If you’re planning to invest in real estate, you have several avenues open to you, all of which can be the right choice depending on your specific needs. Many investors choose to go the tried and true route of partnering with a bank, especially if they are intending to buy the property and hold it for a long time; others who have already built up a sizable real estate portfolio may finance the purchase on their own.
What if you don’t have the cash to purchase a property upfront, and you intend to hold it for a shorter time frame than the life of a typical mortgage? If you want to flip a house, you don’t want to be locked into a 15-year mortgage, especially if you can’t find a lender without prepayment penalties. In this circ*mstance, private mortgage lenders are your best option for getting the financing necessary to buy the property. Let’s take a look at what these institutions are, the pros and cons of using them to get a loan, and the factors you should consider when pursuing this avenue.
A private lender is one that is not affiliated with a bank or credit union
“Private,” in this instance, simply means that the lender operates outside of a banking institution; they can be publicly traded companies, or they may be genuinely private.
There are several differences between a private lender and a bank that you must understand before you begin your lender search. Firstly, they generally specialize in hard money loans: these have a shorter term than a traditional mortgage, making them well suited for house flipping.
The next difference is that they typically determine their lending rates not on your qualifications as a borrower, but on the collateral being used – in other words, on the property itself. This means that they will take a good look at the current property value of your investment, as well as its potential income, in order to figure out the terms of the loan.
If this sounds good so far, let’s consider some of the benefits and drawbacks of using a private lender.
Private mortgage lenders can provide faster and more flexible lending, but it comes at the cost of higher interest rates
If you’re not sure if you can qualify for a conventional mortgage due to your credit score or income streams, or you don’t want to hold a property for more than a few years, then a private lender may be your best bet, as they focus on shorter-term loans. Banks are incredibly risk averse, and they have very stringent requirements for their loans, so those who have less-than-perfect credit or who are self-employed may have a very difficult time getting a loan from them. In contrast, private mortgage lenders are more willing to negotiate the terms of their loans, including the length of the loan.
Another benefit is that they can approve the loan faster because they are not bound to the same regulations as banks. The banking industry is tightly structured, which means that any loan must go through a phalanx of tests; however, private mortgage lenders don’t have these, so they have far more autonomy when it comes to approving you.
However, there is one downside to private mortgage lenders, one which they are very open about: they charge higher interest rates and have more fees than a bank would because they are taking a greater risk on you. Additionally, there are fewer protections for the borrower should something happen to the institution; this is why it’s essential that you work with a well-established and reputable private mortgage lender when seeking this time of the loan.
When choosing between a private lender and banking institution, consider your goals and current financial status
It’s essential that you carefully research each possible lender and that you consider how their products match your needs. Every institution has different loans, which are meant for certain circ*mstances; if your plans don’t match the product, then you need to find one that better reflects what you’ll be doing with the property.
Those who will be selling a property quickly will likely do best with a private mortgage lender, as they won’t be locked into a loan for the long term; however, if you’re going to buy and hold, you would be better off working with a bank who can provide you assistance over the lifetime of the loan.
Your credit score will also play a role in how you decide. If you’re flipping but have a subpar credit score, you might only qualify for very high-interest mortgages that you’ll be paying off for many years, in which case a private mortgage is a better option. However, if you have an excellent credit score and a sizable stock of cash, you may be better off getting a 15-year mortgage and just paying it off ahead of schedule when you decide to flip the house, as you’ll benefit from lower interest rates and fees.
As with all investment decisions, there are numerous factors involved that you need to investigate carefully; you might benefit from talking to a financial advisor, who can assist you in choosing the right servicer for your own situation. Regardless, you have numerous options available, each of which could be the perfect chance to become a real estate investor.
