A hard money lender, also known as a private lender, lends money to people who cannot get a mortgage from traditional lenders such as banks, mortgage banks, mortgage brokers or credit unions. A hard money borrower may have poor credit (credit score below 580), a limited employment history, be self-employed or have insufficient income to qualify for a mortgage with a traditional lender. The interest rate on a hard money mortgage is typically 4.0% - 7.0% higher than the interest rate on a normal mortgage, depending on your credit score and type of mortgage among other factors. Additionally, hard money mortgages have higher closing costs and lenders may charge two-to-three points in processing fees. One point equals 1.0% of the mortgage amount so if a hard money lender charges three points on a $100,000 mortgage, the borrower pays $3,000 in lender fees in addition to other closing costs.
With a higher interest rate and fees, you may ask why someone would use a hard money lender for a mortgage? In some cases a borrower may use the proceeds from a hard money refinancing to pay off credit card or other debt that has an even higher interest rate. In other cases borrowers with poor credit or who lack other mortgage lending options will use a hard money mortgage to purchase a property and then refinance the mortgage within one-to-two years when their credit or financial profile improves. Another common use of hard money mortgages is to finance house flipping where an investor purchases, renovates and then quickly sells a property. House flippers obtain short-term bridge loans from hard money lenders and then pay-off the loans after the property is remodeled and sold, typically within one-to-two years.
Hard money lenders typically require a loan-to-value (LTV) ratio of 70% or less, which protects them in case the borrower defaults on the loan. Rather than hiring a professional appraiser, hard money lenders typically conduct their own appraisal to determine the fair market value of the property used to calculate the LTV ratio. The fair market value used by the hard money lender may be lower than the property value determined by a professional appraiser. A lower fair market property value means a lower LTV ratio for the borrower.
Hard money lenders may allow higher borrower debt-to-income ratios, which means the borrower may qualify for a larger loan amount but the lender must demonstrate that the borrower can repay the mortgage.
Hard money mortgages can be structured as short-term loans with two-to-three year terms (also known as a bridge loan). Short-term hard money mortgages are typically interest only loans with a balloon payment for the full mortgage amount due at the end of the loan. Hard money mortgages can also be structured as 10/30 or 15/30 mortgages where the interest rate is fixed for the first ten or fifteen years of the mortgage and the loan balance is due paid in full after 10 or 15 years. During the first 10 or 15 years of a 10/30 or 15/30 mortgage, respectively, the borrower pays a monthly mortgage payment that includes both principal and interest. Hard money loans typically require the borrower to pay a pre-payment penalty if the mortgage is paid in full before a specified time period which is generally six months for loans with shorter terms (one-to-three years) and five years for mortgages with longer terms (10/30 and 15/30 loans).
New mortgage rules and regulations have reduced the number of hard money lenders and you typically have to search for smaller, local lenders that offer hard money programs. If you are contacting a hard money lender it likely means that you have no other mortgage options but that does not mean that lenders should exploit you. Just like with all mortgages, when you are shopping for a hard money mortgage be sure to compare proposals from three-to-four lenders and select the mortgage that is right for you.