I apologize in advance for the long post but this is important information to have and I don’t want to leave anything out.
Recently, I have been seeing a lot of borrowers who were trying to pay off loans that had unfavorable loan terms that were causing them problems.
Honestly, I would call some of them predatory but the lending laws that define predatory lending don’t apply to business purpose loans so even if these terms are unfair, they are still legal in most cases.
Here’s what to look out for:
1) Default rate: a default rate is when the interest rate goes up in the event that you go into default on your loan. It can be triggered when you become late on the loan or when the balloon payment is past due. Depending on how it is written, it can be reduced back to the original rate when everything is paid current or it may stay at the higher rate until the loan is paid off. I have seen default rates where the interest rate went up by as little as 4% or by as much as 12%.
If you have had a lot of recent late payments, you may end up with a default rate but don’t accept one that you can’t deal with or one that keeps the default rate in effect even after you have paid everything current. The problem with a default rate that can’t be reduced is that it makes it incredibly difficult to make your payments, especially if your payment is increased by 50% or 100%.
2) Late payment penalty on a balloon payment: When a balloon payment is due and isn’t paid within the grace period that is granted on each other payment on the loan, some lenders charge a late payment penalty just as if the balloon payment were a normal payment.
This could be 10% of the loan amount which can make a huge difference and can make the difference between being able to refinance and losing the property in foreclosure. For example, if you borrowed $400,000 and there was a 10% late fee on your balloon payment. your penalty would be $40,000.
3) High attorney fees on a foreclosure: For California properties, it isn’t necessary to have an attorney involved in a foreclosure but some lenders do it anyway. This can add thousands of dollars in fees the borrower has to pay.
I just closed a loan for a borrower whose balloon had come due and the lender not only started the foreclosure process but also had an attorney involved. In addition to approximately $2,200 in foreclosure fees, there were over $14,000 in attorney fees which were entirely unnecessary. I can’t tell you who the lender was here because I don’t want to get sued but if you are getting a loan and want to know what to watch out for, I would be happy to tell you.
4) High loan fees: This one is very subjective but if you are paying over 5 points in fees and it isn’t a small loan, you can probably do better without trying very hard.
And if your loan includes a bunch of different fees, that could be an indication that you are being charged too much. We normally charge a processing fee and a document preparation fee but if you are also seeing things like an inspection fee, funding fee, document review fee or various other fees that you may not even know what they are really for, that may not be the place to go for a loan.
How you can avoid these things:
1) Make sure to read and understand the terms of your loan. If you don’t understand something, look up the words you don’t understand in a dictionary until you do understand what it says. A verbal explanation from your loan officer won’t change what it really means and the loan officer may not understand it either.
2) Don’t wait until the last minute to refinance your loan. The way a lot of these bad loans end up getting done is when a borrower is running out of time and doesn’t have any other options so they take whatever they think they can get.
Knowing when your loan is due or when it needs to be refinanced can save you a lot of trouble and money. I recently read the terms of a loan done by another broker that gave the broker the ability to automatically extend the loan for 6 months at a time and to charge the borrower 1.5 points (equal to 1.5% of the loan amount) each time they did it. At that point, they had made an extra $25,000 off of that borrower.
3) Make sure the loan will work for you. Even if it is a temporary solution, it is vital that you know you can meet the terms of the loan and, if necessary, get out of it and into a better loan as soon as possible.
Even if you are in a tight spot, it doesn’t make sense to take a loan you either can’t make the payments on or can’t get out of. You would probably be better off selling the property and getting your equity out of it.
4) Don’t believe anyone who says you have no choice but to accept their offer. It is incredibly rare that there is only one lender who will do a loan and most loan officers who tell you that you don’t have any choice are really just using pressure tactics to get you to do the loan.
This is a classic shady sales tactic and usually tells you the loan officer is not really on your side. They may only have one option for you but if you don’t like it or it doesn’t work for you, don’t take it.
