Hard Money Loan Terms is a crash course in the basic terminology of the hard money lending business. Most of these key terms are found in various web sites when they discuss hard money lending. Having a basic familiarity with these terms will help new borrowers understand how we operate and make their online research go more smoothly. Either Kim or Bob at Montegra is happy to respond to any questions you may have.
Direct Private Capital Lender - A lender who has control of the funds and actually makes the loan. Private money lenders have the money and do not send your loan somewhere else. (See “Loan Broker” defined below)
Loan Broker - An intermediary who takes information from a prospective borrower and then contacts a direct lender, like Montegra, to pass on hard money loan information. Loan brokers do not control the funds. They typically charge a loan broker’s fee of 1% to 2% which the borrower has to pay them on top of the loan fees paid to the direct lender.
Loan Fee - Loan fees are often called “points”. They are the fees charged by the private money lender at the time of loan closing and are deducted from the principal amount of the loan. Do not confuse these loan fees with loan broker fees.
Loan to Value - A frequently used term referring to the ratio between the appraised value of a property to the amount of loan requested. This term is often abbreviated as “LTV”. For example, if a property has an appraised value of $1,000,000 and the lender states that they do not make loans over 65% loan to value, the maximum loan amount they will fund on the property is $650,000. Hard money lenders typically require loan to values that are under 65%. Montegra can fund hard money loans up to 75%.
Non-recourse Loan - Most loans closed by hard money lenders require a personal guarantee from the owner of the property and perhaps from other individuals with a greater personal net worth than the property owner. This guarantee means the hard money lender (like a bank or any institutional lender) has the right to go after funds for repayment of the loan. A “non-recourse” loan means that the lender does not require any personal guarantees for the repayment of the loan. This type of non-recourse financing is typical in life insurance company loans of over $10,000,000 but is not often found in the hard money lending world.
Cash Out Loan - A loan given to a borrower by a lender where the borrower already owns the property but wants to refinance it to take additional cash out to use for other business purposes. Banks typically are not willing to fund this type of loan while hard money lenders are normally open to this type of request.
Debt Service Coverage (DSC) - A frequently used term referring to the ratio between the monthly net income an income producing property makes compared to the monthly loan payment required under a loan. For example, if a warehouse is leased and produces monthly income of $1,100 per month and the monthly payment on the mortgage loan is $1,000 per month the property has a debt service coverage (DSC) ratio of 1.1. Almost all banks and institutional lenders require at least a 1.1 (and sometimes higher) debt service coverage ratio. Hard money lenders are more flexible about this type of requirement. Hard money lenders will often consider creating an interest reserve (see below) to help borrowers make monthly interest payments until their DSC ratio is adequate.
Interest Reserve - Hard money lenders frequently are open to considering the option of holding back funds from the loan amount funded to create an interest reserve. These funds can be used to pay all or a portion of the monthly income needed to service the loan until such time as a property can stand on its own feet. This type of interest reserve, normally not used by banks or institutional lenders except for construction loans, is particularly useful in cases where a property has a temporary high vacancy rate and gives the owner of the property time to find more tenants to increase the income. The total loan amounted funded (even it contains an interest reserve) still must fall within the hard money lender’s LTV criteria.
Commercial / Business Purpose Loan - A loan secured by investment or owner occupied properties such as warehouses, industrial buildings, retail shops, apartment houses, office buildings, or land that is used to build this type of property. All proceeds of this type of loan are considered business purpose and can be funded by a hard money lender.
Residential Loan - Business Purpose vs. Personal Purpose: Unlike federally chartered banks, private capital lenders are supervised by State and Federal regulatory agencies as to what kind of residential real estate loans they are allowed to make. There are two types of residential loans: business residential purpose loans and personal purpose loans (also called consumer loans). Examples of residential business purpose loans, or investment purpose loans, would be a house purchased for resale at a profit or a single family home, duplex, or fourplex used as a rental property. This type of loan can be done by a hard money lender under certain circumstances. Consumer purpose loans are frequently secured by mortgages on the borrower’s primary residence. Regulatory agencies specify that hard money lenders can not underwrite or fund personal loans when the majority of the funds from the loan are being used for a “personal, family, or household purpose” as opposed to a “business purpose”.
Term Sheet - A written summary document of the loan terms provided by a hard money lender to a prospective borrower. These terms include interest rate, loan fee, length of loan, renewal options and loan to value requirements. A term sheet does not commit the lender to fund the loan but merely describes how it would be structured.
Commitment Letter - A more detailed description of the terms and conditions of a loan given by a hard money lender to the prospective borrower after the borrower indicates that the terms will work for them. A Commitment Letter is more binding for both borrower and lender and frequently requires deposits for such due diligence items as appraisals. Borrowers are able to rely on the terms of a Commitment Letter. Borrowers will not encounter surprises at the loan closing.
