How to Choose A Private Lender Carefully

When you’re a real estate investor, you know that it all comes down to money. How much money do you have to put into this? How much money can you expect to get out of a sale? How much will it cost to get this done or that painted? It gets overwhelming quickly, especially when you’re coming up short for how much you need to get things paid for and done. One way investors bridge this gap is through private lenders. It makes sense since it’s most likely the easiest way to get funding. However, going this route can backfire in your face spectacularly if you don’t understand what you’re getting into, so you need to know how to choose a private lender carefully.

To find the right private lender, you’ll need to understand how much you can afford to borrow, the terms of the loan, how fast you can expect funding, and the credibility of your lender. 

Keep in mind that not all lenders are created equal. Before choosing a lender, you’ll want to compare interest rates, terms, fee structures, as well as how credible of a lender they are. It’s also important to be realistic about how long you’ll need the loan and the amount you can afford to borrow because these can trip you up easily if you underestimate them. So let’s talk about what private money loans are and, more importantly, what they are not. Plus, I’ll give you a few tips on how to get your loan funded as quickly as possible.

What is a Private Lender?

A private lender is a company or individual who loans money. If you’ve ever borrowed money from Grandma, then congratulations, you’ve used a private lender.  Private lenders typically offer higher interest rates and more flexible terms than traditional banks, making them an attractive option for borrowers who need more flexibility in their financing options. 

Before you borrow from a private lender, make sure you understand their lending criteria and the risks involved. Private lenders are typically less stringent in their lending criteria than traditional banks, which means they’re more likely to lend to people with lower credit scores. This can be a good thing if you need some money without a lot of hoops to jump through, but it can also be risky if you’re not careful.

The Risks Involved with Private Money Loans

The largest risk that comes along with private loans is really just getting mixed up with a bad lender and not understanding the terms. Most lenders, both individual and third-party, are upstanding investors looking to make a profit off of your hard work but there are some that are more interested in taking your trust and draining your bank account dry. Vet any lender before starting an application or taking a meeting so you don’t waste your time.

The Three Circles of Individual Private Lenders

Typically individual private lenders are categorized as being in one of three circles:

• Primary Circle – The people you know and have an active relationship with. Family, friends, colleagues, neighbors, etc.
• Secondary Circle – Friends of friends. You know them and have probably seen them at a wedding or barbeque but aren’t really that close. Still, they’re interested and want to hear your pitch.
• Third-Party Circle – You’ve never met them before, but they’re professional or accredited investors who actively loan money to real estate investors like you. Think of it like venture capitalists or angel investors but for real estate. 

Private Lending Companies

Before choosing a private lending company, it is important to do your research and compare the different options. If you can’t (or aren’t willing to) work with an individual lender, there are companies out there who give out private money loans for tons of things like debt consolidation to even real estate investing.  Some of these companies are better than others in terms of their lending practices and customer service.

Peer-to-peer lending sites like Prosper or Lending Club are perfect examples of this. You’ll typically need to pass a credit check, but they’re much easier to work with than traditional banks. However, don’t misunderstand their leniency or crowdfunding for them being a pushover: if you miss your payments or default on a loan, they’ll come after you just like any other lender.

What Should I Know Before Working with a Private Lender?

When searching for a private lender, it is essential to research and be aware of the different types of lenders available. There are two main types of lenders: direct and indirect.

• Direct lenders are those that you deal with directly, such as banks or credit unions. For a private loan, if Bob lent you $50,000 and is a direct lender, then you’ll deal with Bob and Bob alone.
• Indirect lenders are middlemen between you and the lending institution, such as brokers or agents. If Bob is willing to lend you $50,000 but wants to put the money in Bob-and-Ryans-Trust-LLC, then Bob is an indirect lender, and you’ll need to deal with the Trust instead. 

There are also several factors to consider when selecting a private lender. First and foremost, it is important to understand the loan terms and conditions. Make sure you know the interest rate, the loan term, and the APR.

• The interest rate is how much the lender charges for borrowing money.
• The loan term is the amount of time the lender will loan you the money.
• The APR is the annual percentage rate, which is how much interest you will pay on your loan over the course of the year.

