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   ARTICLE   |   From Scotsman Guide Commercial Edition   |   August 2017

Private Money Can Move Mountains

Nontraditional lenders seek out opportunities where banks fear to tread

Private money has evolved immensely over the last 10 to 15 years, especially since the Great Recession. The value private lenders bring to a transaction is much greater than in years past. Pricing is substantially lower and a broader base of top-level customers is being served.

As a commercial mortgage broker, if you still perceive private lending to be what it was 10 years ago, you have missed an enormous transformation and one of the most prolific tools in the real estate investor’s arsenal. Private money is substantially less expensive than it was 10 to 15 years ago, and private lenders are much more sophisticated.

Now, high-level private lenders design loans that work for the borrower, not just for the lender. To accomplish this, pricing must be reasonable while maintaining the quick-serve mentality needed to achieve speed-of-business objectives.

Today, sophisticated private-money pricing usually costs 1 to 3 points — depending on the transaction’s complexity and sponsorship credibility — and entails interest rates slightly above those offered by banks, but well below the value added in making the deal happen. For borrowers standing at the threshold of a substantial profit opportunity, a slight premium in cost of capital is negligible and is typically factored into the purchase price.

The private-money edge

In the modern market, top-echelon private lenders are all fund-based lenders. Gone are the days of private lenders looking for investors to fund your deal. That model is too inefficient to compete in today’s dynamic real estate climate, and the costs are too unpredictable.

Today’s fund-based, private-money lenders have dramatically changed the pricing and efficiency models within the real estate lending marketplace. Small, old-school private lenders rarely can compete with the better pricing offered by fund-based lenders, and banks generally can’t compete with the flexibility and speed at which fund-based lenders make deals happen. These days, sophisticated fund-based lenders and banks work together to better serve the needs of the borrowing community.

A substantial volume of current real estate deals occurring in the most dynamic cities in the country are value-add opportunities. A small syndicate of investors, typically led by a sponsor, buys an undervalued asset, fixes it up (or perhaps repurposes the asset), raises rents and/or shifts the property to higher-caliber tenants, and then sells it for a substantial profit. Or, they may decide to refinance based on the new, much higher net operating income (NOI) and then hold for a longer term.

Working with highly skilled private lenders can add a badly needed pillar to your business model.  

For transactions such as this, a proven private-money lender can be a far superior choice because of inherent flexibility in deal design, sponsorship structures and the need for deal certainty early in the process. If the transaction strategy is designed to be successful, credible private lenders will recognize this and give the sponsor a streamlined closing, whereas banks would likely still be stuck in the minutia. Once the asset is stabilized, the NOI is at optimal levels and time is no longer a key factor. However, a bank refinance at the lowest long-term rate is the best choice when buy-and-hold is the strategy.

Private lenders currently not only offer greater flexibility and speed than traditional borrowing sources, they also want the same high-level borrowers as banks. This is where private money separates itself from hard money. In the modern real estate marketplace, the lending model of top-echelon private lenders is designed to be attractive to the same borrower and deal sponsors as bank clientele.

Since private-money pricing will always be at a premium above bank financing (although less today than ever before), private lenders have found their niche in offering high-level clients exceptional speed of underwriting, flexibility when needed and the invaluable component of deal certainty. Knowing one has the capacity to close on a purchase, with certainty, inside of a week or two, gives investors an extremely profitable competitive advantage.

The long and short of it

Do you want your success as a commercial mortgage broker to be dependent on low interest rates (out of your control), or do you prefer to incorporate a more balanced and resilient business model into what you are already doing? Mastering private-money deal structuring is an all-weather skill set and is dependent on something within your control — you.

When you build a business centered on “getting the lowest rate and fees,” your business is always in jeopardy from a competitor, or the internet, that can do the work for less. Your value is not unique nor resilient to competitive pressures when your selling proposition is based solely on “low rates.” Plus, who likes working with depressingly low margins for customers who consider your service a commodity?

How about building your business on helping real estate investors make huge profits by capturing opportunities they would have otherwise missed? Private-money lenders are very much revered by fast-moving real estate developers and entrepreneurs. These lenders are paid well, too. Private-money dealmaker services are needed in a variety of market conditions, up and down. In up markets, opportunities are being seized. In down markets, challenges are being solved through the prudent use of freshly injected private money.

The professional mortgage broker understands the value that flexible, quick-serve lending adds for clever real estate entrepreneurs seeking profitable ventures, even if there is a slight cost premium. It is the difference between being an “order-taker” and a dealmaker. The latter are skilled professionals with the ability to make rain in a variety of economic conditions. Order-takers, on the other hand, occupy a large part of their mind hoping rates don’t rise by half a percent and eradicate their entire pipeline. No one wants to be overcharged, but if your business is built on low interest rates rather than on creating profits for real estate entrepreneurs, you may be standing on a slippery slope.

Working with highly skilled private lenders can add a badly needed pillar to your business model. When the value of your business is built on more than just price, you gain a sense of confidence and control reserved for the industry elites. The ups and downs of your business begin to stabilize, and your profit margins widen.

•  •  •

Quite frankly, while private-money lending requires more dealmaking abilities than traditional mortgage brokering, becoming a dealmaker makes your business more resilient to rising rates because there is always a need for private money, regardless of economic conditions.

It would serve you well to cultivate an art of dealmaking that is not solely centered on price and microscopic profit margins. Working together, banks and modern private lenders, with the help of astute mortgage brokers, can offer real estate investors and developers innovative opportunities to seize profit at a higher level than ever before.


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