When it comes to lending on real estate, and pulling cash out of your equity, most people may turn to a big bank or lender to help them get the loan that they need. The process can seem vague and confusing, and the process itself can feel like a headache. This is because big banks and lenders follow very strict guidelines, set forth by regulatory agencies, to ensure that the “risk” of lending money is mitigated as much as possible. However, these lending guidelines – including minimum credit score requirements, and income history criteria, can be a barrier for many individuals. Plus, the time it can take to go through underwriting, to ensure all those boxes are checked off, is usually 30-45 days for a conventional or government backed loan.
This is why many people will turn to private lenders. Individuals, who have a large sum of money to invest in the market, will lend their own funds in a similar way to a bank or large lender – except that it is usually for a shorter period of time, and with different terms. A big bank or lender is able to sell loans on the secondary market, where mortgages change hands, if they need to free up their cash flow. Rarely does this happen with private lenders. Thus, the loan terms are usually 2-5 years, so that the investor is able to free up their cash flow in a reasonable amount of time and reinvest it. Furthermore, with a private lender, the mortgages created are usually not amortizing – meaning that during the time you are in the loan, you are not making payments towards principal. The interest rates with private lenders are also typically higher, as the investor is ultimately looking to make a return on their money. However, this does not mean that the monthly payment will be higher than a conventional or government backed loan. In a market with high interest rates, it may even be less expensive than more traditional loans.
A common misconception we hear, from people who inquire about private lenders, is that the lender WANTS the home to foreclose to take hold of the property. This is not the case, at least for the private investors we work with at Independent Home Finance Inc.. If you think about it from their perspective, they want to invest their money, make a consistent return, get their money back, and then put it into a new investment opportunity in a 2-5 year timeline. Foreclosures are ugly business, with court proceedings, large gaps of time where no return on their money is being made, and their initial investment being tied up for who knows how long. It’s a headache, and the investors are not in the business of buying and selling property – just lending on it. So, the idea of having to go through a foreclosure proceeding, losing income for many months, and then having to deal with the sale of a property through court proceedings, is usually an investors worst nightmare.
As such, private investors also carefully look over applications and individually decide if they want to lend on it. When we receive an application, before the loan closes, we usually find an investor who is willing to lend on it beforehand. Some investors prefer to lend on different properties, or like to lend on specific loan terms/lengths of time. Some prefer shorter loan periods, others prefer longer. As such, there is often more flexibility for our clients on qualifying criteria. Most private investors care about equity available, above anything else. In the current market of 2022, private investors have been tightening up the loan to value ratios they will lend on – as housing prices have been slowly tapering off. The current maximum loan to value ratios we have been seeing is 60%, meaning that the value of your home multiplied by 60%, is the maximum total loan amount. Some private investors are willing to do higher than 60%, but this is heavily dependent on the rest of the application – and whether or not that investor is willing to take on the risk.
Private investors usually lend on investment properties, but in some states, will lend on a primary residence if there is a business reason behind it. This can include using funds to start or grow a small business, or using the funds to invest in real estate such as the down payment on a rental property. If the private investor is lending on an investment property, you need to have a primary residence that is not the investment property – which can be proved with billing addresses to the primary residence, ID’s that have the primary residence, or other similar documents. Exceptions to this would be multi-family homes, such as duplexes, where one or more separate units are being rented out.
The process for a private investor, on real estate, is usually the following:
- Application, and initial disclosures. As many mortgages with private investors are stated income loans, there is less up front documentation typically needed. Initial disclosures are sent out, based on the information you provide, that give an estimate of loan terms and fees.
- Title and escrow are opened, and title will get to work on a preliminary title report – which will show any liens or judgements on the property, as well as verify ownership information. The statement of information is used to obtain the preliminary title report, and title may request a separate borrower’s authorization form to be filled out if they are requesting payoff demands.
- Appraisal is ordered, if it is needed. Appraisal waivers are sometimes obtained, if the loan to value ratios are low enough, but this is not very common. Instead, if the loan to value ratios are lower, sometimes we can utilize a broker price opinion instead of a full appraisal.
- Investor is found for the loan, which can happen at any point after the application and signed initial disclosures/intent to proceed is received.
- Appraisal is completed, and loan amount is confirmed. Title and escrow work on providing a tightened up settlement statement, which details out fees based on invoices from services provided (such as appraisal, title, and escrow services).
- Final documents are drawn, and a notary is ordered.
- Notary completes signing with you, and documents are shipped back to escrow.
- Investor wires funds to escrow.
- Escrow records the documents and new mortgage.
- Once recorded with the county, escrow disperses funds to you and all lien holders/creditors being paid off if applicable. Any unpaid services/fees are also paid, from loan proceeds.
This entire process usually takes 2-3 weeks, and from signing, a week to disperse funds. During your signing, you will typically have a form to opt to receive a wire or a check for the funds received. If you opt to receive a wire, the wire is sent at the soonest availability after the mortgage records. If you opt to receive a check, it will be sent out after recording and will be mailed to you. A wire is the fastest option, but some prefer a check instead.
Some private investors will use a loan servicing company, and others will instead receive the monthly payments directly. All payment information will be detailed in your loan documents, so it is important to keep those handy so that you know when your first monthly payment will be and where to send it. Staying on top of your payments, and ensuring that you are prepared to pay off or refinance the loan before the term ends, is very important with these private loans. As they are temporary financing options, before the loan term ends, you will want to start the process of refinancing or selling the home, depending on what your goals are. So, having good payment history, and building up your credit, will help you in those goals.
Usually, we recommend beginning the process of refinancing or selling at least 6 months before the loan term ends. That way, if there is any issue with refinancing or selling, there is a little bit of time to try to resolve it. If you are working with a brokerage, such as Independent Home Finance Inc., our loan officers specialize in multiple different types of loan programs, so we can help you look into your options when it comes time to refinance the loan.
Feel free to check out our website, for more information about loans with private investors, or to see what other programs we offer. Our team is always here to help if you have any questions, and to help guide you through the loan process.