Most of us would head down to a local bank or credit union to borrow money. We might use a broker to help arrange financing, especially for a mortgage, but the money would ultimately come from a licensed financial institution. Business borrowers often do things differently. Sometimes they skip traditional financing and go right to hard money instead.
Perhaps you have heard that hard money lending is an option of last resort for desperate people who cannot get bank loans. It is not true. Some of the most successful entrepreneurs in the world make heavy use of hard money. They are by no means desperate, nor are they incapable of getting traditional financing.
So, what types of borrowers tend to turn to hard money? Borrowers are almost always real estate investors, business owners, or corporations.
Real Estate Investors
Actium Partners is a Salt Lake City, Idaho, and Colorado hard money lender that specializes in real estate investments. They explain that, for borrowing purposes, real estate investors can be divided into two categories: buy-and-hold investors and property flippers. Borrowers in each category have different needs.
Buy-and-hold investors do exactly as their name implies: they buy properties and hold them for the long term. An investor could purchase office space and spend 5 to 10 years collecting rent. He could buy apartment complexes, multi-family dwellings, strip malls, etc.
Property flippers are investors who buy properties and hold them just long enough to rehab them and get them back on the market. They do not tend to hold for longer than 6 to 8 months. Quick turnover is how they make their money, so going any longer than eight months increases their risks.
Actium says that hard money lenders whose niche is the property market tend to choose one category over the other. For example, Actium does not loan to property flippers. Buy-and-hold is their bread and butter.
Next up on the hard-money customer list are business owners with expensive capital improvement needs. A good example would be a local business hoping to expand by adding a second location across town. The goal is to own the property the business will occupy, rather than renting it.
While the business owner could go to the bank for a small business loan, his chances of being approved are not that good. If he is approved, the total cost of borrowing might make doing so not worth it. On the other hand, obtaining a hard money loan could help the business owner get the second location running and turning a profit before arranging for less expensive traditional financing to pay off the hard money amount.
The final group of borrowers are corporations looking at mergers or acquisitions. Because of the sheer amount of money involved, this particular group is the smallest of the three. It is not uncommon for corporate borrowers to ask for tens of millions of dollars.
The biggest hard money deals in history all involve corporate acquisitions. They require deep-pocketed lenders unafraid to take significant risks. In exchange, lenders earn hefty returns. Corporate acquisitions are risky business to get into, but a lender can do very well if it has enough resources to meet corporate needs.
In closing, it is important to understand that banks do not make hard money loans at all. As for actual hard money lenders, they lend for commercial purposes only. You are not going to get a hard money loan to buy your first house or get that luxury sports car you’ve always dreamed of. Retail needs are met by retail lenders.