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   ARTICLE   |   From Scotsman Guide Residential Edition   |   February 2007

Avoid Foreclosure with Hard Money

Hard-money bailout loans sometimes can help clients sidestep foreclosure

Foreclosure rates are increasing across the country, which can be cause for alarm.

In places such as Arizona, which had more than 3,000 filings this past November, the number of pre-foreclosure cancellations is decreasing, signaling a possible increase in actual foreclosures. With a robust economy and above-average home price, Arizona typically has not been a hot spot of foreclosure activity.

In addition, the market also is seeing an increase in defaults with higher loan-to-value ratios (LTVs), making it more difficult for borrowers to refinance. But for many borrowers, there is an alternative to foreclosure: hard-money bailout loans.

Hard-money bailout loans are loans in which real estate is the collateral asset. The lender assumes a lien position on the property. As with any collateralized loans, the loan’s size, rate and term is determined by the borrower’s equity in the property, the property’s marketability and the borrower’s financial standing.

These loans are also commonly referred to as bridge loans because they often provide temporary financing used for credit repair and property seasoning.

Typical foreclosure process

Many blame 2006’s interest-rate increases, combined with booming house prices, for the current market environment.

In 2002, for example, the U.S. median home price was $187,600, whereas today, it is $224,900. If a homebuyer with good credit purchased a home in 2002 using an ARM, the mortgage payment would have been significantly less than it would be today. In addition, today’s homeowners likely have higher property taxes, which often puts them in a financial crunch. Add the slowing housing market and slowing rate of appreciation, and for many, it spells trouble.

Although homeowners may be able to make ends meet with today’s mortgage payment, what happens if they lose their job? And after losing their job, what if they miss one or two mortgage payments? It seems like a minor blip, but for the bank, that can signal the beginning of the foreclosure process.

The process varies among states. But typically, once homeowners miss one payment, a pre-foreclosure notice is issued to both the homeowner and the local government. After three payments are missed, homeowners are forced to either pay the full balance due or the bank begins the repossession process.

At any time until the repossession, homeowners have the opportunity to pay the balance due to the bank. Otherwise, the bank usually auctions the house off to the highest bidder.

In many cases, homeowners will attempt to sell the house before auction, but this is usually at a loss.

How hard money can help

Homeowners who have now found a job may be unable to pay the full amount owed to the bank, but they can still make their monthly payment.

A foreclosure will ruin their credit and seems unnecessary, given their ability to make a loan payment. The bank, however, typically won’t accept anything but the payment in full, which leaves the home-owners with few options. This is where hard money can help, and an educated mortgage broker can be the best asset for any homeowner.

There are many myths about hard-money loans. Most revolve around the impression that hard-money loans are marked by soaring interest rates and low LTVs. Actually, though these loans may carry higher interest rates, they are more likely in the 12-percent range than in the 18-percent range.

And perhaps most important, the key to any hard-money loan is the valuation of the property. A good hard-money lender should have several methods of determining property values. One of those methods should include an appraisal by an objective third party that has no connection to the transaction.

A market appraisal gives an accurate valuation of a property’s purchase price on the open market. An appraisal report can be fairly extensive and traditionally includes information about the property.

In addition, most reports feature side-by-side comparisons of similar properties. An overall evaluation of the real estate market in that area, as well as any other relevant issues, is also detailed in the report. An appraisal may also point out any flawed characteristics of the property, from average sales times to property damages.

A sample scenario

As long as homeowners continue to make their monthly mortgage payments, a hard-money lender can prevent foreclosure. And we can start with the basic premise that foreclosures are bad for everyone involved, from the banks to homeowners.

Let’s revisit the previously mentioned homeowners in the process of pre-foreclosure. They had few options available but had a mortgage broker who provided valuable information about hard-money bailout loans. The homeowners now can remain in their home, paying a slightly higher interest rate to the hard-money lender — but only for a short period — while re-establishing their credit.

For mortgage brokers, this can be a golden opportunity. Because hard-money loans are short-term products with an average maturity of about 18 to 24 months, homeowners will need to refinance their loans at a better rate in that time.

The homeowners still have the pre-foreclosure hiccup on their credit report, so they may not qualify for A-paper just yet. After one year, however, if they have paid all bills on time, they will be ready for another loan — one in which they qualify for a better rate. For borrowers who restore their credit, it takes about 12 months to refinance into a nonprime rate and typically about 24 months for prime.

By working with homeowners on a hard-money loan, the savvy mortgage broker can complete three loans for the same borrower within four years.

But even more than that, the mortgage broker may have succeeded in creating a customer for life. By helping homeowners hold onto their home, the broker creates a special relationship — one that can bear additional fruit, including more business, which is crucial in an unstable environment.

Take the time to learn

Hard money is not the No. 1 focus for many mortgage brokers in today’s market. But given the current environment of rising foreclosure rates, smart brokers must position themselves to assist borrowers on every level.

Keep in mind that hard money is not for borrowers with multiple foreclosures or outstanding debts. It is designed to help homeowners who have a hiccup on their credit report and who need bridge financing until they can repair the issue.

When faced with the choice to confront foreclosure or save their property, most borrowers want to preserve the hard-earned equity already invested in their homes. Many collateral-based lenders have competitive rates. Paying an extra 2 percent per year in interest versus losing thousands of dollars of equity may be an easy decision for these borrowers. It is therefore crucial that brokers familiarize themselves with hard-money products and the lenders that offer them.

For a mortgage broker, being educated on hard-money lending can increase your business and often can guarantee a customer for life.


 


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