What Can be Financed with a Hard Money Loan?

I might be biased, but I think hard money loans can be an excellent financing option for real estate investors. Not only do they make financing more accessible to everyone thanks to their lax requirements, but they’re so tailored to solve a niche problem that there’s really no better option. But what “niche problem” do I mean? What can be financed with a hard money loan? Are there limitations?

Hard money loans can be used for a variety of real estate transactions, including BRRR loans, fix & flips, and gap financing. Despite their flexibility in both the application process and usage, hard money loans aren’t suitable replacements for mortgages and shouldn’t be used for purchasing your own home. 

That said, using a hard money loan to buy your own home isn’t impossible; it just isn’t really fiscally responsible. But let me talk about that and dive deeper into what a hard money loan is (and isn’t), what you’ll need to get a hard money loan, plus a few ideas for how you can use it. 

Should You Get a Hard Money or Traditional Loan?

For strategic real estate investors, using a combination of hard money loans and mortgages is an excellent way to finance their business growth. While they complement each other, hard money loans and mortgages are not the same, and one shouldn’t be used as a replacement for the other. Here are a few questions that can help you decide which route to go for real estate investing:

• Are you buying a home for yourself or your family? Hard money loans serve the real estate investment industry and just aren’t designed to be used as loans for personal residences. While you can technically use them to buy your own house, the drawbacks are significant. 
• What’s your credit like? Hard money loans don’t rely on your credit or employment history since they use the property as collateral, making these loans attractive for investors with poor credit or an unstable job situation.
• How fast do you need the money? A traditional mortgage requires a mountain of paperwork, and getting your money transferred over can feel like you’re operating at a snail’s pace. However, hard money loans are often funded within 10 – 14 business days.
• How much money do you need? If you’re looking for a loan to buy the property, look toward a mortgage. Hard money loans typically finance 60% – 75% of the After Repair Value (though we do have 100% financing) since they’re designed to fund rehab costs and not purchase a home. 
• Can you pay your loan back quickly? Hard money loans have a short duration before they need to be paid off, typically 1 – 3 years. Mortgages are based on the assumption that you’ll be taking 20 – 30 years to pay it off, so they’re less pressure. I won’t say you’ll never find a hard money loan that has a term longer than five years, but the interest rates alone (hard money loans typically have anywhere from 5% – 15% interest) aren’t worth the hassle. 
• Are you a real estate investor? My guess is that since you’re reading this blog, the answer is “yes,” but here’s why I ask: Hard money loans are often based on the After Repair Value or ARV of a home. This simply means that your lender expects you to pay off your loan with either the profits that come from flipping it or from funds taken from your mortgage loan. If there aren’t any profits coming, you’re going to have a difficult time convincing a hard money lender to work with you.  

TLDR; The Essential Things You Need to Know About Hard Money Loans

I covered some of this in the last section, but I want you to go into applying for a hard money loan with your eyes open and full knowledge of what to expect.

Hard money loans are for short-term use only. Do not expect to find a lender that’s interested in a decades-long relationship for one loan. If you need something longer, try private lending or bringing on a partner who can financially back you.

Hard money loans have higher interest rates than most other loans. In 2021, the average rate for a hard money loan was 11.25%, while a 15-year mortgage was 2.16%. Hard money loans are so much higher for a few reasons:

• Shorter duration of the loan
• Higher risk
• Designed for businesses that will be using the loan to gain profit.

You can lose your investment property if you can’t pay your loan back. Hard money loans take a first position on the title of a home as collateral until the loan is paid in full. If you’re unable to pay back the loan with the agreed-upon terms, your lender can seize ownership of the property without any legal recourse from you. 

You can’t buy the property with a hard money loan. The amount of money you can get through a hard money loan is based on the After Repair Value (ARV) and Loan-to-Value (LTV) metrics. A lot goes into calculating these numbers that can give you a headache quickly, so suffice to say that most lenders will end up financing only 60% – 75% of the value on your investment property. As for the rest, you’ll need to come up with some other way unless you use our 100% financing option.  

What You’ll Need to Be Approved for a Hard Money Loan

Okay, now you know that a hard money loan is definitely the right loan for you. Let’s talk about what you’ll need to get approved and funded as quickly as possible. 

