If you’re interested in purchasing a property to start your journey as a real estate investor, you may want to consider using a hard money loan to fund your purchase. But what properties can be purchased with money from a private money lender? Learn more about the properties you can purchase and how using hard money for real estate investment works.
What Types of Properties Can Be Financed With Hard Money Loans?
In general, a hard money loan can be used to purchase all types of investment properties. For your loan, your private money lender may have certain restrictions about the properties that can be purchased with the loan, but most lenders will allow for the purchase of common investment properties. You usually can’t use hard money to finance the purchase of private property, such as a house you intend to turn into your primary residence.
Commercial buildings are a good starting point for any real estate investor who wants to enjoy stable returns on an investment property. Commercial properties are rented out to business owners and can include a variety of properties, including buildings for retail, industrial buildings, office buildings, and storage warehouses.
One of the most popular commercial buildings to purchase is apartment complexes. While an apartment complex is similar to a multifamily building, an apartment complex is considered a commercial investment. It’s also important to note that, as the owner of an apartment complex, you will have to invest more money since complexes can house hundreds of tenants.
Multifamily buildings are residential properties that house a few families. Common multifamily buildings are duplexes and townhomes, which are becoming increasingly popular for first-time homebuyers in the past few years. Investing in a multifamily building is less expensive than investing in a commercial building like an apartment complex, but caring for the building and the tenants is much more hands-on.
BRRRR stands for “buy, rehab, rent, refinance, repeat”. While this type of property investment is similar to a fix-and-flip investment, the main difference with a BRRRR building is what happens to the property after renovations are complete. With a BRRRR building, the investor keeps the property to use as a rental property for single-family units or townhomes.
If you plan to use hard money to purchase a BRRRR building, it’s important to focus on the refinancing aspect of this investment. Because you will have to pay back your loan quickly, you must be able to refinance your loan with a conventional mortgage to pay off the cost of the property. In this way, a loan from a private lender can become a bridge loan, so you can invest and renovate a property if you don’t qualify for a conventional mortgage at the moment.
Fix-and-flip buildings are among the most common properties purchased with hard money. A fix-and-flip property is a speedy investment that is designed to return the full price of the loan (plus the new home value) once repairs and renovations are complete. If you are seeking a private lender for a fix-and-flip purchase, you will need to have many contingencies in place because these types of properties are riskier than other investment properties.
One of the big risks with a fix-and-flip building is the chance that repairs won’t be completed on time or the risk that the loan will not cover the full cost of the renovations. Along with those risks, if you have trouble selling the property once the renovations are finished, you may have a difficult time paying back your loan. In this case, you may need to change your plan to rent the property instead of selling it.
How Should You Prepare to Apply for a Loan?
Once you find a hard money lender, you will need to prepare for your application. Lenders must be confident about your ability to pay back the loan, so it’s important to meet all application requirements if you want your loan approved. You will need to provide proof of income and demonstrate a repayment strategy, which may include refinancing the loan for a traditional mortgage to pay back your private lender.
Proof of income is particularly important when you apply for a loan. Unlike other types of loans, a hard money loan depends on your personal assets rather than your credit history. Essentially, lenders want to know that you have the income to pay back the monthly payments on the loan. Even if you plan to fix and flip a property quickly, proof of income is essential.
Do You Need a Down Payment?
When you apply for a loan to purchase a piece of real estate, you will need to have a down payment. However, for a loan from a private lender, you will need a much larger down payment than the down payment required by a traditional loan. This is because your investment loan will be backed by the value of the property, so the down payment will have to account for the difference between the renovation budget and the initial purchase price.
To calculate the amount you need for a down payment, you will need to estimate the value of the property after repairs are complete. When you have the estimated ARV, you will multiply that number by 70%, then subtract the purchase price of the property and the budget for renovation to determine your down payment. In addition to your down payment, you will also need to cover closing costs, property insurance while you own the property, underwriting expenses, and other fees.
How Long Will You Have to Pay Back Your Private Money Lender?
Usually, you will have between one and three years to pay back your private money lender. While you will need to make payments each month, you will be expected to pay the full amount of the principal loan and monthly interest on the loan at the end of the loan term. Sometimes, the term of your loan will be determined by your lender and the specific type of property you are purchasing.