Using home equity instead of Hard Money
Rental Property Investor · Southington, CT · Member since 2019 · 23 posts · 6 votes
Using home equity instead of Hard Money
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Jeff CichockiBusiness Member
Lender · All 50 States · Member since 2015 · 401 posts · 250 votesBefore I answer your question... In full disclosure, I'm a Hard Money Lender. However, I'm also an investor just like you. My business partner & I started out flipping and renting houses just like everyone else. Sometimes, we wholesale a house off when we have too many projects going on at the same time. I look at things from both sides of the coin because I'm playing both sides.
speaking practically, your question doesn't have a right or wrong answer.
The correct answer is the one that makes both you and your husband the most comfortable. Just because someone says that a HELOC is dangerous or that HM is dangerous does not make them dangerous. And, expensive is relative to the deal. Typically those that tell you how bad a HELOC or HM is don't know how to use either properly. A HELOC is a tool. A HML is a tool. When used improperly, people get hurt. So... Let me walk you though the difference between the two.
1. HELOC's provide easy and fast access to cash. They usually have lower fees, lower interest rates, lower monthly payments and they typically come with checkbook control. They are extremely flexible and can be very be very powerful. But, your husband is right. As good as those benefits sound, they come with an added risk to your family. You are essentially betting your family home that you will be successful and that nothing will go wrong in the flip. Unfortunately, bad things happen to good people. If something goes wrong and your HELOC is tapped out, what will you do to recover? If all of a sudden you have to take a loss, can you afford it? What will happen to your family home if you get in to far over your head? What your husband is worried about is real. It may never happen, but it's still real to him. HELOC's can be a great tool, but you have to go in completely understanding the rules and risks and weighing it out for your family.
2. HM is a very powerful tool. You can get into houses with little to no money down, you get an extra pair of eyes validating the deal for you, you have someone looking over your shoulder making sure you and your contractors are staying on task and you don't have your personal residence tied into the deal in any way. However, being able to get into a deal with little to none of your own money comes at a cost. HML's typically charge points and a higher interest rate. Some charge additional fees (sometimes ridiculous fees). But, when's the last time an investor got a house under contract and ran around telling everyone that they can't wait to lose money in the deal. It doesn't happen. No one ever expects to fail. If they did, they would never do the deal. Way to many borrowers neglect the fact that despite not thinking they'll fail, they do. HML's are much lower risk on the gran scheme of things. If it goes sideways, you lose the property, not your house. Safety comes at a price. But, what's the real price? Unfortunately, few people seem to understand the difference between cost and making less. A cost is money you pull out of your pocket. A good lender will roll most if not all of your fees into the loan meaning they are paid on the back-end out of the profits of the flip. When you pay on the back-end, you make less; but you didn't experience a cost to do that.
When I speak at the REIA's, I try to educate my borrowers how to think like a lender. If you can learn how a lender thinks, you become a much better borrower. You learn how to use the tools to their maximum advantage. The easiest way to win this game to become and expert craftsman of the tools you wield. If you understand the true risks of the loan, you'll be able to get HM almost will. You'll also be able to build a nice little portfolio that you can show to potential private lenders (usually the best way to borrow money; but not always - I can tell you lots of horror stories about bad private lenders). Over time, you'll convert most of your financial needs to private capital. Once you do that, HM and HELOC's become a back burner item for you.
Good luck. I'm always happy to help where I can.
Best REI Funding4.36 Reviews
39 Replies
- Lender · Boston, MA · Member since 2020 · 6 posts · 4 votes6y
Hi Rafaella,
Being your first flip however, I suggest you present the deal to several hard money lenders. Pricing shopping is the obvious benefit, but perhaps more important is to have your deal underwritten by several lenders. If the deal can be scrutinized and approved by a few lenders you're likely in a solid position. Yes, hard money costs will eat into your profits, but it's a way to mitigate some risk on your first deal. Just ask about each lenders borrower profitability standards. Also, most hard money lenders won't finance 100% of your first deal, so perhaps the HELOC can be used for down payment. - Investor · Marin County California · Member since 2018 · 1k+ posts · 2k+ votes6y
HELOC money is cheap. Hard money is very expensive. Your house is theoretically "in jeopardy" in both scenarios regardless of whether there is a prejudgment lien on your home as in the case of a HELOC. If I loan you money and you fail to repay I can sue you and get a judgment and then put a judgment lien on your property including (in most states) your home.
- Rental Property Investor · Southington, CT · Member since 2019 · 23 posts · 6 votes6y
@Trevor Plante thanks Trevor I like the idea of price shopping.
- Rental Property Investor · Southington, CT · Member since 2019 · 23 posts · 6 votes6y
@Darius Ogloza true. I actually mentioned that to my husband the other day.
