Black Friday is rapidly approaching and Like many deals on the hottest smart TV, tablet, or product understanding if it is a real deal or just fluff is key this holiday season.
Everyone including real estate investors are looking for the best deals especially on their hard money loans
Many investors will use hard money to finance their projects and knowing the truth behind many programs out there will make you a savvier investor saving you money and future headaches.
I wanted to provide you with some inside knowledge of navigating all these programs that are out there so you truly get the best financing for your next deal.
We will go through many of the “Sexy” programs that are out there and we will debunk some misunderstood details regarding these loans programs that many lenders are offering.
My goal of this is to give you a transparent and professional look into all of these programs out there currently and help you figure out what is truly the best option for your next deal.
Understanding the relationship between interest and leverage
Every investor’s needs are different but as they say “Cash is king” and most investors do not have stacks of cash in their pocket or bank account.
I would say the most common question that investors ask me is what are our rates. The second most common question, and I would argue the most important, is how much leverage, “How much money do they have to provide for their down payment” do we provide.
Understanding the relationship between these very important factors when researching lenders and their programs is critical if you want to get the best deal and save yourself some money while not tying up all your capital for other or future projects.
Like in any mortgage the more money you put down will result in you being able to access the lowest rate product.
That being said, whenever you are looking to bring almost no money down like some “100% Financing” deals out there you usually will pay more for the additional leverage by your lender.
Is “100% Financing” Fact or Fiction?
Many lenders will advertise “100% Financing” as a program for their investors.
Understanding the truth behind these programs will better serve you as you hunt for your next deal. Whenever a lender advertises this no money down product there are many trade-offs for this max leverage.
First, you are going to pay more for the additional max leverage and no skin in the game.
Second, most lenders are going to want you to be a very strong operator and have a track record of success to warrant this type of financing.
If there is a lender that is willing to give you 100% financing you must do your homework and read your paperwork when working with a lender trying to sell you on an expensive, high risk loan.
In real estate and life in general challenges comes up and the profitability can change.
The house may not sell as fast as you thought. You may be putting the property on the market during a season where days on market are more than other times of the year.
Depending on your market there may a snowy winter with lots of snow or hurricanes in a warmer region that can delay your sale and you are not able to pay off your loan in time with your lender and it can become very problematic for you.
Some 100% Financing programs will term for 9 months and not the typical 12 months.
With that being said, if you happen to not pay off your loan in time you will be given the opportunity to extend your loan but for a fee. That fee is usually a point for each month that you extend the loan.
In addition to the higher origination fee if the lender rolls your points in you will not only pay the points later but will interest charged on the points during the loan and usually the interest is charged on the entire ‘inflated’ loan amount with the points added in.
Lastly, if your LTV is over 65% you will need to bring any amount over that number. So, that means your closing costs, purchase price, and rehab budget will need to come in under 65% of the appraised after repair value “ARV”.
When evaluating the best options for financing your deal sometimes putting up a few extra dollars will pay off for you in the end. Beware of these hidden costs and fees and traps within these loans that benefit the lender and not as much for you the borrower.
What is the difference between “Full Boat Interest” and “Interest-As-Deployed”?
There are so many programs and so many nuances within each one.
One very commonly misunderstood concept when researching lenders is finding out do they charge interest on the entire loan amount day one (including the construction holdback) or is the interest charged as the money is deployed.
Let’s use these simple numbers for a deal and we can look at the difference in dollars.
You purchase the home for $250,000. It is a heavy rehab that comes out to $250,000. Assuming you bring 10% of the purchase price to closing, which is $25,000, your loan amount will be $475,000. If the loan is out for 12 months and assuming the loan is written at 12% for the interest charged your total interest paid would be $57,000 over the year with the average payment of $4750.
Now, we will look at the interest charged on the same loan with the same term and same interest but the interest is charged as deployed. Assuming the borrower will have almost no money drawn down in the beginning, all of the construction holdback would have been deployed near the end of the project, and the borrower is going to draw down the money in a consistent, even manner.
We will use 50% of the budget being charged interest throughout the life of the loan based on the balance out being very little in the beginning and fully deployed nearing the end of the loan.
Using $225,000 for the purchase (Remember you put $25,000 down for 10% of the purchase) and $125,000 is 50% of the rehab budget to reflect the blended interest cost described before you will have that same 12% interest charged over 12 months on the new average principal balance of $350,000. The total interest charged would be $42,000.
That is a difference of $15,000 for this one example. That would be $15,000 more that could be used for closing costs or down payment of a new project, could be used for marketing, paying an entry-level employee hourly to drive for dollars or assist part-time with some back office help as you are out hunting down new deals and managing your existing projects.
Some lenders will offer interest-as-deployed for only for deals when the rehab budget is over $100,000 and when it is $85,000 you will get charged on the full boat day one.
Be direct and ask questions. Find out how your interest is being charged on all programs with the lenders you are researching. This can vary from program to program within a lenders product offering, as well as, terms that can vary on a deal-by-deal basis for a specific program.
Points or No Points? Is It Too Good to Be True?
Many lenders will advertise no points loans. Is it just marketing or is it a viable option for you?
Recently lenders have come out with zero point loans that include no origination fee for the borrower. Most lenders will typically charge between 2-4 points to write the loan and that is typically paid to the lender at closing when the loan is originated.
The upfront benefit of not paying and saving anywhere between 2-4% of your loan amount as an added expense as a part of your closing costs is obvious. Many investors have money tied up in existing deals, are closing new deals, and are what many refer to as asset-rich and cash-poor.
There are no lenders that are working as a non-for-profit. They are going to capture their fees and interest in other ways.
First, you will not be getting 100% financing or other high leverage, with very little to no money down. You will be going deep into your pocket to pay upwards of 20-25% of your project cost and pay 3-5% more interest including potentially full boat interest charged on the loan amount.
The benefit to this program is that you are betting that you can complete this project in under six months and you have the liquid available to commit to this project for however many months it will take to complete the project, get it listed, under contract, and closed with the seller in a very short amount of time.
It is a gamble that can work out but with a market that is maturing and the winter months coming, with uncertainty of snow and cold weather a deal that is planned to be completed in 4-6 months can quickly become 6-8 months or even longer.
Picking The Right Lender
As you hunt for your next deal and are looking for the “best deal” for financing I would suggest calling a lender that you can trust and has a strong presence in your local community.
Getting the best deal can be masked by having a difficult, costly, and frustrating experience with a lender. Just getting the loan closed is akin to the first date when starting a relationship.
Working with a lender during your project specifically on draws, payments, and issues that is the “X-factor” in my humble opinion.
Getting a good rate, leverage, and terms are all important but having a lender that can be a backstop for analyzing your deals and a trusted second set of eyes for you. They can be an important resource if issues come up and a transparent capital partner as you continue to expand and grow your business
If you ever have a deal and want to get quick, direct, and transparent feedback on options for financing you can contact me via email at [email protected] or my phone 973-943-2195.