How to Improve Your Odds of Scoring a Loan With a Private or Hard Money Lender
One of the biggest advantages to real estate investing is the ability to use OPM (other people's money) to leverage your investments. That being said, it's only an advantage if you can actually get a lender to approve your loan. So, what are the best ways you can improve your loan qualifications in a lender's mind? Well, let's break this down into its various components:
Want more articles like this?
Create an account today to get BiggerPocket's best blog articles delivered to your inboxSign up for free
- Your Financials
- Your Experience
- Your Trustworthiness
- Your Coherence
If your debt-to-income ratio is 8,000 percent, it doesn't matter how slick or charismatic you are. No one is going to loan you any money other than perhaps a Mafioso loan shark who hasn't gotten a chance to break any knee caps for a while and is jonesing a bit.
By the way, it is my recommendation and the position of BiggerPockets that you avoid borrowing money from Mafioso loan sharks.
To start with, you need to look at your financials from a bird’s eye view. Create a personal financial statement with all of your assets and debts. Find your bad debts, which I define as any sort of consumer debt that wasn’t taken out to acquire an investment, then start paying that down. The only exception to this, in my opinion, are student loans. Those have such low interest rates that I would rather use my disposable money to invest than pay them down.
The most important thing banks look at is your debt to income. And while it may not be easy to increase your income, you can definitely work on paying down your debts. Remember, to be an investor, you need to defer gratification and avoid frivolous expenses. Indeed, one banker told me that one of the reasons we were approved was that he noted how my dad drove relatively old, unremarkable cars. He used this as evidence that we would pay the bank back, as we don’t blow our money on flashy consumer crap.
Also, run a credit report on yourself and evaluate any issues that come up. Remember, you can get one free credit report a year from places such as AnnualCreditReport.com. You may want to consult a credit counselor on how to improve your score if you have things such as foreclosures or bankruptcies on it. You can also look over some of the ideas in this article. But a few quick points:
- You want some credit, so if you don’t have any debt or credit cards, you should probably get one. Buy your gas with the credit card or something like that and pay it off immediately.
- You also don’t want too many credit cards either, so keep it to just a few and close excess cards.
- Autopay is your friend.
- Try not to let anything get charged off if at all possible.
- Challenge anything that shouldn’t be there.
Banks would obviously rather lend to experienced individuals than inexperienced. But that doesn’t mean you’re out of luck if you have no experience in real estate. As Brandon Turner notes about the 5 Cs of a perfect loan proposal, one C is "Confidence" and another is "Creativity."
Put together an easy-to-read prospectus of your real estate investing experience for the lender to see. And if you don’t have any, put together a prospectus of your experience in other fields. Were you a well-to-do engineer? Talk about that. Did you get a 4.0 GPA in college? Make sure they know that. If you have a track record of success elsewhere, it can be assumed you will be successful in real estate.
That being said, don’t worry if you don’t have much experience in real estate or another field. Many people come into real estate green. You can make up for that if your financials look good and you do the last two parts right.
If you think banking has become nothing more than some lender plugging numbers into a computer, then you are gravely mistaken. Banking is still a relationship business.
When I submit a loan proposal, I try to make it so thorough that it blows the banker away. I want to include every document they want, as well as every other document they might want, as well as a bunch of other stuff that they didn't even know they wanted. And I try to organize it an easily navigable Dropbox folder.
In addition, you need to make a good impression with the lender. Take her out to lunch, and if you have one, show her your office and introduce your staff. Discuss your knowledge of the business and your strategy. If you have a property under contract, discuss why you think it’s a good deal. And let your passion for the business come through. Don’t just speak like some automoton that’s buying real estate because Joshua Dorkin told you to.
Finally, ask questions about what they're looking for in a loan and don't be afraid to chit chat about whatever. Avoid false flattery, but there's no reason not to make a friend with someone you want to be your advocate.
I wrote an article on this very topic I recommend you check out, but to sum up the important part of it:
“Remember, you are selling yourself to this person so that they will sell you to the committee. If you come off uninspired to her, in all likelihood she will come off as uninspired to the committee.”
OK, this one might sound strange, but it’s important nonetheless. What’s important to remember here is that a confused mind says “no.”
This is especially true with private lenders or equity investors. If they can’t understand what your pitching, it doesn’t matter how good the deal is, they will say no.
But it’s true with traditional lenders. If they don’t understand your strategy or why you’re doing what you’re doing, they will be hesitant. But more importantly, if they can’t understand your financials, even if you financials are good, they will say no.
I can’t tell you how many times I’ve seen real estate investors, particularly the owners of small apartments or a few houses, who have a disaster for accounting. It’s par for the course as far as I can tell. These accountastrophes make it hard to evaluate the property and will lower the sales price. But they also make it very hard to obtain financing.
Accounting is an often neglected part of real estate investment, but you need to make it a priority. Make sure you’re allocating expenses correctly and hiring qualified bookkeepers and accountants to keep your books in shape. Otherwise, lenders won’t be able to make sense of them and will likely say no. Not to mention the trouble you’ll have will buyers and potentially Uncle Sam.
The final advice I would offer is so simple it doesn't merit discussion: Get a great deal. Great deals are always easier to finance than mediocre ones. But much of getting lenders to say yes involves the nitty gritty stuffâgood accounting, networking, building relationships with lenders, putting together quality loan submissions, and cleaning up your credit and debt to income ratios. It takes time and energy, but it's a critical skill to master for every real estate investor.
Any advice you’d add to this article? How have you scored loans?
Leave your comments below!