- Member since 2019 · 295 posts · 159 votes6y
@Rafaella Almeida. Hard money is where you will lose and the interest rate is high I mean high!!! Heloc use it as you needed and only pay on what you use and it’s interest only for like 10 years.
- 6yJeff CichockiBusiness MemberLender · All 50 States · Member since 2015 · 401 posts · 250 votes
Before I answer your question... In full disclosure, I'm a Hard Money Lender. However, I'm also an investor just like you. My business partner & I started out flipping and renting houses just like everyone else. Sometimes, we wholesale a house off when we have too many projects going on at the same time. I look at things from both sides of the coin because I'm playing both sides.
speaking practically, your question doesn't have a right or wrong answer.
The correct answer is the one that makes both you and your husband the most comfortable. Just because someone says that a HELOC is dangerous or that HM is dangerous does not make them dangerous. And, expensive is relative to the deal. Typically those that tell you how bad a HELOC or HM is don't know how to use either properly. A HELOC is a tool. A HML is a tool. When used improperly, people get hurt. So... Let me walk you though the difference between the two.
1. HELOC's provide easy and fast access to cash. They usually have lower fees, lower interest rates, lower monthly payments and they typically come with checkbook control. They are extremely flexible and can be very be very powerful. But, your husband is right. As good as those benefits sound, they come with an added risk to your family. You are essentially betting your family home that you will be successful and that nothing will go wrong in the flip. Unfortunately, bad things happen to good people. If something goes wrong and your HELOC is tapped out, what will you do to recover? If all of a sudden you have to take a loss, can you afford it? What will happen to your family home if you get in to far over your head? What your husband is worried about is real. It may never happen, but it's still real to him. HELOC's can be a great tool, but you have to go in completely understanding the rules and risks and weighing it out for your family.
2. HM is a very powerful tool. You can get into houses with little to no money down, you get an extra pair of eyes validating the deal for you, you have someone looking over your shoulder making sure you and your contractors are staying on task and you don't have your personal residence tied into the deal in any way. However, being able to get into a deal with little to none of your own money comes at a cost. HML's typically charge points and a higher interest rate. Some charge additional fees (sometimes ridiculous fees). But, when's the last time an investor got a house under contract and ran around telling everyone that they can't wait to lose money in the deal. It doesn't happen. No one ever expects to fail. If they did, they would never do the deal. Way to many borrowers neglect the fact that despite not thinking they'll fail, they do. HML's are much lower risk on the gran scheme of things. If it goes sideways, you lose the property, not your house. Safety comes at a price. But, what's the real price? Unfortunately, few people seem to understand the difference between cost and making less. A cost is money you pull out of your pocket. A good lender will roll most if not all of your fees into the loan meaning they are paid on the back-end out of the profits of the flip. When you pay on the back-end, you make less; but you didn't experience a cost to do that.
When I speak at the REIA's, I try to educate my borrowers how to think like a lender. If you can learn how a lender thinks, you become a much better borrower. You learn how to use the tools to their maximum advantage. The easiest way to win this game to become and expert craftsman of the tools you wield. If you understand the true risks of the loan, you'll be able to get HM almost will. You'll also be able to build a nice little portfolio that you can show to potential private lenders (usually the best way to borrow money; but not always - I can tell you lots of horror stories about bad private lenders). Over time, you'll convert most of your financial needs to private capital. Once you do that, HM and HELOC's become a back burner item for you.
Good luck. I'm always happy to help where I can.
Best REI Funding4.36 Reviews - Real Estate Agent · Westlake, OH · Member since 2014 · 186 posts · 165 votes6y
I have always used a HELOC and am a big believer in them due to being in control. I can pay contractors and structure the work the way I want to. As a first timer, I would recommend paying contractors quickly (as soon as you're satisfied that the work is done completely and correctly) to establish relationships. There can be delays in draws when you're working with a lender. Some contractors may not even want to work with you even they know you need to get a draw from a lender to pay them.
But as Jeff said, since you won't have someone watching over you and you will have essentially a $100k checkbook its real important to set your budget upfront and stick with it vs just spending as you need $s. I've seen too many people use the latter method and wind up in over their heads because they spent $10K more than they should have on the kitchen for example.
It sounds like one option is to do the entire project from your equity line. The thing to remember about the risk is that while you do have $s borrowed against your principal residence, you've also have a free and clear asset that's always going to be worth something regardless of what happens. If along with your budget, you kind of map worst case scenario (what can I get in a quick sale for the investment house) you'll realize that the risk is probably way smaller than you think and it will become more comfortable. good luck
- Investor · Marin County California · Member since 2018 · 1k+ posts · 2k+ votes6y
Jeff: when you say:
"HML's are much lower risk on the gran scheme of things. If it goes sideways, you lose the property, not your house."
