How Do Lenders Approve Borrowers for Hard Money Loans?

Hard Money Loans

While most people turn to traditional mortgage loans when buying homes, conventional funding can be tricky at times.

Unlike banks, hard money providers enjoy the liberty to choose custom criteria for loan application approval. Typically, banks face regulatory constraints and have to abide by strict guidelines. With homeownership rates on the rise, hard money funding has become an ideal option for anyone who doesn’t meet traditional funding requirements.

Nevertheless, if you want to know how to get a hard money loan, it’s imperative to understand the approval process.

What Is a Hard Money Loan?

Hard money funding is a unique form of loan often secured by a real estate property instead of a credit rating. These loans are ideal for real estate projects with a quick turnaround time between purchase, renovation, and sale. Alternatively, hard money is used for urgent home financing before the borrower secures a traditional mortgage.

When considering a hard money loan vs. mortgage, the former often takes days to obtain while the former can take several months. And while hard money lenders are less stringent and more flexible, they look at several aspects before approving a loan.

Down Payment/ Equity

The basic requirement for getting a hard money loan is being able to raise the defined equity or down payment for a property used as collateral. Typically, the minimum amount can range from 25% to 30% for residential property. On the other hand, lenders ask for a 30% to 40% down payment for commercial property.

In some circumstances, lenders can let borrowers use multiple real estate assets as collateral for one loan. This is usually known as cross-collateralizing.

Ideally, you’ll have higher chances of getting approval for hard money loans when you have a higher down payment amount or more collateral. And this is because more investment from the borrower means a lower risk for the lender.

Financial Standing

Most lenders are keen to see if the borrower has sufficient reserves to meet the holding costs and monthly payments. Holding costs often include expenses like taxes, HOA payments, and property insurance.

If you are applying for hard money financing and don’t have enough cash reserves, you’re likely to have difficulty getting a good loan. But in some cases, a lender may be willing to underwrite a higher loan amount and withhold some of the cash to cater for taxes, insurance, loan payments, and other charges.

With such arrangements, the borrower will get the loan, but the lender keeps a portion of the funds to make sure monthly payments are met.

Real Estate Investment Experience

Most hard money providers will want to know about your knowledge and experience in the property investment market. Typically, people with years of experience in the real estate market have higher chances of getting a loan than someone trying to acquire their first fixer-upper.

However, when a borrower is inexperienced, the lender wants to know as many details about the project as possible. These may include the exit strategy for the real estate investment. Also, lenders want to understand how you’ll repay the borrowed amount regardless of the investment outcome.

Executive Summary and Loan Application

Most lenders require a well-prepared loan application. This document provides essential information about the borrower and the property. And while most hard money providers tend to focus on the asset, they still want to know about your ability to pay the loan.

Typically, a lender may ask for a borrower authorization form so they can check your credit rating. While the emphasis is on the asset, your credit score is one of the vital indicators of your capacity to pay. If you’ve had serious credit issues, it’s best to have a clear explanation of the events and what you’ve done to correct the situation.

How you prepare your loan application for review plays a huge part in approvals. Therefore, you should understand your numbers and present a clear project summary that casts no doubts about your purpose, plans, and exit strategy. The executive summary should denote the principal amount, value-added costs, project timeline, and exit strategy.

Compensating Factors

If your application is weak in certain areas, a lender can allow you to add some compensating factors to strengthen your proposal. When the situation permits, you can include additional property as security in addition to the primary asset. This improves the lender’s equity, and in turn, helps you get more funding.

While most hard money providers are not strict about credit scores, they may still consider your creditworthiness when approving the money loans. A strong history of creditworthiness gives the lender more confidence in your commitment to making regular payments on your loan.

Final Words

Hard money funding offers practical solutions for various borrowing needs involving real estate. And while hard money loan rates can be higher, it’s a better funding option in some situations. Since hard money lending is less regulated, it’s prudent to shop around for trustworthy lenders.