BiggerPockets

I need some help with figuring out the appropriate interest rate on an unsecured business loan for flipping.

For a secured business loan from a hard money lender, it seems the going rate is around 18% per year with the property as collateral and the borrower contributing around 20% to 30% of the capital.

And some "lenders" who are willing to put all or almost all of the money have a profit share arrangement in lieu of interest.

Wells Fargo seems to have personal loan rates of around 22% in Arizona.

So what about a lender who wishes to simply lend on an unsecured basis? The lender is willing to lend up to 80% of the cost. (I know you will say that the lender should not lend without security but there is a specific reason for this situation.)

The lender in this case is actually a relative of mine so the negotiations are a little delicate where neither party wants to hard-ball the other and yet both parties want to be fair. The borrower is going to be my new LLC in Arizona.

Have you looked into portfolio loans?

My lender (a local bank) provides 1-year loans for 80% of the purchase + rehab costs, at 1.25% upfront and 6.75% interest.

On a typical $100K project that I hold for 4-6 months, I pay less than $2K in lender costs.

There are plenty of these kinds of portfolio lenders out there...just start visiting your very small, local banks...

If it's really an unsecured loan, a "fair" rate is going to depend on a lot of things...your relationship to the lender, your credit history, your income level, your debt level, etc. The most important factors will be your ability to pay and your willingness to pay.

For example, if I found out that your credit score was low, that would indicate to me that you didn't always pay your bills. In that case, there is no amount of interest you could charge that would make me comfortable loaning you money.

On the other hand, if you had a strong credit history of payments and I was closely related to you, I'd probably do it for 20-25%.

Now, if the loan is secured by the property, then this is an easier question to answer. If the LTV of the loan is less than 100%, a fair ROI for the lender is probably somewhere in the 10-15% range.

This is more than a typical bank loan, but less than an HML.

That's just my opinion though...others may disagree...

Jason, I was also thinking along the lines of 20% to 25% as a fair rate because an unsecured loan should get a higher yield than a secured loan.

My main problem is that I need the IRS to agree with the rate we negotiate because the interest payment is tax-deductible to my LLC while the interest earned is not taxable to the lender because of some specific rules that apply to it. This might make the tax guys look at a high interest rate as unreasonable although in our current market condition 20% is not unreasonable at all for an unsecured loan.

That's what prompted me to ask the question in the first place. I need to figure out a way to justify the interest rate in the event of a future audit. If it was easy to obtain unsecured hard money loans, I would have got some HML offers and used an average of them to negotiate the rate for this loan. But since it is hard to find such funding, I need to figure out a work-around for this.