What is it about financial services that aggravates you the most? For many investors new to the hard money game, it is the words our industry uses. Suffice it to say that the financial sector has its own lingo. If you don’t know what certain terms mean, you could end up approaching a deal without the confidence that you’re doing the right thing.
We do not want any of our clients to come into a deal with a ‘deer in the headlights’ look. We want them to fully understand everything they do. We want them to understand every decision they make, every obligation they agree to, etc. But for that to happen, they have to know the language.
A single blog post is by no means enough to teach newbies everything they need to know. But we can get the ball rolling. To that end, here are the top five hard money terms that every newbie should know:
1.Loan-to-Value (LTV) Ratio
We lenders rarely offer 100% of the funding clients need. Doing so is too risky. Instead, we try to mitigate our risk by requiring customers to at least put up some of their own money. We want them to have skin in the game. Determining the amount is left to something known as the loan-to-value (LTV) ratio.
LTV is essentially a percentage of the total amount of funding needed to close a deal. In the hard money arena, it is usually determined by the value of the asset being acquired. Perhaps it’s a piece of investment property with a sale price of $200,000. If Actium Partners offered you a 50% LTV, the maximum amount we would be willing to loan would be $100,000. That amount is 50% of the asset’s value.
2. Asset-Based
Hard money lending is asset-based lending. These means the the borrow offers an asset to back the loan as collateral. Unlike banks, that make their lending decisions based on the strength of the borrower’s financial position, we make our decisions based on the strength of the asset – which is usually the property being acquired.
3. Points
Points on a hard money loan are similar to those on a traditional bank loan. They represent a fee charged for loan origination. Points are determined as a percentage of the loan amount, with each point being equal to 1% of the value of the loan. Charging five points on a $100,000 loan would result in a fee of $5000.
4. Maturity Date
All hard money loans come with set terms. Those set terms include a maturity date. What is the maturity date? It is the date when the total balance of the loan is due. Some hard money loans are structured as installment loans with the maturity date being the date of the final installment. Others are structured as interest-only loans. Borrowers pay only the interest month-to-month, then make a lump sum principal payment on the maturity date.
5. Exit Strategy
An exit strategy is the borrower’s plan for repaying the loan. The strategy could be selling the acquired asset after improvements have been made. It could be acquiring traditional financing in the months following asset acquisition. The most important thing about the exit strategy is that it has to be viable.
As a borrower, it is important that you fully understand what you are doing before you obtain a hard money loan. If that means you have to learn the hard money language first, then learn it. You will save yourself a lot of headaches just by knowing what you are agreeing to.
