Commercial real estate investment, more than any other type of investment, depends heavily on leverage. Very few commercial properties are purchased for all cash. Return on investment, tax considerations, and a lack of sufficient capital all require buyers to secure financing to purchase a commercial property. 

There are three sources of capital for leveraging commercial real estate loans: banks, life insurance companies, and private capital lenders (sometimes called hard money lenders). 

Banks and life companies lend at slightly lower interest rates than hard money lenders but take longer to underwrite and close loans. Banks are closely regulated by the federal government and lack the flexibility that hard money lenders (using their own funds) can bring to a deal. Life companies are not as closely regulated by the Feds, but are very conservative in their lending practices and therefore do not bring much, if any, flexibility to their underwriting. Before making an offer to purchase property, investors need to zero in on which type of financing is the best fit for their specific deal.

Private capital can be an excellent tool when used correctly. However, investors who fail to understand the risks and structure of these loans can make costly mistakes. The following are some of the most common errors borrowers make and how to avoid them.

Mistake #1 – Not Understanding Loan Terms

If speed and flexibility in financing a deal are the most important aspects, then it is crucial to make sure you understand the loan you are getting and not make any common mistakes. Not fully understanding the terms of a private money loan on an offer can create many issues down the line. 

Carefully review the offer—what is the initial interest rate? Can the interest rate change over time, or is it fixed for the life of the loan? What are the loan origination fees (points)? Is there a fee to a “loan broker” in addition to the fee to the lender? Are there prepayment requirements and prepayment penalties? What is the default interest rate, and when can it be imposed? 

These are the main points a borrower needs to carefully review and understand.

Mistake #2 – No Clear Exit Strategy

As an investor, you need to have an “exit strategy.” Buying the property at the right price and terms is important, but equally important is having a strategy for exiting this investment down the road. If interest rates start to fall, are you allowed to pay off the existing loan and refinance? If property value increases (perhaps by leasing it up), are you allowed to refinance it and get cash out? What can go wrong? Is an increase in vacancy going to prove fatal? Will this category of investment real estate start to decline? These are questions that need to be asked before you purchase, not afterwards. The old proverb “better to be safe than sorry” clearly applies to buying a commercial real estate property.

Every investor should identify both a primary exit strategy and a backup plan. Just as importantly, the loan term should align with your projected timeline. Assuming refinancing or sale will be easy can be an expensive mistake if market conditions change.

Mistake #3 – Underestimating Costs and Timelines

Is this a “fix and flip” type property? These sometimes seem to be too good to be true and oftentimes are. Is your construction budget realistic? Do you have a firm bid? What if rehab takes longer than planned? Do you have sufficient funds to cover interest during the fix-up phase? Is your lender likely to be flexible in working with you on the project? Will they approve your draw requests easily, or will there be problems? What if you find a second really good project—can you get your lender to go along with you on that? 

All of these questions point to one larger issue: accurately projecting costs and timelines. Many investors underestimate the true cost of holding a property during renovation. In addition to construction expenses, you must account for property taxes, insurance, utilities, maintenance, HOA dues (if applicable), and unexpected repairs. Delays are common in construction projects—permits take longer than expected, materials are back-ordered, contractors get pulled to other jobs, or unforeseen structural issues arise.

A realistic budget should include a contingency reserve of at least 10–20% of the total rehab cost. A realistic timeline should also build in buffer months beyond your projected completion date. If your project runs three months longer than planned, can you comfortably carry the loan payments and holding costs during that period?

Optimistic projections can turn a profitable deal into a stressful one. Conservative underwriting, both by the lender and by the investor, dramatically increases the odds of a successful outcome.

Mistake #4 – Choosing the Wrong Lender

In an ideal world, there are only ethical lenders. Unfortunately, we do not live in an ideal world. The world of private capital has its share of unethical lenders, and you for sure do not want to end up borrowing from one of them. Getting an unpleasant surprise at loan closing will not only ruin your day but also ruin your next few years. How can you avoid choosing a bad-egg lender? 

One way is to get lender referrals from trusted sources, like your attorney, CPA, the commercial realtor you work with, and other friends who have borrowed from a specific lender. Another strategy is to look for a local lender. That way, you are likely to be able to find referrals from borrowers who have used them. Using an out-of-state lender that seems to offer terms that are too good to be true may be a bad choice. These terms may turn out not to be true at the end of the day. Do not focus solely on the interest rate or the speed of closing. Communication, experience, and transparency are just as important.

Mistake #5 – Using Private Capital for the Wrong Strategy

Another common mistake investors make is using the wrong type of financing for their investment strategy. Private capital is typically designed for short-term or transitional projects. Using short-term, higher-cost capital for a long-term hold can create unnecessary pressure if market conditions shift or refinancing becomes more difficult than expected.

Overleveraging is also a serious risk. Just because a lender is willing to fund a higher loan amount does not always mean you should take it. Higher leverage increases monthly payments and reduces flexibility if vacancies rise or expenses increase. 

Is this purchase suitable for private capital vs. institutional capital? A long-term hold property (5 years or more) needs a long-term (i.e., institutional) lender. A life company may be your best choice for long-term hold properties. A bank may be your best choice for intermediate hold properties (i.e., 3 to 5-year holds). For a short-term property hold—6 months to 2 years or so—private lenders, with their quick-close ability, flexible loan structure, and typical interest-only payments, may be your best option. Understanding your planned investment hold period is critical to making the right choice of lender.

Why Private Capital Still Makes Sense

Private capital lenders can often underwrite based primarily on the value of the asset rather than rigid institutional formulas. This flexibility allows experienced investors to structure deals that traditional lenders may decline.

Private capital, used correctly, can give you an edge in buying a property instead of losing it to your competitors. Montegra Capital has over 50 years of history in financing commercial real estate deals in Colorado. We have a well-earned reputation for providing clear and competitive terms and keeping our word. Call Bob Amter or Kim Skari at 303-377-4181 or contact us online to discuss your next loan request.