Paul is one of the 3 million active real estate agents in the United States.
He began his career to help fund entrepreneurial ventures. By taking advantage of the right lending processes, he got into real estate investment with very little upfront cost. Carefully selecting properties to buy and flip helps Paul grows his businesses like never before.
Are you thinking about getting into real estate investing, or do you simply need to learn about financing? Then this article’s for you. This short, but complete guide, will go over everything you need to know about hard money vs soft money loans.
Should you take out a hard money loan or get soft financing? Read on to find out.
Table of Contents
What Is Hard Money?
What is hard money? When you hear someone referring to hard money, they’re talking about a type of loan. These hard money loans are secured by actual property.
Usually, hard money loans are a short-term solution or last resort option. These loans work best in real estate transactions. Often times the lender will be a company or individual instead of a banking institution.
How exactly do hard money loans work? The loan value depends on the property serving as collateral. Collateral is something that you have to put up before the lender agrees to work with you.
If for some reason, you don’t keep up your end of the loan, the collateral forfeits to the lender. Remember, banks aren’t going to make hard money loans. Instead, these risky ventures only work with private individuals or individual businesses.
Who might need a hard money loan? Property flippers often find themselves seeking hard money assistance. Short-term loans are perfect for implementing fast renovation and resell strategies.
Real estate can be used for collateral during the financing, which makes things fast and easy. If there’s a high cost on a hard money loan, it’ll need to be offset by something.
For instance, the borrower will have to agree to fast repayment terms to secure higher loan amounts. Typically hard money loans last for 1 to 3 years.
Who Should Get a Hard Money Loan?
Should you take out a hard money loan? The cost of the loan is going to be higher than any assistance you get from a government or banking program. The high cost is a result of the high risk the lenders take on.
However, you will be getting the benefit of accessing capital much faster. Since you won’t have to deal with the strict approval process, it’ll be easy to move things right along.
Working with individuals and companies also means that you can explore flexible repayment schedules. Borrowers who have low or poor credit but good equity in their property might benefit from a hard money loan situation. Since these loans can be approved and issued quickly, they can help prevent bigger financial fiascos.
For instance, if you’re facing foreclosure, a hard money loan can help you keep your property. One of the biggest advantages of these loans is the fast approval process.
However, one of the biggest disadvantages is the high-interest rates. You can check out this guide to understand how interest rates work.
Sometimes the interest rates for hard money loans will even exceed subprime loans. If there are strict regulatory oversight or compliance rules, the lender might be difficult to work with. The reality is that hard money loans work best for wealthy investors.
Instead of having to worry about the detail of the approval process that bank financing presents, investors can get the capital they need quickly. If you’re considering getting a hard money loan, double-check the agreement before signing. See exactly what the fees will be, how the interest rates work, and what the loan- terms are.
What Is Soft Money?
When you hear the term soft money, it refers to a soft money loan. Getting a soft loan or soft financing means that you’ll have almost no interest at all.
Soft financing comes with reasonable grace periods for repayment, which makes them a more favorable option. Soft loans are excellent for developing nations that need access to capital but can’t afford to borrow at market rates.
When it comes to government lenders, soft financing can help create bonds between borrowing countries and lenders. How exactly does a soft loan work?
Soft loans don’t only help support developing nations, but they also create political and economic ties. This can happen if the borrowing nation has a material or resource that the lender wants. The material can help with the repayment of the loan by giving the lender access to the resource.
For instance, China provides soft financing to African nations. Ethiopia receives soft money loans from the Chinese government. By supporting Ethiopians, China will find it easier to trade between Africa and Asia.
Some of the pros and cons of soft money loans are worth considering. For instance, soft money loans can provide a great break for a company. Along with creating a platform for the lender to encourage better diplomacy, soft loans also create business opportunities.
More Soft Money Tips
A lot of firms that move into different complexes use special tax breaks and soft money loans to make it possible. The downside to these loans is that the length of time it takes for repayment could extend too long. If the repayment goes for too long, then the lender will be tied to the borrower year after year.
There are also issues with the generous term soft financing presents. Nations and businesses might be tempted to take on more debt than they can actually afford.
Pay attention to the different terms that soft financing presents in real estate environments. Soft money in a real estate investment loan program works differently than a conventional loan.
Soft financing will require extra underwriting than a hard money loan would. As a result, the loan will have better rates and more security.
Hard Money vs Soft Money Debt
Now you know what hard money and soft money loans are. We’ve also gone over some of the top differences between these two financing options.
