What are hard money loans?

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Also called asset-based financing, hard money loans are a type of secured financing that provides the borrower with loan funds secured by an asset with established market value. Hard money loans are sometimes also called “last resort” or short-term bridge loans and are most often associated with real estate financing.

As a secured loan, hard money or asset-based financing require collateral before the loan funds are approved and released. Depending on the type of hard money loan, the collateral may be title to real property, a security deposit, an account with a trustee or a vehicle’s pink slip.

Benefits for hard money loan borrowers

The central features of hard money secured loans are that they are based on the value of the collateral property and typically ignore the borrower’s credit, income and assets.

Hard money loans can provide an alternative option for borrowers unable to qualify for regular financing or traditional loans. The following are situations that may be served by a hard money loan:

  • Documentation of assets. Most banks want full documentation of the source of funds that will be used for down payment, closing costs and reserve requirements. These lenders want to ensure that funds aren’t from other undisclosed loans that can drive up the borrower’s debt burdens. A hard money lender may be willing to accept that risk and accept borrower assets, regardless of documentation.
  • Insufficient income or revenue. Most lenders want to ensure that borrowers will have the income or revenue to make monthly loan payments. Many hard money lenders provide no income verification loans that do not require income documentation or confirmation.
  • Damaged credit. Most lender guidelines and underwriting criteria have some credit requirements. Some hard money lenders, however, don’t care about the borrower’s credit history or FICO scores.

Hard money loans are sometimes considered a form of “no documentation” (No Doc) financing, because of the low borrower documentation requirement.

Unfortunately, these benefits come with a cost for the borrower. Hard money loans tend to be more expensive and require substantial collateral. In fact, most hard money lenders typically will only lend up to 65% of the collateral’s appraised market value.

Risk management for hard money lenders

On the face of it, hard money loans may seem like very risky investments for lenders. But the lender’s risk exposure is mitigated by the terms of the hard money loans.

Most hard money loans involve commercial real estate investments and developments, which have traditionally carried a great deal of risk even for traditional lenders. To manage its high-risk exposure, hard money lenders only lend a fraction of the property’s current market value. In addition, the loan terms are relatively short, with typical loan maturities of three years or less.

If the borrower defaults, hard money lenders will be able to recoup their investment by seizing the collateral property and using it to pay off the loan balance and all applicable fees and finance charges. Because the collateral asset is crucial for the hard money lender’s risk management, lenders will usually conduct a detailed and careful appraisal of the subject property that will be used as collateral for the loan.

Disclaimer: NetCredit is a direct personal loan provider and does not provide financial advice, nor does it vouch for any vendor or service mentioned on our NetCredit personal finance blog or online consumer loan glossary. Always research and perform due diligence on any service provider or vendor before deciding to use them, and we recommend that you speak with a financial advisor regarding all decisions that will affect your finances.

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