How to actually know if your hard money lender is a direct lender

Question

Everyone is a direct lender until the deal falls apart at closing. I have watched borrowers spend months putting a deal together, paperwork, inspections, appraisals, draw schedules, only to find out at the finish line that funding was contingent on an outside capital source who killed it at the last minute. Nobody lied exactly. Nobody disclosed anything either.
Before you spend a day of your time working a deal with anyone calling themselves a direct lender ask three questions.
Who controls the underwriting and makes the final credit decision. If the answer involves a committee you have never met or a capital source that has not reviewed the deal you do not have a direct lender.
Who wires the funds at closing without needing third party approval. If a phone call has to happen before money moves you do not have a direct lender.
Who holds and services the loan after closing with authority to modify it if something changes. If the loan gets sold or transferred the day after closing the person you negotiated with has zero authority over your deal going forward.
If the same entity answers all three with documentation to back it up that is genuine control.
There is nothing wrong with brokers, correspondents, or table funding arrangements. Some of them do excellent work. The issue is not the structure. The issue is transparency. Calling yourself a direct lender when you are not one wastes everyone's time and in this business time is the one thing you cannot get back.
Ask those three questions before you commit a single hour to working a deal with anyone. The answer tells you everything about who you are actually working with and what happens when something does not go exactly as planned.

What other questions do you ask lenders before you commit to working a deal with them?

Camden Lowrance · Answer

Great post.  I don't even bother with "private" money lenders anymore.  I can count on one hand the actual number of private guys I've encountered when speaking with dozens of them

Jeff S. · Answer

I’m not sure what the issue is with private lenders here. For years, we’ve found our own borrowers, evaluated every property, held all loans until payoff, and done so all with our own hard-earned money. Licensed and bonded, we are completely up front and honest about every dime we lend. I guess that makes us “rare?” Hmm.

More insidious, in my view, are white paper lenders. These are companies that use (really hide behind, IMO) the paperwork from the source of the money and represent themselves as the true lenders. The “source” table funds the deal, and the borrower thinks they are doing business with the company listed on the face of the note as the lender. Everything is fine until you have an issue and realize the “lender” you had the relationship with has no control and no ability to work with you. It’s the source of the funds who controls the deal. You may never know who this is.

How white paper lending ever became legal is beyond me, but it’s very common. Even in CA, where table funding is illegal, there are ways around it. The source of the funds will use various shell LLCs and attorneys for anonymity to make this legal. We are occasionally asked by some of the mega-large lenders if we would represent them as white paper lenders. No thanks.

Legal, yes. Up front and ethical? Not in my book. I have more respect for our borrowers.

Borrowers should always ask where a prospective lender gets their money. There is nothing wrong with mortgage funds, fractional lending, correspondent lines, or even the direct balance sheet lending that we do. The borrower should always know who controls the decisions, however.

A wise borrower will always ask where a lender gets their money and who controls the funds. Unfortunately, many borrowers don’t understand these forms of lending and don’t know what to ask, or the associated risks.   I hate to say it, but a few here don’t either.

Mike Grudzien · Answer

Nice post!

Joseph Martin · Answer

Honestly, direct lending is a hard pass for me now. It's not worth the risk, for the reasons you mention.

John Lopez · Answer

I mean, I have deployed my own capital and also use other capital and broker loans as well. I do hear you when you say "the deal falls through at the very last minute" and trust me I have seen many times for different amounts this and it is painful nothing but painful. I think the approach shouldn't be whether you get to know if it is a true direct lender or not. As someone says, private will have a limited amount of capital to deploy and that's the issue that many private lenders, like myself run into throughout the years, not enough capital. From a private lending standpoint, capital is limited and the other capital you could get in the market has to come from a bigger pool of funds. At the institutional level, you are going to have so many restrictions that the deal might not even get started for whatever reason and those lenders who get institutional capital to offer cheaper terms, still, will be somehow (usually matrices) held up to some restrictions and so fort but the main idea here is not so much whether you deal with a direct lender. You could go to many direct lenders, true direct lenders and the deal could still not go through for many reasons. Sometimes is the lender or UW but sometimes is also the borrower itself or maybe some legality from title. I think the approach here is not trying to see if that company is a direct lender or not but to make the deal happen. Transparency is key but if the deal falls through, it doesn't mean there was no transparency. It is upsetting to tell someone who spent thousands of dollars on paper work or on a Phase 1 assessment for example that the deal is not gonna go through, trust I have been there.  However, and the main idea here, working directly with the actual lender is not going to guarantee the loan goes through. I see here, at least from the financing side, it is a let's work and see and get creative and explore many routes to accomplish what we are trying to do which is close the deal. I have closed many deals brokering loans with different lenders and yes some do not go through but some do get funded. Not sure what happened in your case but I think it is more about let's try and continue trying and overcome anything. Remember, all lenders are different and if you are looking at better terms, you are going to work with an indirect lender or with institutional capital which is still an option but hard to get approved for.

To answer your question, which is what I do, I ask can I speak with someone who manages plethora of deals at your firm? Why? because one question will not cover everything that needs to be addressed in order for a loan to close but someone a person who has seen the good and the ugly could spot easily what could kill a deal and what couldn't but this only happens when you have seen many many deals and are aware of what works and what doesn't and this is not only from the UW stand point because if there is other legal areas to be looked at such title, ownership, contracts, etc, there is a another set of questions to be answered and that person could have seen plenty to discover what is needed to get the loan close or if it is a no go. I hope this helps.

James McGovern · Answer

@Camden Lowrance I have had better success with private money compared to hard money that doesn't use their own capital. Underwriting is more straightforward and getting money wired to closing agent on time or even early has been straightforward

Erik Estrada · Answer

Direct private money, is extremely rare and it's usually at a lower leverage or cross-collateral. It is also not cheap. If you are expecting 1 point at 8% rate with no fees, good luck.

Think bout it, If I have $1 mil + liquid, wouldn't It be less risky to put my money in a high yield savings or low risk investment, yielding me an average of 5-7%, versus doing a 8-9% 100% financing on a property that may or may not sell?

Even those guys offering these terms are using other people's money. Whether it's a HELOC, Retirement Account, or some low interest line of credit. They are making money on the difference in spread, fees, and when they sell the note to repay the line of credit. Of course there will be a more diligent process to get you these terms, as it is a high risk loan.

I think we just need more transparent LOs and honest borrowers.

Chris Seveney · Answer

great post, everyone says they are a "direct lender". Just like I am in the mortgage note space and when someone says they are "Direct with the seller" its comical as that is red flag for "we are a joker broker".

This is a great example of understanding who you are dealing with.

How to actually know if your hard money lender is a direct lender

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