4 Reasons to Consider a Hard Money Loan

Hard money loans aren't for everyone, but here's when they could make sense.

When it comes to financing real estate investments, there are several options available. In some cases, you may be able to use a traditional mortgage from a bank. For example, Fannie Mae and Freddie Mac's standards allow for investment property loans. There are asset-based loans specifically designed for properties that will generate rental income. Or, many investors use their existing home equity to finance some or part of their real estate investments.

A hard money loan is another option, especially when other financing methods are impractical or unavailable. These loans certainly aren't without their drawbacks. They generally have short loan terms and high interest rates and fees. They also tend to require higher down payments than conventional mortgages. But they can make sense in a few cases.

1. You need fix-and-flip financing

By far, the number one use case of hard money loans is house flipping. You typically can't use a traditional mortgage when house flipping, especially if you're hoping to finance the renovation costs, and it isn't always practical to use cash to fund an entire project. For these reasons, the short-term nature of hard money loans can be a great financial tool.

2. You need a bridge loan to long-term financing

Let's say that you want to buy a triplex that is currently uninhabitable, renovate it down to the studs, and create a beautiful and cash-flowing rental property. In cases like this, banks might not be willing to originate a mortgage in the condition the property is in.

This could be a great situation for a hard money loan, as long as the numbers still work out. For example, you could get a 12-month hard money loan, and once the property is in like-new condition, refinance and obtain a conventional mortgage loan to hold it as a rental property.

3. You need the money quickly

If you've been through the mortgage process before, you know that approval and funding don't exactly happen overnight. Conventional mortgages typically take a month or more from start to finish. In contrast, hard money loans can often be made in just a few days.

So, even if an investment property you plan to hold for a long-term rental investment can qualify for a traditional mortgage loan right away, but you need to be able to close fast for whatever reason, a hard money loan can be a good short-term solution.

Having said that, it's usually not economical to carry hard money debt any longer than you have to. These loans typically have interest rates in the 10% to 18% range, so financing costs can get out of hand fairly quickly. If you end up using a hard money loan for a quick close, keep this in mind.

4. You're buying a commercial property

Another common use case of hard money loans is for commercial property investments, such as an office building, a retail property, or an apartment building with five or more units. If you're a newer investor, it can be difficult to obtain approval for traditional commercial financing, and it's also common to see hard money loans used for unique properties.

The bottom line on hard money loans

Hard money loans can be valuable financial tools for real estate investors, but they aren't right for every situation. Since these are generally expensive and short-term financing vehicles, it's important to consider all of the options available to make sure a hard money loan is truly the best fit for your situation.