Real estate investing can generally be summarized into three steps:
• Find It
• Fund It
• Finish It
You must be good at all three steps in order to be a successful real estate investor. In today’s real estate market, “finding it” has become a lot easier. Foreclosures are at record highs. REOs (Real Estate Owned) are numerous. Motivated sellers are everywhere. All you have to do is go out and spend a little time, and you can usually find all the properties you want. The third step, “finish it” (sell or rent), is a topic for another day. But if we can’t “fund it,” we don’t have to worry about “finishing it,” because we won’t even have it!
So let’s talk about the second step: “fund it.” Funding it is a lot harder these days. If you happen to be a cash-rich investor who can afford to pay cash for deals, you are set. But most investors, especially new investors, don’t have a lot of cash lying around to fund their deals. In order to purchase properties, these investors have to use other people’s money (OPM), usually in the form of a loan originated by a mortgage broker or from a traditional bank.
Banks are still making loans to real estate investors, but they are getting harder and harder to get with acceptable terms. The rules have changed. Investors are many times required to come up with larger down payments; 25 percent to 35 percent down is not uncommon. No-doc loans and stated income loans are things of the past. LTVs (Loan to Value) are getting lower, and are usually based on the purchase price, not the value of the property. Even seasoned mortgage brokers are hard-pressed to get decent terms for investors.
We are all hearing a lot of talk from Washington about bailouts for banks and homeowners. No one knows what the outcome of such discussion will be, but one thing is certain: there is no talk of bailouts for investors. We are on our own.
So what must we do to be able to invest in these hard times? Well, the trusty hard-money lender may just be the “knight in shining armor” we are looking for. I can hear you saying it now, “Hard money? That’s too expensive! I can’t afford it!” “Those hard-money lenders are scary!” “I don’t know any hard-money lenders!” Well do you want to invest, or do you just want to make excuses? The choice is up to you.
First of all, it needs to be said that a hard-money loan is not the solution for all situations.You need to run the numbers and see what will work. The numbers never lie, and will tell you if you will make a profit based on accounting for all of the project’s costs, including the costs of a hard-money loan. Do your homework, and you will know if a hard money loan is even an option in your situation.
Next, let’s get rid of some myths about hard-money lenders.
Myth #1 – The hard-money lender mainly wants to get title to the property.
FALSE! Hard-money lenders are in the business of lending money to make a profit. Many, if not most, hard-money lenders were first successful real estate investors, and are now using their money to make a profit for them without having to find, fund, possibly fix, and finish properties. Many still own several properties, but they focus on lending rather than buying for their profits. They don’t want your property. They just want a return on their money based on the risk they are taking.
Myth #2 – The hard-money lender works for the local crime boss.
FALSE! Many people associate higher interest rate loans with loan sharks. A hard-money lender is not a loan shark. First of all, in the case of a loan default, a hard-money lender mainly looks to the property for restitution, rather than looking to you. The interest rates and points they charge are usually commensurate with the risk they are taking in making the loan. Having said this, you still have to be careful concerning with whom you do business. If you feel uncomfortable with a lender, don’t do business with him or her.
Myth #3 – Hard money is almost always too expensive for most deals.
FALSE! Look at the numbers for the deal. They will tell you if the cost of the money will still allow you to make a profit. Remember that some profit is better than no profit at all, which is what you will get if you don’t fund the deal. Don’t get hung up on the higher interest rate. A high interest rate over a short period of time is usually not a deal breaker. But keep in mind that hard-money loans are not long-term loans. If you’re going to buy, fix, and sell, the hard-money loan gets paid off with the sale of the property. If you get a hard-money loan to initially purchase a rental property, plan to refinance as soon as possible in order to get a long-term, fixed, lower interest rate loan. This is a requirement for maximizing your cash flow.
Getting at least one—and preferably, more—hard-money lender on your Power Team is one of the smartest things you can do as a real estate investor because it gives you one more funding option for your real estate purchases. The more ways you have to fund your deals, the greater are your chances for success.
However, don’t be like so many real estate investors who just do a Google search, get a name, call on the phone to ask their current lending criteria, and think they have a hard-money lender on their team. It takes much more than that to develop a good relationship, but the effort is well worth it. Here are some tips that will help you in dealing with hard-money lenders.
Find and work with a local hard-money lender. There are many national hard-money lending groups that you can deal with, but there are real advantages to dealing with a local lender. Once you find a local lender, call and introduce yourself. You can ask some basic questions about lending criteria in order to break the ice and become acquainted. If you feel that he or she is someone whom you would like to work with, set an appointment to go to his or her office. After the office visit, if every thing looks good, take the lender to lunch someday soon. At a relaxed lunch, you can talk about lots of things and get to know each other even better. Find out how he or she got into the lending business. Ask about his or her philosophy on hard-money lending. Equally as important as getting to know hard-money lenders is allowing them to get to know you. Share your goals and plans for your investing. Now you are really building a relationship with that lender.
When you have a deal that you want the lender to look at, take a detailed plan that spells out the specifics of the project and why it is a good deal (cost and potential profit). Show the lender that you know what you are doing and have a plan for the duration of the project, including a clear exit strategy. Most importantly, show the lender how and when he or she will be getting his or her money back.
Another advantage of working with local lenders is that once you have a good relationship, you can call them in the morning, meet them at the property midday, have a loan approval later that same day, and have documents and funding at the title company the next day. Cash and speed of funding will allow you to close lots of deals that would be lost if you only had traditional funding sources to call on.
A good relationship with a local hard-money lender has other advantages. Remember, the hard-money lender makes a good share of his profit on points, so the faster the money turns (meaning the loan gets paid off and a new loan is originated), the more money the lender makes. If you get the reputation as someone who gets things done fast, the lender will want to deal with you. You can also start negotiating reductions in points and interest rates, which could save you quite a bit of money and will put additional profit into your deals.
Now that you know that working with hard money really isn’t so hard, go out and get your share! Find your hard-money sources now, and cultivate those relationships before you need them for a specific deal. That way, when you get that frantic call from a distressed homeowner who is losing his home to foreclosure in five days, you will be able to help!