Does this mean you make nonrecourse loans to small RE investors?Sign me up.
- Lender · Mokena, IL · Member since 2014 · 1k+ posts · 261 votes6y
My suggestion is to take out a heloc on primary home and use the funds for down payment only. The remaining funds will come from the HML. Therefore, minimal risk on primary home. The heloc will be paid back upon sale or refinance of property.
- Rental Property Investor · Southington, CT · Member since 2019 · 23 posts · 6 votes6y
Thank you so much for taking the time to write such detailed explanation.
Really like how you have the two examples and how you clarified the HML loan.
I’m in awe of so many helpful answers.
thank you so much . - Rental Property Investor · Southington, CT · Member since 2019 · 23 posts · 6 votes6y
Thank you Don for your input and for sharing a little of your own experience. Makes me feel a little better about our options.
I like the way you put it out.
thank you for taking the time to give me some advice. - Specialist · Delran, NJ · Member since 2016 · 2k+ posts · 951 votes6y
@Rafaella Almeida a few points:
With regards to @Darius Ogloza's comment about suing...it wouldn't be accurate for me to say it's not true but it doesn't fit the situation you're describing. Yes if took a personal loan from someone and didn't pay they could come after any assets of yours. If you're getting a hard money loan you're likely doing so in an LLC to begin with, but no hard money lender is going to come after you personally if you default. It's the business their in, they determine that the value of the property supports their loan such that should you default they can recoup their money through foreclosure.
I know the point of using hard money lenders to essentially vet the quality of your deal has been brought up here and elsewhere many times, however, I think it's somewhat of an outdated notion. There are so many calculators available now that it's fairly easy for a savvy investor (even if they're a newbie) to figure out what their deal looks like and what their profits should be. I only had one potential client I had to actually try to talk out of a deal and if you're smart enough to be on this forum if I told you the details of the deal you likely could've told her it was a bad deal too. Keep in mind most lenders aren't going to tell you that your rehab budget is accurate for the particular property or that it's enough to afford what you want to do.
All that said, if you can get a HELOC I think it's good to have. I don't think I'd use it to purchase an entire property because things can always go wrong and then you can be in a bind. You can use it for down payment and closing costs, but personally I'd rather have it on hand as a new flipper to pay for unexpected costs, cost overruns etc so that you don't get to the end of your project and find you don't have enough money to complete it.
- Real Estate Agent · Reston, VA · Member since 2017 · 295 posts · 163 votes6y
Trying to make that same decision; use a HELOC or go with hard money lenders. I find the rates for hard money lenders
are too high. In my opinion the costs are rather high and may put your deal at risk. If you have a couple of challenges during the rehab or if you are flipping, then you can get into real trouble.
- Specialist · Delran, NJ · Member since 2016 · 2k+ posts · 951 votes6y
I will say this. I hear a lot about how hard money rates are high. It's the cost of doing business. It's like saying the cost of hiring painters or tilers are high. It doesn't mean you shouldn't employ them if the situation calls for it. Yes they are higher than conventional lenders, but if you're considering hard money it's likely because conventional money isn't an option for any number of reasons. It could be cheaper than giving up equity in a deal and it can make you more money than not doing a deal at all. It's just another cost to factor into your deal and determine what your potential profit is, nothing more.
- 6yJohn MorganPro MemberRental Property Investor · Grand Prairie, TX · Member since 2018 · 2k+ posts · 2k+ votes
@Rafaella Almeida
I bought my first two properties with a lot of cash I got from HELOCS. It worked and was able to pay cash for two of them and eventually pay back my HELOCS. Glad I did that with no regrets. It got me in the game!
I also did a cash out refi on my primary home and used that 100k to buy 3 cash flowing properties with 20% down with 15 year mortgages. No regrets there either!
And I've done some BRRRRs thanks to having a couple SFRs paid off with cash. That's the best part. You can then do cash out refis on them to acquire new properties basically for free since their values go up so much after the rehabs. I would stay away from hard money lenders and do the HELOC or do a cash out refi on your primary. Good luck!
- Real Estate Agent · Cupertino, CA · Member since 2016 · 4k+ posts · 1k+ votes6y
Take a HELOC and have it ready for something like now. Some have $1M on standby for 5 years at rates like 4.25% interest only 10 year pay back. HM you are looking at 8-9% with 30-50% down initially 6 months min.
- Rental Property Investor · Southington, CT · Member since 2019 · 23 posts · 6 votes6y
@Sam Shueh
Good morning Sam. I am going to do that. However, I've never got a HELOC. Will I pay anything just to have it stand by?
