There are many factors to consider when using a private or hard money lender for financing on your real estate venture. We find that many investors initially focus on origination points charged and the interest rate of the loan. But there are also many other factors to consider that can impact the overall cost of the loan in the short run and the long-term relationship with your lender.
Do not be penalized for paying off a loan early. Why should you be penalized for beating your timeline? Make sure that your lender does not have a prepayment penalty in the loan. This can add unnecessary interest payments to your bottom line.
Find a lender who will grow with you! Does your lender value a long-lasting relationship? Just as a borrower wants a good relationship with a lender, a lender wants a good long-lasting relationship with their borrowers. Does the lender provide higher leverage and better rates as more deals are complete? As your deal flow grows, certain lenders will increase their loan to cost leverage for borrowers who are loyal to their lender. Certain lenders will also decrease origination points and interest rates the more deals they transact with a borrower.
Always plan for a plan b! Do you have an alternative exit strategy for your real estate project? If it is a flip and it doesn’t sell at first, what are your next steps? Have you considered holding the property as a long-term rental? Have you performed a pro forma to see your debt to service coverage ratio? Certain private and hard money lenders have programs to refi borrowers into a long-term rental program. These loans can either be a rate and term refi or even a cash out refi dependent on equity and as-is value. Either way, be prepared for a plan b and feel confident with knowing your options.
Always plan for a longer timeline. A very important factor to consider when using financing is “how long is the term of the loan?”. Some lenders underwrite fix and flip loans for a period of 6 months. Does this timeline give you ample time to turn your project? Consider the scope of the project. If your asset is on the market for 45 days and the closing takes an additional 45 days, is three months a long enough time frame to complete the renovation? If you pass the 6-month mark, does the lender charge more points to extend the loan? Have you taken this into account in your potential net profit? Regardless of the scope of work we always recommend requesting a 12-month loan. This timeline should provide sufficient time if the project takes longer than expected or if your plan b strategy needs to be implemented.
We at Coastal Equity Group always underwrites for a minimum of a 1-year loan term, do not include prepayment penalties, focus on cultivating a lasting relationship with clients, and provide multiple exit strategies programs.