5) Do everything you can to keep your mortgage payments current. This will help to put you in a position to get a better loan and not have to deal with any of these terms. However, some lenders who offer lower rates will still include some of the terms listed above.
My preferred lender for non-hard money alternative loans offers 30-year loan terms instead of short term loans with default rates and other potentially predatory terms. What this really means is that there are options and you don’t have to take a loan you don’t like just because it is the only thing being offered.
Most people think that hard money loans (also known as private money loans) qualify as creative financing. But the truth is that just because a loan is hard money, it doesn’t mean that it’s creative.
Someone who has bad credit or a property that is in poor condition will probably have to use hard money for a mortgage. But it can be pretty straightforward and doesn’t need to be creative at all.
If you look at the facts, getting a higher interest rate and probably paying more points than you would for a different type of loan doesn’t seem very creative.
So what does a creative loan look like?
One example that we just closed this week involved a guy who wanted to buy a property but didn’t have any money for a down payment. And since there aren’t any loan programs for buying a rental property with no money down, most loan officers would have turned him down.
But that isn’t what happened.
It turned out that he owned another house that had a lot of equity in it. So instead of turning him away, we used that equity so he could buy the house he was interested in. The loan used both properties, being a first mortgage on the one he was buying and a second mortgage on the one he already owned.
Another example is a borrower who needed to refinance a property that had major fire damage. The property had 3 units before the fire and two units afterwards. Obviously, no bank would give anyone a loan on that property.
But we came up with a solution to it. Instead of going through the complicated process of doing a construction loan, we had the property appraised based only on the two remaining units.
Since the loan was based on the as-is value, there was no need to have any money held back to cover construction costs. The borrower had been looking for a solution for a while and was unable to find anyone to help them. Fortunately, the solution seemed pretty obvious to us and we got the loan done quickly.
There are many other examples of how to take a situation that doesn’t seem to have a solution and figuring out a way to be creative, coming up with a simple solution to get the problem handled.
So when you think of creative financing, it isn’t true that all hard money is the same. It is important to find someone who cares enough to look for the solution to your problem, whether that person needs to be creative or not.
The best way to look at it is to find out if there is a simple solution. Complicated doesn’t usually work and causes confusion. Simple is almost always better.
A common question about hard money is, does hard money work the same way as cash when buying a property? The short answer is no, but there is a more complete explanation.
Hard money loans are often used in situations where the purchase of a property has to close quickly. Sometimes, this is because the quick close was necessary to get the offer accepted over competing buyers. Other times, it is because the original loan fell through and the buyer had to scramble for a fast solution.
Regardless of the reason, many buyers and real estate agents think of hard money loans as the same as cash. After all, when was the last time a bank closed a loan in just a few days? (In case you were wondering, the answer is never.)
Hard money, also known as private money, is typically handled by a broker with individual investors providing the money for the loan. Because one investor can review an entire loan file in a short period of time, sometimes in as little as a few minutes, it is impossible for a bank to compete on speed.
Their processes are split between different people. They have one person to collect data and set up the file, another one to underwrite the file, another to review the appraisal and another to close the file. This is a simplified version and it usually has more people to handle other steps. The fact is that they aren’t set up to move quickly.
Speed alone can cause hard money to be considered the same as cash but it is still a loan and it requires someone other than the buyer to approve it and produce the money needed for the loan.
You have probably seen listings that said they would only accept cash offers. This is almost always because the seller thinks that the property won’t qualify for any kind of mortgage. In most cases, they are wrong because hard money is used for exactly that type of property.
When making an all cash offer, it is almost always required that you provide proof of funds. The seller and their real estate agent want to see that you have the cash to close. And if you are getting a hard money loan, the lender isn’t going to give you a copy of their bank statement to prove they have the cash you need.
