Private lenders can be a great way to start your “fix and flip” real estate business. Typically, a private money loan is meant for short term lending purposes and then the property is either sold or refinanced. Private money lenders base their loan on the equity of the property and not the purchasers credit or income credentials. Private money lenders are typically a private individual or group, not an institution. When speaking with private money lenders it’s important to qualify them to find out what you can expect from them and what they expect from you. You’ll want to know the terms, the conditions and just how much they are going to be involved in your project. They will also have their own qualification process of you and your property but for now we will focus on the information you will want to obtain from your private lenders.
First of all, you will want to know the terms of the loan you will be getting from your private lender. Typically, the interest rate will be quite a bit higher than if you were to go to a conventional bank, don’t panic, as long as you run your numbers correctly and there is a profit at the end of things, this is a win-win for everyone until you can make enough profits to buy the property with your own capital. Also, make sure you ask if there will be any points charged in this transaction. It is very common for a private lender to ask for 2-3 points when the property is sold. These points are equal to 2-3% of the purchase price. This might seem like a lot but it’s all about running the correct numbers. Keep in mind that once you prove yourself to your private money lender, they may be willing to negotiate the terms of your next “flip” because they now trust that you will be able to renovate and sell the property and they want to keep you as a customer. The next thing you will want to know about the terms of your loan is how much the private lender is willing to lend to you. For example, they may be willing to give you 90% of the purchase price but you will need to come up with the final 10% as well as the rehab costs. In other instances, you might find a private money lender that is willing to give you the rehab costs for a higher interest rate and you will approach another source for the majority of the purchase price. You will also want to discuss if and when any payments will be due during this process. Keep in mind, because this is a private individual or group, they get to set the terms. Some will require monthly payments and others will not require a payment until a certain number of months have passed. It is imperative that you understand exactly what terms your private lender is giving to you, so that you can make sure you are running your numbers correctly and ensure you will make a profit.
Another thing you want to find out from your private money lender is what will happen if you go past the agreed upon number of months they are lending. In some cases, the interest rate will go up. Other times, payments with penalties included will begin. In the rare occasion that the property is not sold within the allotted time you need to know what your private lender is going to require. This is a rare situation but it’s better to have this conversation up front and know what needs to be done so that there are no surprises for either party if the situation arises.
The last thing that you want to talk about with your private money lender is how much they plan on being involved in your project. Some private money lenders want to have a say in the plans, the colors and the selling of the property. They feel because their money is involved they have a right to some of the decisions. Then there are other private money lenders that will quietly let you run the project unless they see a huge red flag and need to step in with their opinions. Either way, you want to prepare yourself for which type of “partner” you are teaming up with so that you will not be insulted if your private money lender wants to have a say in your project.
At the end of the day, a private money lender is an excellent way to get your foot in the door as a “fix and flip” real estate investor if you don’t have the capital yourself. Getting creative about using other people’s money to help you get started is a great option to begin this process. There are a lot people out there with money that want to make their money grow and you want to make your new “fix and flip” real estate business grow. By using their money to start your business, it’s a win-win for both of you. Just make sure you communicate clearly the terms, the conditions and what expectations you have of each other so that the relationship can continue through many more projects.