Choosing the right lender can determine your real estate investing success. Pick the wrong one and you’ll find out firsthand what “loan to own” means. There are many factors that affect your decision, which we’ll explore, but the primary considerations are: price, terms, and speed.
Money is a commodity. Which, according to Investopedia, means that: It is a basic good… interchangeable with other goods of the same type. It’s like copper tubing at Home Depot or Lowe’s. The price may differ, but the product is easily comparable. Put simply: dollars are dollars. It’s easy to understand how the price of a commodity (whether copper tubing or money) can affect your deal. But why does cash, and more specifically the price to borrow it, vary?
Are there are several big-box hardware options in your area? There are probably multiple lenders, too: both conventional banks and private or hard money lenders, such as Green Block. Lenders don’t “sell” their money, though—they charge you a fee allowing you to borrow it. Basically, they rent their money to borrowers. So when talking about money’s price, cheaper is better. Except…
Except when cheaper isn’t actually cheaper. There are four components to a loan’s price: origination points, interest rate, fees, and pre-payment penalties. A private loan may appear cheap, say the lender quotes a seven percent annual interest rate. Not bad, right? But there may also be underwriting fees, a documentation fee, a closing fee, a termination fee, draw fees, site inspection fees, and a hefty pre-payment penalty that exceeds your expected timeline.
As always, buyer beware. Get a list of all fees in advance (if the lender won’t provide it, that is a big red flag), and calculate the loan’s actual cost. All together, that seven percent loan may cost more than a competitor’s ten percent loan.
Terms are the loan’s variables that describe how the loan works and don’t have to do with the cost. For instance, a loan may include rehab funds disbursed via draws. The how and when of the funds’ distribution is part of the terms, as are the interest and principal payments. A loan’s terms are just as important as its cost. If you’d like to know the most important questions you should ask a lender about their terms, click here.
Speed matters for real estate investors. A good wholesale deal doesn’t last long and if your lender can’t analyze, approve, and fund a deal in the short window you’ve got, it’s time to find a new lender. A one-week turnaround is average unless an appraisal is required. Green Block has funded a deal in less than 24 hours from when we received the application and due diligence. You, as a potential borrower, bear some responsibility too—if you don’t submit all paperwork quickly and completely then don’t expect a ‘yes’ or ‘no’ any time soon.
There are two other points worth mentioning: a lender’s philosophy and relationship-based lending. Green Block’s philosophy or guiding principle is that all of our loans must be win-win. We’ve got to make money, but for us to fund a loan, our clients must make money too. This is not true for all lenders. And that’s why we analyze all deals as if we were the flipper or landlord. If you’d like to work with a lender who has your best interest in mind too, ask about their principles.
Finally, many smaller lenders only lend to clients they know. Relationship-based lending, right or wrong, is a risk-mitigation strategy and that’s how they operate. Green Block believes in transparency and openness, and thus we’ll lend to anyone who is honest and has a strong deal, whether we’ve met at the local REIA or not. We don’t require an established relationship with a client before we’ll lend.
So take your time when picking a hard money lender. It can be more important than choosing the right real estate agent or contractor. Asking friends or Facebook REI pages for references is a good start, but make sure that you vet lenders yourself. See how quickly they call or email back, are they responsive? If they won’t answer all your questions, they’re probably not right for you. Stay focused on lenders’ total price, terms, and speed and you’ll find the right one.