Robert Amter – Nov. 2007

Unless you have just returned from Outer Mongolia, you have read endless articles about how the “subprime” meltdown has impacted capital markets in the United States as well as in all other major capital markets throughout the world.

The sum of $6 trillion in sub-prime loans is often used as the amount of loans that were made and then sold by Wall Street syndicators to investors throughout the world. We don’t know the “end of the story” yet, but it seems clear that there are many investors who will lose substantial amounts of money in their quest for higher interest rates through this type of investment vehicle. How will the subpime “crisis” impact the “hard money” private capital loans that have become increasingly popular with real estate investors and developers in the past decade? The answer is somewhat complicated. The subprime market is a term that normally refers to loans made on single-family residential property while most of the private capital hard-money loans are funded on commercial properties. They are quite different in how they are underwritten and funded.

Many hard money lenders raise funds accessing bank lines of credit. Its seems probable that banks, under pressure from the Office of the Comptroller of the Currency and Federal Deposit Insurance Corp., will tighten their lending standards: therefore, some hard money lenders are going to see theses lines of credit shrink or totally dry up. This means fewer hard money lenders in the field and fewer choices for prospective borrowers.

The more established hard money lenders should continue to offer loans to borrowers on commercial properties that will have the following advantages over banks and institutional commercial mortgage lenders: They typically are funded much more quickly than banks and need less documentation. They also offer more flexibility in their debt- service coverage ratios, credit score standards and secondary source of repayment requirement. Hard money loans, of course, have some disadvantages over banks and institutional lenders – chief among these are higher interest cost and higher fees. The other negative to hard money commercial loans is the more conservative loan to value requirements. Hard money lenders typically will not loan more than 65 percent to 70 percent of the value of a property while banks and institutional lenders are able to use higher LTV standards. Borrowers need to consider the tradeoff between speed and convenience versus higher costs.

The good news is that hard money commercial loans for commercial properties will continue to be available as subprime money for residential properties dries up in the near term. However, if past crises are any predictor, new ways of funding subprime residential loans will be created and become available as the memories of current problems fade.