Understanding the Benefits and Risks of Hard Money

by | BiggerPockets.com

For some, the thought of hard money conjures up notions of loan sharks threatening to break your legs if you don’t pay on time. While not all hard money lenders are ideal business resources, most are knowledgeable, professional and can be used to great advantage in your real estate investing.

With the lack of conventional lending products available to real estate investors, most investors turn to hard money financing as a bridge loan between the acquisition of a property and the permanent financing. Of course, hard money is not cheap, but typically is well worth the money for the purpose it serves. In most areas, the more prominent hard money lenders charge around 5 points and 15% interest. However, with local networking you may find private lenders willing to charge less.

One of the biggest advantages of hard money is the ability to borrow funds for renovation expenses. Most investment properties have some equity potential, but the average home buyer is often discouraged by the less-than-attractive condition of the property. As investors we create margin by having the ability to find, acquire and renovate these properties. The ability to finance the purchase and repairs is key to this equation, and hard money is one tool that allows us to do just that.

In today’s market, an investor obtaining a conventional loan would expect to pay 20-25% down just to acquire the property, and then come up with out of pocket cash to complete renovations. As an alternative, an investor may be able to use hard money financing for the purchase and repairs, while having to place only 10% down on the total cost.

As a quick example, a $50,000 purchase needing $20,000 in repairs could potentially cost an investor $30,000 out of pocket using a conventional loan ($50,000*20% plus $20,000). However, if that investor uses hard money financing instead, the out of pocket cost may be more like $7,000 ($70,000* 10%). Even if an additional $5,000 is added to the equation to cover loan fees and closing costs for the hard money loan, most investors are perfectly willing to factor in this cost in exchange for the leverage hard money provides.

Once the property is acquired and renovated using hard money, the investor can then employ a conventional lender for the permanent financing. Since the renovations presumably have increased the value of the property, the refinancing lender can use the new appraised value in determining the investor’s maximum allowable loan amount. Typically, a conventional lender will allow financing up to 75% of this appraised value. Best case, the appraisal will be high enough so that the investor can refinance the balance of the hard money loan as well as closing costs without any additional money out of pocket.

Another quick example – Using the scenario above with a purchase price of $50,000 and repairs of $20,000, a good appraisal would be in the neighborhood of $100,000 or higher. If the appraisal comes in at $100,000, the lender may allow the investor to finance up to $75,000, which should be enough to pay off the balance of the hard money loan and cover any closing costs.

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Be Prepared Because Guidelines are Changing

Up until now, Freddie Mac guidelines have allowed investors to refinance out of hard money without any seasoning (i.e. owning a property for a certain amount of time), while Fannie Mae has required investors to be on title for a minimum of 90 days. As of May 1st 2011, however, Freddie Mac is changing their guidelines to require that an investor own the property for a minimum of 120 days before they can refinance. This may not seem like a big deal, but, in today’s volatile economy, you might be amazed by what can happen in a short three to four month period.

For investors who plan to refinance out of hard money after May 1st, there are a few things to be cautious of:

1.) Just because you are approved for a refinance today does not mean you will be approved four months from now. If your eligibility is currently border line, talk to your lender about any upcoming guideline changes that may affect your approval status.

2.) Take care to not unknowingly do something to lose your approval status. A few tips: Don’t change job or work status. Don’t take out new credit or run up existing credit. Don’t deplete your checking or savings accounts. (I realize that these may seem obvious, but you would be shocked at how many times I’ve seen investors forfeit approval status because they made one of these missteps!)

3.) Stay alert to comparable sales near your property that may erode the value of your investment. Granted, there isn’t much you can do about this, but your due diligence should be as extensive as possible. Just because your property appraised for $100,000 today does not mean it will appraise for that a few months down the road. This is especially true in areas experiencing a high percentage of foreclosures.

4.) Be prepared to pay the hard money interest for this three to four month seasoning period. In the past, it was possible to refinance 30 days after acquiring a property and only pay one month of high interest. If you are locked into a hard money loan for multiple months, be sure to factor this payment into your holding costs.

No matter your investing goals, hard money financing can be a highly effective tool. Even with the upcoming guideline changes, using hard money to leverage your investment can be a great strategy to acquire, renovate and maintain investment property. However, keep in mind that going forward you will need to be a little more cautious in your approach; especially as it relates to refinancing out of hard money.

About Author

Ken Corsini

Ken Corsini G+ is the host of the Deal Farm Podcast (on iTunes) and has 10 years of full-time real estate investing experience. His company, Georgia Residential Partners buys and sells an average of 100 deals per year and has helped hundreds of investors around the country make great investments in the Atlanta market. Ken has a business degree from the University of Georgia and a Master Degree in Building Construction from Georgia Tech. He currently resides in Woodstock, Georgia with his wife and 3 children.


  1. Hi Ken, great job laying it out in simple language for the investors viewpoint.

    You said it, and now more than ever communication with your conventional and hard money lender needs to be tight.


  2. Those new guidelines will junk up and make the recovery take even longer and be worse.

    We need to spur buying so that we can purge the market and get rid of toxic assets not create more BS from a bloated government.

    With hard money lenders getting them to fund the purchase is better than the renovations.With the renovations you have to do a draw schedule and they hit you up with trip and inspection fees. It makes the renovation take longer as well.

    If you pay for reno costs you can save money and get it done quicker.

    • Joel, I agree with you – with lenders continuing to tighten the lending guidelines on investors, they are only further hindering our ability to cycle through this glut of foreclosures.

      Also, in regards to paying for your own repairs rather than using hard money; You actually need to be careful here. If you plan on refinancing into conventional financing, you may find that you can’t pull your repair money back out of the property without being on title for a much longer period of time. I’m fairly certain that most lenders require at least 12 months seasoning before you can do any kind of cash out refinance.

      I personally will use hard money to finance repairs on a property, but I will typically do a single draw at the end of the project. This way you minimize inspection fees and it doesn’t slow down my rehab.

  3. Question: I am loaning someone 10k to help with a business startup. As a lender I’m trying to figure out what to use as a guarantee to get my money back since his business is being run on a lease. I am getting 20% for 1 year. Do I just say if I don’t get my money it is owed to me and I have to go to court for it if he can’t pay? Thanks for any guidance or web links to help out!

  4. Post was of great help. Funding from hard money lenders is good as such for urgent requirements of loan but eventually borrowers have to take loans from conventional lenders to pay off the money to hard money lenders. Also, one have to take much care while opting for hard money loans a interests rates changes depending on lender\’s viewpoint.

  5. Since money can be so hard to come by lately, I was curious about how a hard money lender can actually help you. It\’s nice that you can actually go through this service to get renovations done. I\’m sure that there are people that can\’t afford it, and this service probably helps them a lot.

  6. Grant Fairman

    Thank you for this very helpful and plain language breakdown of HML. As a newbie to REI I am trying to learn all I can about funding so that I A) don’t have to try to come up with a lot of my own money and B) protect myself from making short sighted or uninformed mistakes. HML seems like a powerful entry tool but also seems like there is a lot of possible danger with it if done diligently handled.

    Are there any specific HML’s out there that people recommend to use or avoid? Thanks

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