low or you have high amounts of pre-existing debt, they’ll be less likely to offer you a loan with a reasonable interest rate.
Hard money lenders don’t put much stock in your credit score when you apply. Instead, they look at the property you’re wanting to work on.
If that property is valuable and the improvements you’ll make will inherently increase the value, they’ll be more likely to issue you a loan. This is because you’ll post the property as collateral for the loan.
If you fail to repay the loan, the lender can seize the property and use it to settle your debts. Since your credit score and finances aren’t the main deciding factor, it’s typically much easier to qualify for a hard money loan.
You’ll Still Want to Research Lenders
Keep in mind that you’ll still want to do your due diligence and research every hard money lender you’re considering working with. Make sure the lender you work with has a good reputation and doesn’t have outstanding legal complaints against them.
You can also check out their reviews and ask for client testimonials to gauge other peoples’ experiences. If most of the reviews are positive, you’ll likely have a good experience working with the lender. However, if they all express similar concerns, you may want to keep looking.
Is a Hard Money Loan Right for You?
Ultimately, deciding between a hard money loan and a traditional loan is a matter of personal preference. In general, if you’re looking to invest in property and need money quickly, hard loans are a great choice.
However, if you’re looking to keep monthly payments low and want to leverage your good credit score, traditional loans may be a better option.
Looking for more help deciding which type of loan is best for your needs? Check out our recent posts for more guidance.