Let’s face it. For the majority of you starting off in real estate investing, finding an external source of funding to purchase (and repair!) your properties is the best route to avoid putting too much capital into any property at once. In fact, even experienced investors who are “property rich, cash poor” often require a loan or creative financing to continue growing their portfolio.
Since bank or credit union loans often require a lot of documentation and take a long time to close, it’s important to have choices. If you are dismayed by the long process involved in acquiring a bank loan, private money/hard money may be a great option for you to secure your desired property with minimal cash down.
Perhaps you’ve decided to pursue a private loan for your next property or one that you currently have under contract. What do you need to know in order to find the best rates and find a lender that works best with your style of acquisition?
Let’s talk about the kinds of information you’ll need to have on hand:
If you have an address for a property that you’ve decided to invest in, it’s important to let the lender know. It’s incredibly rare (and extremely unprofessional) for a lender to take that address and purchase the property because you showed them a great deal. Lenders need to quickly review the property, neighborhood, and run comparisons to see if the property is a worthwhile investment. This step is an important roadblock for some lenders and sharing the address early is a good way to ensure that no one’s time is wasted on a poor deal.
Don’t have a property picked out? That’s okay, and it’s understandable to search for a local lender before identifying a specific property. Let your prospective lender know that you’ll be looking for properties in a specific county, or even just in a particular state. Whether you’re working with a local or distant lender, it’s important to share what you’re looking for in a potential project. You and your lender can then discuss the types of projects that they fund and you can determine if any particular lender would be a good fit for your needs.
Below is a good example of talking points that the potential borrower can bring to this initial conversation with a lender:
“I’m just finishing a project in Merrimack County in North Carolina and am looking for a lender in the area. I have not picked out another property, but I will be looking for single family homes in the same county, mostly near one of the Universities in downtown Charlotte”.
These details get the deal off to a great start by providing the lender with a good sense of what you’re looking for, and more importantly, where.
This point cannot be overstated. It is imperative to know the deal inside and out. Understanding metrics such as the property value, rehab costs, and ARV allow you to better understand the sort of capital that you have to work with even before you sit down and talk with a lender. Additionally, having this information can help a lender learn how much capital you have to work with, and what parameters need to be met to get you the money you need.
Important values to know include:
- Purchase Price – If you have a contract, include negotiated price.
- Repairs – Be ready to present a list of repairs and where the valuation came from.
- ARV – This is where an understanding of the community comes in if you have not had a previous BPO or appraisal. What have other comparative properties sold for?
These values represent just the tip of the iceberg. On larger projects, it’s even more important to have more specific numbers in order to get accurate rates, terms, and an good idea of associated costs. For rental properties, you should have a rent roll for at least the last 12 months, but previous year and current YTD are the standard requirements. For any project, an executive summary is also a good way to show your lender that you have organized all material and know the ins and outs of the dela.
No two lenders are alike. Some lenders have minimum FICO scores or investment experience, while many others do not. However, having certain standards does not mean that they won’t take other factors into account when calculating rates, points, and costs to close. You’ll want to have some idea of your current FICO score, even if it’s from an unofficial source such as CreditWise or CreditKarma. Knowing your score helps the lender to determine where your score fits into a tier system (if they use one) or whether you qualify for a loan. Investment experience, or your portfolio, is a peek into how you operate as an investor, and can reduce the risk faced by the lender in taking on your loan. Experience may vary. Some lenders only want to know about projects you’ve completed in your name/LLC, but never hesitate to ask if something like a previous construction or wholesaling background will count for experience.
How much can I afford?
A good lender will always do their due diligence to ensure they are not getting you into a loan that you cannot afford to pay off. One of the biggest misconceptions is that lenders are secure because they are using the purchased property as collateral so they shouldn’t have to worry if you don’t have the reserves and default. But in reality, lenders are not in the business of obtaining properties that they may have to fix and then sell, they’re in the business of investing in you, the investor. That’s why it’s important to know certain information from the get go. Are you looking for the ever-elusive 100% financing? Is 10% of a $400,000 property all you can afford to put down? Can you afford 25% down but would not be able to meet the reserves needed to ensure your ability to pay interest on the term of the loan?
You’re going to come across plenty of deals that look too good to be true. Sometimes they will work out exactly as you planned and have great margins, but at other times they may result in unexpected problems with repairs that require an extension and take extra time to sell. Things happen, and it’s important to make sure you can are ready financially. Try to come up with a realistic plan of how much capital you have to work with for each investment and then prepare for potential setbacks. When you approach a lender, be prepared to discuss how their rates and costs work into your plan. If the numbers don’t work out, don’t be afraid to ask for some time to shop around or come back when you’ve secured additional funds for the project.