The Mainstream Real Estate Market
Typically when buying a home on the real estate market, new or resale homes are purchased by a conventional loan. This works well for a house in average condition without needing major repairs to make it livable. In this scenario, the house is priced according to market value. Comps or comparable values of like houses in the neighborhood are used to establish value. The home is adjusted for features that are better or not as good as the neighborhood homes. This value determines the asking price of the home. The asking price may be higher, in a quickly appreciating market, or lower to sell quickly or to compensate for the features.
A buyer will ideally get pre-approved for a mortgage loan. This pre-approval will tell the buyer how much they can afford for a mortgage. This pre-approval is mainly based on credit, income, and debt ratio. If the credit score is too low, income not sufficient, or debt ratio too high, the borrower will not be approved. After the buyer has made a completed offer on the property, a good practice is to get an inspection on the property to make sure there are no defects. If there are, the buyer and seller negotiate either on price or making the needed repairs before the sale. Some lenders, of note FHA and VA, will make their own inspections and make an absolute requirement that certain things be corrected before approving the loan.
The final step is an appraisal of the property to be purchased to make sure the value or loan amount is correctly reflected. If the property does not appraise for the purchase price, the loan will not go through. At times, the buyer will put down more money to make the loan amount less, or the seller will reduce the price.
The amount of down payment in today’s market is 20% of the contract price. However, there are many special down payment rates for first-time homeowners, veterans, and those who are buying property in rural areas.
The process usually takes about 45 days if there are not any problems with the loan.
When to Use a Private Money Lender?
A private money lender is used when purchasing a house at a below market value because it needs repairs to make it livable and attractive to a home buyer. The purchaser intends to buy the home as is, complete the repairs or improvements, then sell the house at a profit. This is within a year of the original purchase, but most often between 3 to 6 months. Usually, it is for a fix and flip scenario but is sometimes used for a purchase of a home that needs repair and is going to be a rental. In this case, the private money loan is used until the renovation is complete, then it is converted to a conventional loan. If it is the fix and flip scenario the loan is paid off when the property is sold. A conventional loan cannot be used on a house that needs substantial repairs.
How the Process Differs
A private money lender can be friends, family, business associates, or a hard money lender. In most cases, a hard money lender is preferred to be used because of their experience and the transaction does not affect personal relationships.
The pre-approval process can be done as quickly as a few minutes. This approval will allow the investor to a make a competitive offer in competition to cash offers. The pre-approval is based on the purchase price of the property before repairs. This is called the LTV, or loan to value. For the pre-approval, the factors looked at are:
- 550 or above credit score
- 2 to 3 months of bank statements
- ddress of the property
- the expected purchase price of the property
With each lender, these factors may vary according to their policies.
Completing the Loan
- a list of prior projects and experience
- the scope of work to be completed
- contractor’s bids on the work
The lender looks at these items and has an ARV (after repair value) appraisal done to determine the soundness of the project. This is different than a conventional loan appraisal because a conventional lender looks at the house in its present condition only. The funding may take 10-15 days.
Terms of the Loan
- typically 10% or more of LTV (loan to value) for down payment
- or 20% or more for ARV (after renovation value) for down payment
- interests rates may be between 7% and 13%
- Points between 1.5% – 10%
- Closing costs 2% – 5%
- Appraisal fee $300 to $500
- Length of the loan may be 3 months, 6 months, 9 months or up to a year. Often there is a prepayment charge if the loan is prepaid before the length of the agreed term is completed.
These rates and terms vary from lender to lender according to their policies. Also, some of the terms may be base on the experience of the investor. Without experience, you might qualify but can expect the terms to be higher for your first projects.
Private money loans are a much-needed alternative for someone who is going to renovate the property for resale in a short amount of time. This type of lending can also be used short term for properties that are going to be fixed then put on the rental market. Sometimes, a private money loan is used to have a quick, competitive offer on real estate, then it is converted to a conventional loan.
At Center Street Lending we specialize in private money loans. We want to work with you as a team to ensure your success. You may have many questions regarding this, so the best thing to do is to contact us.