I read that BAnk of America has the best rates and they don’t have any fees but will they have annually fee? I mean in general not only BA.
Thank you so much.
- Rental Property Investor · Southington, CT · Member since 2019 · 23 posts · 6 votes6y
@John Morgan that’s awesome John. I’m looking into a 140k short sale that needs work. Will try to negotiate a lower amount. Hope. An do more with the money!!
- Rental Property Investor · Southington, CT · Member since 2019 · 23 posts · 6 votes6y
@Odie Ayaga thank Odie. You are on point. It is business and everything has a cost. I like the fact I don’t put my house on the line.
- 6yJeff CichockiBusiness MemberLender · All 50 States · Member since 2015 · 401 posts · 250 votes
@Rafaella Almeida - Your welcome. Happy to help. If you watch my posts, I tend to write fairly lengthy responses. Most people give a brief answer with little to no explanation. It's hard to learn without the details and reasoning. Let me know if you need anything else.
@Darius Ogloza - Yes, I will do a non-recourse loan to an IRA. However, if it's just to an LLC, I will ask for a personal guarantee, but I don't make you pledge your personal residence as collateral. In almost every state, your personal residence is protected from creditors. So, the only way a lender can take your house is if you pledge it as collateral. Many lenders, myself included, make you sign personally more as a scare tactic than anything. We want you to feel responsible and not bail on the project at the first sign of trouble. We use the personal guarantee to alter your perception of the deal you have with us. In the 11 years I've been lending, I've never gone after a borrower personally. I know the risks. I accept them. Plus, our 65% LTV makes sure that there's enough equity in the property that there should never be a case where we need to go after the borrower personally. In this same time frame, I've also only had 5 foreclosures. I work very closely with my borrower. When things start going sideways, I'm there to help them dig out. While it's more profitable for me in most cases to take the house back, I'd rather have a borrower come back repeatedly. It's more profitable for both of us. I know not all lenders take this level of personal interest in the success of their clients, but I do. I only work in Wisconsin. It's a small population state. But, the principles and details of lending/borrowing are the same across the country.
@Odie Ayaga is spot on with what he says about our rates being too high. The cost of doing business is relative to the risk. @Ian Walsh is right in challenging the definition of risk. The risk is different from person to person and from deal to deal. Lenders have criteria in place to help them decode if the property that the borrower is requesting funds on is a good risk to the lender. It's no different than when a bank does a major probe up your backside to determine your value (risk) to them.
Odie is also right when comparing HML's to contractors. Hiring contractors come with a cost and a risk as well. A good HML is your financial partner in the deal. They are not your enemy. They are an extremely valuable tool in the right scenario. Does that mean that every property and person should use HM exclusively, we'd love it if you did, but it's not practical nor right for every deal.There's no such thing as a blanket one size fits all answer to which way to go. The final answer is whatever is best for you and the deal your doing. People have gotten in over their heads with both options. Gather as much information as you can and make the best decision you can with that information. If something goes wrong, ask for help.
Good Luck!
Best REI Funding4.36 Reviews - Investor · Youngstown, OH · Member since 2017 · 2k+ posts · 2k+ votes6y
I was going to vote HELOC until I saw @Trevor Plante's comment. It's a great point that a HML can actually serve as an experienced partner. If they vet the deal and are willing to proceed, it's likely a good deal.
- Investor · Youngstown, OH · Member since 2017 · 2k+ posts · 2k+ votes6y
Another reminder--the goal of the first deal (or even first few deals) is not to make money. The goal is to build relationships, gain experience, and build a track record and reputation.
- Investor · Marin County California · Member since 2018 · 1k+ posts · 2k+ votes6y
In California my homestead exemption is a mere $75,000. Otherwise, my home equity is at the mercy of creditors who have a personal claim against me. In fact, the only states I know that have a complete bar on creditor claims are FL and TX. I appreciate your personal experience of never going against a borrower on a guarantee but it is inconceivable to me that a lender would forego collecting on a deficiency when assets to satisfy a judgment are available and legal fees are not a deterrent.
- Developer · Santa Clarita, CA · Member since 2008 · 15k+ posts · 10k+ votes6y
In any rehab project, risk exists and using your home equity, credit cards, hard money loan, private money loan, or conventional financing does not change that risk. With that said, it is important to use leverage responsibly no matter the resource and as such, the deal itself is of the greatest importance. How much room you have for error to avoid losses is just one of many ways to mitigate that risk.
I have personally used my home equity numerous times for leverage in real estate investments knowing that if I take a loss, I will need to pay that debt off on the HELOC from profits from future flips. I also know that I should not be losing all of it either, even in the worst of scenarios so due to the fact that it is the lowest cost of leverage, I use it.
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