A Hard Money Loan is a “last resort” loan backed by the value of a property as opposed to the credit-worthiness of the borrower. Since the property itself is the only protection against default by the borrower, hard money loans have lower LTV ratios than traditional loans and their interest rates are very high. Traditional lenders like banks do not make hard money loans, so lenders are often private individuals that see value in a potentially risky venture. They are popular with borrowers who have bad credit but substantial equity in their properties, and they can be used to avoid foreclosure.
Hard money loans are best used by property flippers who plan to renovate and sell the real estate that is used as collateral for financing. If this is the plan, then some of the risks of a hard money loan are offset by the gains the borrower stands to make, because they are usually planning on resell the property within a year or less and can pay off the loan. The approval process for these loans may also be quicker than traditional loans, because lenders who aren’t banks may make a faster decision based on the value of the home. Additionally, they may not use traditional underwriting processes, which can allow for adjustments to be made in the repayment schedule. This can sometimes allow the borrower more opportunities to pay back the loan in the allotted timeframe.
Because the cost to the borrower of a hard money loan can outweigh the benefits, it is very important to evaluate the pros and cons of this type of loan vs. a traditional bank or government-backed loan.