Real Estate Investment
Hard Money Lending for Exam Candidates
Rates, points, advance rates and terms are set by each lender and move with the market, so quote none of them from memory. Whether a lender or an arranger must hold a license, and which loans are exempt, is governed by state law and by federal mortgage rules. Confirm both against current state statute and the disclosures on the specific transaction.
A hard money loan is underwritten on the collateral rather than on the borrower. A private lender looks at what the property is worth, decides what it can recover if the loan fails, and lends against that figure on a short term.
Candidates meet the term in finance questions and in agency questions, because licensees are the ones who refer investor clients to these lenders and who sit at closings funded by them.
Collateral First, Borrower Second
Conventional mortgage underwriting is a file about a person: income, credit history, debt ratios, reserves, employment. The property matters, but it is the second question. Hard money reverses the order. The lender asks what the asset is worth and what it can be sold for, and treats the borrower's credit as a secondary consideration or a qualitative one.
The lender is private capital rather than a depository institution or a government program. That may be an individual, a fund pooling investor money, or a mortgage company set up for the purpose. Because the money is private, the lender writes its own guidelines and can make exceptions no underwriting matrix would permit.
Everything else follows from those two facts. Decisions are fast, because there is no third-party underwriting queue. Pricing is high, because the lender is taking more risk and expects to be repaid quickly. Terms are short, because the loan exists to be replaced, not to be lived with.
Terms That Follow From Asset-Based Underwriting
Specific figures vary by lender, market and deal. The structural features below do not.
Short maturity. These loans are written to be paid off within months rather than decades, usually by a sale or a refinance into permanent financing. Many carry an extension option for a fee.
Interest rates and origination points well above conventional pricing. Points are charged up front and are a real part of the cost of capital, not a formality. Each lender publishes its own schedule.
Interest-only payments with a balloon at maturity. Principal amortization would be pointless on a loan meant to last a year.
Advance rate stated against the property rather than the purchase price, and frequently against value after planned repairs. The gap between that advance and the total project cost is the borrower's own capital.
Secured by a mortgage or deed of trust recorded against the property, with the lender's remedy on default being foreclosure under the law of the state where the property sits. Personal guarantees and cross-collateralization are common additions.
Fast closing measured in days rather than weeks, which is the feature investors are actually paying for.
Rehabilitation funds commonly held back and released in draws as work is inspected, rather than advanced at closing.
After-Repair Value and Why the Ratio Differs
Conventional lending sizes a loan against the lesser of purchase price or appraised value as the property sits today. A rehabilitation lender often sizes it instead against after-repair value, the estimate of what the property will be worth once the planned scope of work is finished and the property is marketable.
That is an estimate of a future condition, which makes it the weak point in the whole structure. It rests on an appraiser's opinion of a property that does not yet exist, on a scope of work that has to be completed on budget, and on market conditions holding until resale. A distressed property that will not finance conventionally today is being valued as if it already will.
The ratio is therefore not comparable to a conventional loan-to-value figure, and candidates should not treat the two as the same measure. A loan at a given percentage of after-repair value can represent a far larger share of the property's present as-is worth. If the work runs over or the market softens, the cushion the lender was counting on is the part that disappears first.
The same arithmetic explains the draw schedule. Releasing rehabilitation money against inspected progress keeps the collateral's value moving toward the number the loan was sized against, instead of funding a project that stalls half finished.
Where Investors Use It
Acquisition and Rehabilitation
Buy a property in condition no conventional lender will finance, fund the work through draws, then sell or refinance. The speed and the willingness to lend on a damaged asset are the reason for the cost.
Bridge Financing
Cover the gap when a borrower must close on one property before another sale or a permanent loan funds. The exit is identified before the loan is made, because the loan has nowhere else to go.
Auction and Distressed Purchases
Foreclosure sales demand certified funds on short notice with no financing contingency. A lender able to fund in days is often the only way an investor can bid at all.
Properties That Cannot Qualify
Unusual collateral, partially completed construction, a title or occupancy problem being cured, or a borrower whose file will not fit program guidelines. Private capital can look past what a matrix rejects, at a price.
Licensing and Disclosure Issues a Licensee Should See
A licensee who arranges financing, solicits lenders or takes a fee for placing a loan may be acting as a mortgage broker, which is regulated separately from real estate brokerage in most states. Some states let a real estate licensee perform limited loan activity, some require a separate mortgage license, and a few prohibit it outright. This is state-portion material and it is worth knowing before you make a referral that comes with compensation attached.
Purpose drives the federal side. Loans made primarily for business or investment purposes are generally outside the consumer mortgage disclosure regime, which is why hard money lending concentrates on investment property. Extend the same loan against a borrower's own residence and the consumer protections attach, along with the ability-to-repay and high-cost rules that come with them. Lenders who blur that line create exposure for everyone at the table.
Two more points come up on items and in practice. Referral compensation between settlement service providers is restricted on federally related consumer transactions, so a licensee taking a fee for sending business to a lender should know exactly what rule applies. And usury limits, which cap interest rates, vary by state and carry their own exemptions for certain lenders and certain loan purposes.
None of this is advice you give a client yourself. The usable practice is to identify the issue, refer the client to a lender and to counsel who handle these loans, and document that you did. Items tend to reward the candidate who recognizes the scope of the licensee's role rather than the one who solves the client's financing problem.
Common Questions About Private Lending
Why would anyone pay these rates?
Because the alternative is not a cheaper loan, it is no loan. When a property will not qualify conventionally or a closing deadline is measured in days, private capital is the only source available. On a loan meant to last months, the interest cost is a project expense rather than a lifetime obligation, and the deal either supports it or should not be done.
Is a hard money loan the same as a private or seller loan?
Not quite. All hard money is private lending, but private lending also includes a relative lending on informal terms and a seller carrying back financing on a property being sold. Hard money specifically means a commercial lender underwriting on collateral with a published fee structure and a short term.
What happens on default?
The lender enforces its security instrument, which means foreclosing under the procedure of the state where the property is located, judicial or nonjudicial as that state provides. There is nothing special about the remedy. What differs is speed of decision, since a private lender has no servicing bureaucracy and often no loss mitigation program.
Can a hard money loan be used for a primary residence?
Sometimes, but the character of the transaction changes. A loan secured by a borrower's dwelling for a consumer purpose falls under federal mortgage rules, including ability-to-repay and high-cost thresholds, and state consumer lending law may add more. Most lenders in this space avoid consumer-purpose loans for exactly that reason.
How does this show up on the exam?
Usually as a distinguishing item: which source of financing fits a described situation, or which loan is underwritten on the collateral instead of the borrower. Occasionally it appears in an agency or disclosure item about what a licensee may do when a client asks for a lender referral.
How should I study finance overall?
Learn the instruments and the sources once, at the national level, then treat licensing scope, usury and any state-specific lending rules as state-portion work drawn from your own commission's material. RE License Prep runs separate state banks for all 50 states and DC on both the salesperson and broker tracks, with a free diagnostic first and full access at $79 one time, backed by a 30-day money-back guarantee.