Let’s continue our discussion of hard (private) money real estate lending and how it compares to institutional real estate lending practices.

How do private money lenders requirements differ from institutional lender requirements?

Institutional lenders are typically credit and cash flow based lenders.  Private money real estate lenders are “asset based lenders”. There is a great deal of difference in the underwriting standards of these two groups.  Unless the real estate deal can meet the debt service requirements of a bank (normally in the range of at least 1.25 x coverage) it will be difficult to get a loan from them.  Also, banks lenders want to see substantial “liquidity” in the form of readily available cash or other liquid assets that their borrower can draw upon on short notice. Banks also frequently require what is called “a secondary source of repayment” which mean that in the event the cash flow from the property declines the borrower has other reliable sources of income to take over.  Private money lenders typically do not have this requirement.

Private money lenders tend to place much greater reliance on the ratio between the loan principal and the property value.  Normally a private lender will not wish to exceed a 65% loan to value (LTV) ratio while a bank may lend as high as a 80% LTV.  However, the much greater flexibility shown by private money lenders in their attitude towards debt service coverage and not requiring the same liquidity or “secondary sources of repayment of the debt” more than compensate for their somewhat stricter LTV requirements.

What are the dangers and what are the advantages of using private money for commercial real estate loans?

Benefits:

• Getting a loan funded when your bank will not do it.
• Getting a loan closed quickly and with typically less red tape than banks require.
• Using this short term “bridge” loan to get from “Point A to Point B” quickly and be able to pay off the more expensive financing in a one to two year period.

Dangers:

• Getting taken by paying excessive up-front fees and not getting the loan.  Using a local lender and retaining your own real estate attorney are the best way to prevent this from happening.
• Paying too much for your private money loan.  Doing your homework and talking to several different lenders should help.

How can a borrower find a reliable private money lender?

This is a very important question for a borrower entering into the private money commercial real estate lending world.  Here are Bob Amter’s suggestions gleaned from his 41 years of experience in funding hard money loans in Colorado:

• Try to find a local source of private money.  Borrowing from out of state lenders can be particularly challenging.
• Check local references:  talk to attorneys, local bankers, local commercial real estate brokers, CPAs and anyone else that might know about the local source of private money.
• Do careful Google searches of the lender.  When you see web sites underneath the main lender web site which are called ‘Borrowers suing XYZ Lender” you may want to think twice about using this lender.
• Bob’s strongest recommendation would be to use a good real estate attorney to help you negotiate and close your loan with a private money lender.  This is potentially the single most important step you can take to make sure you have a loan that will work for you. It is, unfortunately, advice not always followed.

This blog was written by Bob Amter, President of Montegra Capital Resources, LTD., a Colorado hard money lender.  [google_authorship] has been in the private capital lending business for 41 consecutive years.