What's the Difference between Hard Money Loans and Traditional Financing?
When you’re looking into different financing options for your new rental property, your options can be intimidating at first. For most loans, you’ll need to have a lot of capital upfront, good credit, and organize your finances. We’ve put together a more in-depth look at how to get an investment loan for real estate on what you need to do before applying for a loan. But if you’re looking to better understand the difference between hard money loans and traditional financing, you’ve come to the right place.
Traditional or Conventional Loans
Traditional financing loans, also referred to as conventional loans, are the most common of loans and require a lot of up-front work during the application and approval process. You’ll get them through private lenders like mortgage companies, credit unions, and banks. They generally require smaller down payments of the purchase price, proof of income and employment verification, a good debt-to-income ratio, and above average credit scores.
Traditional financing loans have a fixed interest rate, meaning that throughout the life of the loan, the interest rate will not change. They offer low-interest rates, are able to be processed quickly and have varied term lengths - ranging from 10 to 30 years.
Hard Money Loans
Hard money real estate loans are standard for developers looking to fix and flip because they offer a shorter repayment period. While they typically require a higher down payment, they also may include a prepayment penalty and other fees. Funding through hard money loans can be more costly because the lender is taking on additional risk, so it results in higher interest rates and fees. The interest rate is determined by the loan-to-value (LTV) ratio - where the higher the ratio, the more risk the lender takes on.
Often thought of as a high risk/ high reward, hard money loans could be your best option if you’re looking to finance a project on a short timeline. What makes it different from a traditional loan is that hard money loans generally require some type of collateral - which is usually the property itself. The lender won’t look at the borrower’s credit history, debt-to-income ratio, etc., but will instead take ownership of the property if the loan defaults.
Hard money lenders don’t have a set standard for what they will or won’t approve, and instead, evaluate each loan on a case-by-case basis. There is usually more negotiation when you’re looking to obtain a hard money loan than there is when you’re applying for a traditional loan. The repayment schedule to the lender, although short, can be adjusted to be more flexible and negotiated to fit the needs of the borrower.
If you need financing options for a loan or don’t know your best option, contact Renovo. Our team members would be happy to discuss how you can be partnered with someone in our vast network of investors that are willing to work with you to get the best loan rates for your next investment.