The proper way to handle it would be to make the offer showing that you are using a hard money loan to buy the property. Hard money is still a loan and a pre-approval letter is needed to go along with your offer. It may need to say something about the condition of the property not being a problem. A properly worded pre-approval letter can make all the difference in the world in getting your offer accepted.
Another important key is that the loan officer who wrote the pre-approval letter has to be available to talk to the listing agent before the offer is accepted. This can be the final requirement before an offer will be accepted.
So even though hard money is similar to cash and can be almost as fast, it is not the same.
ITIN is the abbreviation for Individual Tax Identification Number. It is the number issued to individuals who do not have or are not eligible to have a Social Security Number. They are used by individuals without Social Security Numbers for federal tax filing purposes with the IRS.
Banks don’t typically lend to those who have an ITIN. This isn’t because they aren’t eligible to buy property or get a mortgage. There is no restriction on buying a home just because one has an ITIN. Banks just don’t lend to them.
The most common solution for someone with an ITIN to own real estate is through private money loans (aka hard money). This is because private lenders aren’t so worried about the little details the banks focus on. Instead, they look more at the property value and the down payment than anything else.
Another big problem for many of these buyers is that they don’t have sufficient credit. Often, they think they can’t get any kind of credit unless they have a social security number. This is completely untrue. I have worked with many clients who have well established credit that they used their ITIN to get.
(For more information on credit and how to establish it, go to CrackMyCredit.com.)
Fortunately, private lenders aren’t as worried about credit as the banks so even if you have no credit at all, that shouldn’t stop you from getting a mortgage to buy a property.
The only real requirement for buying a property (other than having the money or getting a loan to buy it) is that you have to be able to prove your identity and you have to be able to prove where the money came from. In other words, just because someone has an ITIN is no reason they can’t own real estate.
This is part 2 of 2 in a short series to clear up some of the questions and misunderstandings regarding owner occupied hard money loans. In this post, I will cover bridge loans and temporary loans.
Bridge loans are fairly well known, at least in terms of the name, if not what they actually are. Temporary loans are similar to bridge loans but not exactly the same thing.
A bridge loan is specifically a loan that is used to buy a property before selling another one. These are short term loans, usually no more than 12 months. There are three basic ways to set on up.
The first way is to use both properties as collateral for the loan. The second is to use only the property already owned as collateral. The third is to use only the property being purchased as collateral. Deciding which option works best for you is something you may need your loan officer to help you with.
Whenever a bridge loan is done, an exit strategy is needed because the lender wants you to have a plan of how you will pay off the loan. They don’t want to foreclose any more than you want them to foreclose.
There can be many valid exit strategies. Probably the most common is to sell the property you already own. In the case where this strategy is used, the entire loan can be paid off from the sale of the property. In some cases, there isn’t enough money to pay off the entire mortgage so a new smaller mortgage is needed at the time of the sale.
Your loan officer should be able to help you figure out your ideal exit strategy and even if you already have it worked out, it is a good idea to go over with him or her to make sure it is workable.
Temporary loans are also short term, just like bridge loans, but they have a different setup and a different purpose. When you have enough equity in your property, are unable to get a loan from a bank and need a short term solution, a temporary loan may be an option.
They are typically setup with no more than a 12-month term and, if the property is your primary residence, there is no prepay penalty allowed.
Regardless of the reason for needing a temporary mortgage, whether it is due to bad credit, income that can’t be proven or a property that won’t qualify for a bank loan, the biggest factors in being able to get approved for one are the equity in a property and having a good exit strategy.
There has to be enough equity in a property to give the lender the comfort to not worry about their investment in lending you money. They have to have confidence that if anything goes wrong, they won’t lose money. You should also want this because you want to make sure you have the ability to pay off the loan and your equity can play a big part in that.
A good exit strategy is one that has a reasonable likelihood of working to the benefit of all. Once again, the exit strategy is something your loan officer should be able to help you with.
I could go on for days explaining all the different ways these loans work but rather than doing that, if you have questions about it, please call or fill out the contact form on our site.