It pays to know when and why to seek hard-money loans
Thomas OBryon, CEO, Wilshire Finance Partners
As published in Scotsman Guide's Commercial Edition, September 2008.
With the growing scarcity of institutional funds, finding the best financing option for hard-to-place commercial loans is becoming increasingly difficult.
As a result, hard-money loans from private lenders are becoming a principal source of capital. This type of funding can help with collateral gaps, credit gaps or working-capital needs without involving traditional lending institutions. Hard-money loans also let commercial property-owners leverage assets to complete a project quickly, buying time to secure long-term funding from traditional lenders.
By partnering with private, hard-money-lending institutions, commercial brokers can increase their earnings while eliminating the stress associated with finding capital.
How they work
Private-lending institutions are often backed by investor mortgage pools. The funds from these mortgage pools can provide brokers a reliable capital base for hard-money loans.
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Similar to a mutual fund, a mortgage pool or mortgage fund is composed of a number of diverse trust-deed loans. Investors purchase shares of the pool, and the pool manager acts as a broker to the fund, directing investor money to borrowers.
Hard-money loans are typically asset-based, and they have a short time frame for closing. Their flexible repayment plans also make them ideal for bridge loans on real estate that is in transition and does not yet qualify for traditional financing. Transitional properties often are under construction, need rehabilitation or exist unrented in areas that take longer to lease up.
The primary source of loan repayment is from the sale or later refinance of the property after improvements. Traditional lenders often are unwilling to make loans of this nature. But a mortgage-pool manager working closely with the borrower can find solutions.
Pool managers often focus on the property, its loan-to-value ratio and the borrowers' exit strategy. Borrowers' credit capacity is secondary.
Further, pool managers control the underwriting and servicing process, make their own credit decisions and have loan-approval authority. This process can accelerate funding to meet close deadlines. Although these loans often come at a high price, they can be advantageous when compared to the long-term costs of a traditional refinance.
When it comes to negotiating loan terms and conditions, pool managers follow different guidelines than traditional lenders. They can tailor terms and loan structures to meet borrowers' circumstances -- from partner buyouts to construction takeouts.
When they work
Sliding real estate prices and increasing interest rates have resulted in an increase in loan requests for opportunistic purchases. Here's an example of when a hard-money loan might be appropriate.
Consider a client with a $900,000 first mortgage at 5.9-percent interest on an income-producing property in California. The client wants a second property at $600,000 but needs to move quickly to nab it.
One option would be to go through a traditional lender to refinance the first property to, for example, a $1.3 million loan with a 30-year term. After paying points, closing costs and other fees, however, the property-owner would be left with less than $400,000 -- not enough to purchase the second property without a large downpayment.
A private-lending institution could work out a loan for the amount necessary, albeit with a short term and higher interest rates. With the hard-money second, the loan could be paid off with no prepayment penalty when the property sells -- potentially a cheaper solution for the borrower.
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Asset-based, private-lending institutions can provide an opportunity for brokers to help their clients get financing.
In addition, brokers who take on hard-money loans can be in a position to earn additional income from later refinances of the same property.
Thomas OBryon is CEO of Wilshire Finance Partners, an asset-based commercial real estate lending institution headquartered in Los Angeles. OBryon has more than 30 years of experience in the real estate industry, specializing in the private-money mortgage business.
He is a pioneer of many of the advanced real estate formulas and techniques used to help steer the private-money business through ever-changing cycles. Reach him at (866) 575-5070 or visit wilshirefp.com.