• A legal business. Again, hard money lenders work with real estate investors. You may be able to find a lender that’s willing to work with you without a registered business, but your chances of approval will be much higher if you show you’re serious. Many investors will form an LLC in their state, but even a sole proprietorship registered with your local town is better than nothing.
• Your down payment. To get your first hard money loan funded, you’ll most likely need to bring a down payment to secure the loan. If you have a pre-existing relationship, your lender may have wiggle room with this, but if this is your first time working with a new lender, you can expect to put down 25% – 30% for residential properties and 30% – 40% for commercial.
• Prior experience flipping houses. Do Hard Money works with new investors often, and we’re happy to do so, but we’re the minority when it comes to this. It probably feels like how things were when you were looking for your first job, and everyone wants candidates with experience. But you can’t get experience because no one will hire you! The truth is, loaning money for real estate investing is incredibly risky, and hard money lenders are anxious folk. If you can show a proven track record of successful investment properties, you’ll lower their risk and make it easier to get approved.
• Cash reserves. Since your credit score and history of on-time payments aren’t a factor, lenders will want some other reassurance that you’re a responsible investor. One of these ways is by showing cash reserves that can cover loan payments, carrying costs, etc. If you don’t have any savings, you can request a loan with a higher amount that has a portion held by the lender as a trade-off.
• Scope of work and list of contractors. You’ll need to show proof of why you’re requesting the amount of money you want and a list of licensed contractors. You could be super handy and think you know how much it costs to renovate a kitchen, but lenders have been burned so often in the past that, unless you’re a professional plumber or general contractor, your word isn’t good enough. Expect to provide an itemized scope of work that lists out all estimates in detail.  
• A clean record. While it’s true you don’t need a good credit score to get a hard money loan; you’re still going to need to show you’re not a scam artist or terrible with money. If you’re currently in collections, have a bankruptcy still on your records, or have a criminal history (mainly white-collar or financially-based felonies), then you’re going to jump through a few more hoops to get approved. It’s not impossible to get approved if you have these things in your past; just expect that you’ll need to show a lot of proof for how you’ve moved on from these mistakes and are now a much different person. 

How You Can Use Hard Money Loans

Okay, now that we’ve got all the nitty-gritty out of the way, let’s talk about possibilities. What can a hard money loan do for you? Here are the main ways investors use them.

BRRR Loans

BRRR is a method of real estate investing that stands for:

Buying a property

Renovating the property

Renting the property

Refinancing the property

Hard money loans are often paid out by the refinancing an investor will get, typically from a traditional lender. While hard money loans can be used for BRRR, you should look for a lender that specializes or has experience specifically with BRRR loans. 

Rehab Costs for Fix & Flips

Fix & flips are the bread and butter of the hard money industry. Hard money loans are perfectly tailored for fix & flips: 

• They’re short loans. Fix & flips generally take around six months to move.
• They’re designed for renovations. Since you’ll be bringing your scope of work to the application, your lender will know what you’re trying to do and why you need the money. Too often, other lenders that aren’t specialized in this kind of financing need to be talked through the finer points that hard money lenders are already used to. 
• They’re fast. The sooner you can unload the property, the better. Hard money loans don’t expand your timeline, reducing your carrying costs. 

Rehab Costs for Single or Multi-Family Buildings

If you plan to hold onto a rental property to diversify your revenue streams, then hard money loans are good for getting your new property into turnkey-ready condition. Many landlords will use hard money loans to update outdated apartments with things like energy-saving appliances, wifi, on-site laundry facilities, and anything else that ensures they’ll get renters fast. Unlike BRRR methods, though, these properties are already financed via traditional funding and just need a minor update here and there. 

Rehab Costs for Commercial Properties

Whether you plan to rent out commercial spaces or simply flip them to another investor, hard money loans can be helpful for cash flow. Keep in mind that commercial properties typically sit on the market much longer than residential so you’ll need to factor that into your cost projections and payment plans. 

Gap Financing

Many investors will look to hard money loans when they need money to bridge the gap between their cash reserves and the amount a mortgage lender approves for them. Investors can use hard money for closing costs, down payments, temporary carrying costs, or other expenses that come along with real estate investing. 

Fast Funding

The best part about hard money loans is how fast their turnaround time can be. Many loans are funded within a few business days, making them great for when you’re already involved in an investment property but come up short and need money quickly.

Final Thoughts

In summary, do you need a hard money loan to get your deal done? No. Will it be easier with one? Yes. If you have a property that you want to buy, especially if it’s a fix & flip, a hard money loan can be a great way to finance your deal. Just be sure you know what you’re agreeing to and have a solid strategy for how your loan will be used.

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