What to Consider Before Getting a Private Loan

There are a few things to keep in mind when looking for a private lender:

• How much can you afford to borrow? Lenders want to know how much you can afford to borrow, so be sure to list your monthly income and expenses in a budget. Also, lenders may require you to pass a credit check, so be sure to have a good credit score before applying for a loan.
• How long will it take to get the money? Some lenders may take a few days to process the loan, while others may take a few weeks. Choose a lender that can quickly process the loan so that you can get the money you need as soon as possible.
• Is the lender licensed and insured? Lenders who are insured are typically required to have insurance in place in case of financial losses. Licensed lenders are required to comply with various regulations, such as those governing consumer protection and money laundering. 

Okay, I Think I Found a Private Lender! What Next?

There are a few things you should think about when choosing a private lender. The interest rate and terms are essential, but you should also ensure that the lender is reputable and has a good reputation.

Ask about the lender’s lending history and whether they have any bad loans. Also, ask about the lender’s liquidity; how easily they can sell or repurchase the loan. You want to know this because private lenders offer a variety of loan products, but the most common type is a revolving loan. Revolving loans are loans that the lender can sell or repurchase at any time. This can be helpful if you need to sell the property quickly, but it can also be risky if you don’t have enough money to pay back the loan.

Once you’ve got that information, you’ll want to know about repayment terms:

• How often will you need to make payments? Some lenders require payments every week, while others may only require payments once a month.
• Are there any late payment penalties? If so, how severe are they?

Ask about any special terms or conditions that may apply to your loan since some lenders may require a down payment or a more extended repayment period.

Lastly, double-check the terms to see how competitive they are. Your lender may have lower interest rates and higher fees that could offset the savings.

How to Get a Private Loan Funded

When it comes to securing a private loan, you should keep a few things in mind. First and foremost, make sure you have a solid credit score. Some lenders won’t care, but even so, the better your credit score, the more competitive offers you’ll receive for interest and APR rates.

There are many private lenders who are always looking for people to invest money. The trick to getting your loan approved, funded, and sent as quickly as possible is convincing them that you can manage their money well. Here’s how to do it:

• Get your paperwork in order: credit score, proposal, fact sheets, data, projections. Whatever you’ve got, you’ll need as backup or proof of concept.
• Learn the difference between “hard sell” and “soft sell” and perfect both. Hard sells are the pitch meeting where you have your elevator pitch, sales figures, and any data you have that shows not only why you’re an attractive candidate for a loan but what they can expect to get out of working with you. Soft sells are more lax and are typically the type of pitch you’ll give a friend or family member. It’s more of a conversation than a sales presentation. Both methods are helpful in their own ways, so get them nailed down before reaching out, as you might need to switch between the two depending on how things are going.
• Give a realistic estimate of how much you need. Too often, investors will get the estimate wrong and end up scrambling for a solution. Some new investors will undersell how much they need thinking that asking for too much will get their loan denied but then end up needing to find more funding elsewhere while stuck with the original loan. Investors who grossly overestimate how much they’ll need can end up going too crazy on rehabs of a fix & flip because there’s money “leftover” and blow their potential to earn any sort of profit.
• Skip the rat race and just go online. If it’s all too much, then just head to a peer-to-peer lending site for your loan. There are fewer hoops you’ll jump through since it’s all fairly automated, but you also lose that personal connection with your lender that gets useful when you’re ready to grow your business and need more money.

Should I Get a Private Loan or Hard Money Loan?

There are pros and cons to both private loans and hard money loans, but it is important to choose the right lender for your needs. In some ways, I guess you could consider hard money lenders also private lenders, but hard money loans are designed for a specific purpose (real estate flipping) while private loans have a broader spectrum of uses.

When it comes to hard money loans, some investors may find that they’re a better pick since the loans are funded quickly, and some lenders will fund enough that you need to bring $0 cash to close. However, instead of a down payment or deposit, hard money loans are based on collateral…and that collateral is the house. If you end up defaulting on a private loan, you’ll probably end up in collections. If you end up defaulting on a hard money loan, you’ll end up losing the house and any work that’s been done to it. 

However, the best hard money lenders are the ones that have ample resources to ensure you’re not going to end up defaulting on your loan like Independent Deal Evaluations. However, you still need to understand the risk nonetheless.

Final Thoughts

Private money loans are an excellent resource for those who want to skip using traditional banks, but you need to know what you’re getting into and how you can better secure your chances of getting approved. Look for a lender with the resources to help you get the loan you need and protect you if something goes wrong. If you’re not sure where to start, keep this guide handy as a quick reference so that you’ll know which questions to ask and what red flags to look out for. 

Have you ever used a private lender before? Leave a comment and let me know what tips you think our readers should know.

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