It’s often assumed that soft money is money on paper and hard money is cash on hand. However, this isn’t always the case. In some situations, soft money loans can provide liquid cash.
For help keeping the two financing options apart, try to remember their initial definitions. Hard money is a type of financing you receive for specific needs.
Hard money has detailed criteria for repayment. Soft money is borrowed without any specific use stated. Soft money has more generous repayment terms, and they’re flexible too.
Next, remember how the lending situation works. There are a lot of hard money lenders out there. Comparatively, soft money lenders are harder to find.
What do these two different financing options present as far as financial security? You can think of hard money loans as asset-based financing.
The borrower receives the money, and your funds are secured by your collateral. Remember, the collateral is usually property.
Soft money financing can be a type of asset-based financing. It’ll involve both methods of old conventional loans and hard money tactics.
Hard money interest rates are usually high; soft money options are reasonable. In some situations, soft money interest rates will be below average.
Navigating Interest Rates and Beyond
How can lenders afford to offer such low-interest rates for soft money loans? It has to do with the amount of risk involved in the lending situation.
With soft money, the risk is low. Lenders rely on credit scores.
With hard money, the rates are high since the loan value uses the property value, not a credit score. The property value creates the entire base for hard money funding.
You’ll find that soft money financing is easier to acquire, and hard money can be a little bit more tricky. Hard money loans usually only work if you have a property to put up as collateral. In countries like the United States, there are strict rules revolving around the use of hard money loans.
There aren’t a lot of restrictions when it comes to soft money financing. As far as investments go, hard money works great for long-term loans, and soft money works great for short-term goals.
Hard financing works best for properties that aren’t in the best of conditions. The property will be the security provided to the lender. Soft money works great for funding properties that are already in good condition.
Closings can be fast and easy with a hard money loan. You can expect to close on hard money financing and as short as two business days! Soft money financing usually takes closer to 30 business days or more for completion.
You’ll find that hard money has a lot of flexibility when it comes to structuring the loan. However, soft money offers more flexible repayment structures.
Since hard money can have an owner-occupied property, there’s a lot less paperwork during closing. Alternatively, there will be a lot of paperwork if you’re using soft money financing during the closing on a piece of property.
Mistakes to Avoid When Getting a Soft or Hard Money Loan
Now that you know the similarities and differences between soft and hard loans let’s talk about the top lending mistakes to avoid. For instance, when you’re getting 100% hard money financing, double-check the information you’re providing to the lender.
Lenders are going to ask for a lot of financial and personal information. Depending on why you’re getting the loan, you might have to submit all sorts of documentation to create a complete financial picture.
For instance, you might need 3 years’ worth of tax returns or a profit and loss statement for your company. If lenders are going to make an approval decision, they have to understand your actual financial standings.
Earning statements and tax returns are just the beginning. Lenders are also going to want detailed documentation based on current needs. Try to get the documentation list as soon as you can so you can start gathering the paperwork.
You’ll also have to create a summary letter that completely indicates all of your goals and the reason for your loan. The summary letter helps explain to the lender your intent. It’s a way of explaining why you want a hard money loan rather than a conventional one.
When you’re completing the application, make sure that you fill out all of the information accurately. Even the tiniest mistake can delay your approval. Your loan summary should include your property address, a description of the property, and the total contract price.
Picking the Best Lender
Another big mistake is picking the wrong lender to work with. The best lenders will have proper verification and a trustworthy reputation. Before choosing a lender, find out how many years they’ve been in business.
Do they have lending experience in your industry? Find out in advance what information they’ll need to process your loan application.
Double-check how long the approval process takes, especially if time is an issue. Go further and find out if the lender offers flexible repayment plans. What type of penalties do they include for prepayment?
Be ready to ask the hard questions. This is a major financial transaction, and you need to make sure it goes as smoothly as possible.
A good loan officer will be happy to answer all of your questions in a professional and timely manner. They should be able to provide you with contact information so that it’s easy to reach them too.
Reliable lenders make themselves available to their customers. If you find a lender who isn’t responding to your calls or emails, shop around. There are plenty of lenders out there who would love to earn your business.
Remember, loans are a business partnership. You need the lender to be just as committed to the process as you are.
Get the Financing You Need
Now you know the differences between hard money vs soft money. Are you going to secure hard money financing or a soft money loan? If you’re still not sure, reach out to a lender today.
At the end of the day, you might find out that you don’t need a hard or soft money loan. Instead, you might benefit from a more traditional financing approach.
However, you won’t know unless you ask. So call a lender today and then read another one of our articles. We have some great tips waiting just for you.