Red flags to look for in HML agreement and project insurance?
SoCal · Member since 2017 · 30 posts · 12 votes
Hi BP Fam!
Can anyone please share some insight as to some specific items to look out for in hard money loan agreements and insurance policies for a fix and flip? What clauses should be included? or which clauses should not be included?
Thanks!
Happy Holidays
Sunshine
What “loan to value” do you loan on?
Is LTV based on purchase price or ARV?
Do you deduct rehab costs from my loan proceeds?
What is the interest rate?
What will be the term of my loan?
How many points will you charge?
What other costs will you charge?
Will you charge me upfront for these costs or are they added to my loan?
Will you do an appraisal?
Do you escrow for repairs?
How is the escrowed money disbursed?
Who holds the money that is escrowed?
Will you loan to my LLC, corporation, or trust?
Do you want me to personally guarantee the loan?
How long will it take you to fund my loan?
What kinds of due diligence will you do?
Do I have to fill out a #1003 (Normal Mortgage Industry Application) Application?
Will you pull a credit report?
Will you give me a pre-approval letter that I can submit with my offers?
Good Investing...
I just used my first HML to try it out and I glossed over some of the terms. So mine converted from a 2 month to a longer 6 month and the interest went up but the note date stayed the same (important for refi seasoning). Also, see how the points if any are figured in, mine had 1% at initialization and 1% when I refi out.
Insurance was a builder policy for 6 months, where all of the money was kept no matter how long it took to switch to a landlord policy. NREIG (ReiGuard) let's you convert a builder risk policy to tenant occupied I found out later and so you don't lose out on unused time.
What “loan to value” do you loan on?
Is LTV based on purchase price or ARV?
Do you deduct rehab costs from my loan proceeds?
What is the interest rate?
What will be the term of my loan?
How many points will you charge?
What other costs will you charge?
Will you charge me upfront for these costs or are they added to my loan?
Will you do an appraisal?
Do you escrow for repairs?
How is the escrowed money disbursed?
Who holds the money that is escrowed?
Will you loan to my LLC, corporation, or trust?
Do you want me to personally guarantee the loan?
How long will it take you to fund my loan?
What kinds of due diligence will you do?
Do I have to fill out a #1003 (Normal Mortgage Industry Application) Application?
Will you pull a credit report?
Will you give me a pre-approval letter that I can submit with my offers?
Good Investing...
@Joe Homs Hit just about every question you could want to see.
When someone makes a post similar to yours I put these questions out there.
After finding an HML that will lend where your prospect house is (most will only lend in major metro areas or have steeper rates if they do lend outside metro areas), I would ask these questions:
What is your investor success rate?
This is important to know but can be lied about very easily. Many don’t track this statistic. I don’t know if it is because they don’t really care or just haven’t thought of it. I think it is probably the most important stat. Look for groups who offer referrals to local contractors, Relators, etc. Also, look for groups that have boots on the ground in each market that know the specifics of investing in that area.
How many loans have you closed in this month?
Any good HML will know this number off the top of their head. You want a lender that is busy. If they are closing a lot of loans, they probably have something good to offer. Ask about how many loans they have closed in your area. A good number will vary based on the current market and the size of your metro area. Know that many lenders will say they are nationwide but as far as I have seen, no single HML lends in all 50 states.
What is your maximum LTV?
This is a two part answer. Like the company I work with will finance 100% of the purchase and repair but to a maximum of 70% of the ARV. Meaning that if the ARV is $100k we will finance all of the purchase and repairs assuming they are not more than $70k. Another common funding is 90% finance with a maximum LTV of 70%. Using the same example from above they will finance up to $70k if they purchase and repairs are $77k or more. As you can see, this means your out of pocket will be $7k more.
Do you require an appraisal and survey?
Most HMLs will require these. I am wary of the ones that don’t require an appraisal. What that says to me is that they don’t care if the property is good or not because they will just come after you if the deal is a flop. Small-time HMLs may not require an appraisal but this could be because they will drive out and view the property themselves. Survey is a toss-up on whether or not it will be required. The company I work for does require it.
Is there a pre-payment penalty?
Some will require you to pay the interest through the term or another length no matter how long you hold the loan. Just make sure that you include this requirement in your costs. Most lenders that have pre-payment penalties only have it at 3 months or less. It is pretty rare to buy, fix, and flip to a new retail buyer in less than 3 months. Just don’t use this kind of loan for bridge funding.
What is your draw fee & benchmarks for the repairs portion of the borrowed money?
Know what your fees will be to take out the repair money borrowed. Draws are almost always held back until you reach certain points in the project. They will also charge you to have an inspection by a 3rd party to make sure the work is done. I have seen this range from as low as $100 up to $300.
Do I need to pay anything before sitting at the closing table?
There have been numerous people on BP talking about how they paid application fees but they could never get their loans closed on any deal brought to the company. This is a practice by some less than reputable companies. One I saw charged $500 upfront to be pre-approved and would never actually fund any loans. Just beware. Most reputable HMLs will not charge anything until you are sitting at the closing table and all fees will be listed on the HUD-1 closing document.
And of course, what are the points, interest, and attorney/document/admin fees for the loan?
This will vary based on region but in general 2 – 5 points, 10% - 14% APR (meaning this is the annual rate so divide it by 12 to get the monthly interest amount), and documents fees can be from $200 – $1,500. The document fees are what will vary wildly from company to company. Just know them going in so that you can properly budget. You will also want to find out if payments are interest only or if some principal is built in. Most hard money will be interest only payments on the full approved balance of the loan whether or not if you have pull the draw funds for repairs.
If you have any other questions, post them below so that we can all learn from the answers.
As far as insurance goes, I always go with a Builders Risk policy if the rehab is going to be $15,000 or more. Otherwise get a vacant dwelling policy (there are many types of these). Rates will vary drastically based on valuation and location. I have always received policies the prorate upon termination.
@Phil Collett thanks for sharing that info! I will be reaching out to NREIG for a quote.
@Joe Homs and @Ryan Blake thanks for the insightful feedback! That was super helpful!