For many Americans, housing affordability is a major problem now where they live, as the 2021 survey in this article suggests. To get on the property ladder, most people need to get a mortgage, or so they think at least! Few people realize that if they have assets of a particular value, there are other ways to borrow money for property buying, other than a mortgage.
You might have just searched “hard money loan vs. mortgage” right now, or something similar. If so, you are in the right place to get answers. In this guide, we’ll look at the main differences between hard money loans and mortgages so you can figure out what might work best for you.
So get comfortable and read on to get the lowdown! Let’s start with the fundamentals:
What Is a Hard Money Loan?
A “hard money loan” is a slang term for one type of loan people get for real estate transactions. Borrowers can secure one by using an asset as collateral, which is often another property. Also, it’s typical to see individuals or specialist companies offer these types of loans, not banks.
We can refer to hard money loans as collateral loans for real estate. Here you can learn more about collateral loan info if you’re specifically interested in the topic. In the link provided, you can learn more about the types of collateral you might be able to use to secure one.
What Is a Mortgage?
A mortgage is when you borrow money to buy a property (typically a home), and you give the lender the right to take your property if you don’t pay the money back you owe, plus the interest.
According to the CFPB, you use a mortgage to “buy a home or to borrow money against the value of a home you already own.” So in some cases, mortgages can involve collateral in the sense you can borrow against the value of an existing property.
Hard Money Loan vs. Mortgage
The first thing you have to understand about the two loan types is that in most cases they are used for different purposes, albeit often property-related. Most of the time people get hard money loans when they are real estate investing. Mortgages tend to be for people who are wanting to buy a home.
Let’s now take a look at some other key differences you can expect in this hard money loan and mortgage guide:
The Approval Criteria
When people apply for a mortgage, the lenders almost always check on the financial standing of the borrower. They do this by requesting a credit report for the prospective borrower. If the potential borrower meets the lender’s standards, the lender may offer them a mortgage.
Keep in mind that the more financially sound someone is, the more likely the lender will provide better terms for the borrower to make repayment. This is because the borrower will look more reliable to the lender.
When someone applies for a hard money loan, the lender might assume the potential borrower is in the property investment game. Lenders in this circumstance aren’t so bothered about looking at financials because it may seem obvious the potential borrower has money in what they do. Lenders will look at what collateral an applicant has to offer, and the potential for profit and success in the real estate project they are proposing.
One type of hard money loan you might have heard about is a fix-and-flip loan. These are loans for property developers to help them buy new properties, renovate them, and then try to sell them for a profit.
These types of loans may only require a small amount of interest paid for the duration of the loan. Then, on the assumption that the borrower sells the property they have developed, at the end of the loan the lender will require a large balloon payment to finalize the payback.
Hard money loans tend to be short-term with 12-24 month payback periods. However, mortgages can have a length of anywhere between 5-30 years or more in some cases!
Mortgages tend to have fewer options than hard money loans. The only other option you might have after the term length is whether the loan is an adjustable or fixed rate one.
The turnaround time for a mortgage can be lengthy. The reason for this is that banks tend to have stringent criteria that they follow with every application to ensure they only approve applicants that meet their standards.
With a hard money loan, the turnaround time to get one can be super quick. Since the lender won’t be so interested in the applicant’s financials, there’s just the collateral (often property) to contend with in the contract.
Fees and Interest Rates
Hard money loans have interest rates a little higher than mortgages in most cases. We’re talking at rates often around 6-12% give or take.
The reason for the high rates is that there are more risks involved in lending out these types of loans. For example, if a small-scale property investor tries to fix up a home but can’t flip it in time to pay the loan back, the lender might be out of pocket for some time.
Due to the way banks vet applicants with their stringent criteria, mortgages are a safer option than hard money loans for them as lenders. This is why they may offer lower interest rates of say 4-7% to their mortgage applicants.
Know Which Is Right for You
Know you know a lot more about the hard money loan vs. mortgage topic, you should have a good grasp of which is right for your needs. They tend to have specific purposes, as we described above. However, in some circumstances, you may be able to use one or the other to your advantage in an uncommon scenario.
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