Hard Money 101

Hambright: Hey, it’s Mike Hambright with the all-new FlipNerd.com. Welcome back for another exciting expert interview where I interview successful real estate investing experts and entrepreneurs in our industry to help you learn and grow. If you haven’t joined FlipNerd.com yet, you can get a free account in about a minute. We have well over a hundred wholesale deals listed on the site right now and expect that to be in the thousands as the months roll through here, but more and more added every day. So go check out FlipNerd.com
Today I’m joined by my friend Mike Hanna. Mike is a real-estate investor and hard-money lender right here in my market in the Dallas-Fort Worth area. He’s a long-time real estate investor, has been a hard-money lender for about 10 years and between his investing and lending businesses he’s been involved in over 1,000 transactions. Mike prides himself on building solid relationships with his clients and has a very hands-on approach to his lending business and to his relationships.
Today we’re going to have kind of a “Hard Money 101” interview which we actually haven’t had before. After all these interviews, it kind of hit me that we haven’t really had that before. So Mike’s going to share more about what hard money is, why it makes sense, how to use it wisely, what to look for in a lender and a number of other things in that space.
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Hey, Mike, welcome to the show.
Hanna: Thanks for having me.
Hambright: Glad to have you on, my friend. It’s going to be interesting to talk about hard money. Hard money, obviously, is very prevalent in real estate investing and there’s a lot of benefits to using it. There’s a lot of reasons why people use it. It’s just funny that after all these shows, hundreds of shows, we’ve never really talked straight up about hard money and how to use it wisely and all those things. So I’m excited to cover that with you today.
Hanna: Great. I’m excited to talk about it.
Hambright: Mike, before we get started, for those who don’t know you, or don’t know you as well as they need to maybe, why don’t you kind of tell us your background and how you got started as a real-estate investor, maybe what you did before that and what you’re up to these days.
Hanna: Sure! I got started in real estate in 2002 just as an investor buying rentals. Before that I was in the technology space. I was in software sales. I was in software one way or the other since I got out of college. I always had an interest in real estate and after 2000 when the stock market crashed, I decided I’m not going to put any more money in the stock market, I’m just going to focus on learning about real estate investing.
In 2003 I had a series of events that happened in my life that all came together at one moment, which is my wife and I, we moved to another house with our three-year-old daughter. We moved in and then the next day I went to work and lost my job. And then, three days later, my wife told me she was pregnant with our second daughter.
Hambright: Oh wow.
Hanna: So I knew I needed to make something work. I did not want to go back to the technology space and I decided that I was going to try to do real estate full time. I didn’t know what that meant. I didn’t really have a plan. But I started doing more deals and eventually just went on my own and started buying some deals that I could wholesale or getting into wholesaling and buying more rentals.
Hambright: Sure.
Hanna: I wanted to build a rental portfolio and have passive income.
I got started in hard money, really, by accident. I was buying some deals from a friend, or a guy that I met, he was a wholesaler, and he asked me if I could help him close a deal and if I could loan him the money. I said “Sure, I’m happy to help you do that.” He goes, “Well, I’m going to pay you just like hard-money lender.” I said, “Well, what’s a hard-money lender?” He starts explaining it to me and explaining to me how he borrowed money from somebody and how it worked.
So one thing led to another and I loaned him the money and then we did some more deals. Then other people found out about it and I turned it into a business. The great thing about it is that I’ve been able to help a lot of people and enable their success. I’ve tried to put a team around me here that works with me that helps do the same thing. Everyone has real-estate investor experience and we’re here to help our clients succeed in the real-estate investing business.
Hambright: That’s great. Maybe take a minute to talk about, as the market kind of gets hot here again, it’s starting to feel a little bit like 2006, 2007 again maybe in some ways. I know what happened before the last bubble burst. First off, everybody and their brother became a real-estate investor. But, seemingly, everybody and their brother was also a lender and people were getting sloppy. They were not doing appraisals, just lending off of tax value. I’m sure you’ve seen all sorts of weird things.
Hanna: Oh, yeah. Absolutely.
Hambright: And I’m not trying to knock anybody here but you get a lot of people that become lenders that are just, either have access to capital or maybe they’re financial people, but they weren’t real estate investors, so they didn’t really understand. They just saw, “Wow, I can lend money and make this type of return. I’m going to jump into it.” When I borrow money, I certainly appreciate having access to people that understand what it is I’m doing, understand my business. So maybe talk a little bit about the difference between a lender that is also a real estate investor and a lender that is just a financial person.
Hanna: Absolutely.
Hambright: That’s deep, Mike. Deep thoughts.
Hanna: Somebody without any experience, just doing loans, I think you take on a tremendous amount of risk because, as you know, as a real-estate investor, when you get into a deal so many things can go wrong. Especially if you don’t do your due diligence up front, by inspecting the property, doing appraisals, and really getting a handle on the actual value of the property in the deal you’re about to do.
I think one of the big reasons why hard money is such a viable niche that we’re in, is even people who are very, very qualified to go get a loan from a bank would much rather use hard money because a hard-money lender, most hard-money lenders have some experience in the real estate investing business, where your banker, typically, doesn’t have that and they’re not going to bring that level or experience or value to the equation.
They’re also not going to loan you based on the value. They’re going loan you based on, usually it’s the cost of the property, usually it’s the lesser of the two. So I think that’s the big difference in having someone that’s experienced and having someone that’s not.
Hambright: Maybe take a few minutes and talk about hard money, what it is, how it compares to traditional bank money. Or just, at a high level, like we’ve never heard about it before, maybe tell us what hard money is or what it means to you.
Hanna: Sure. Hard money is actually a term that, I think it came out of the ’50s. It has this weird name cause it sounds very difficult and onerous and it’s actually just the opposite of that. It’s very easy to obtain in most cases. It is higher interest, most people know that. They think, “Hard money, wow, you’re charging in double-digit interest rates,” But there’s a risk component to it, and we’re not loaning the money for 30 years where we’re going to capture all this interest. It’s just for a short period of time. So, I think to define hard money, I’d say it’s a shorter term, higher interest, it’s a primarily asset-based loan designed to give someone the money for the purchase, as well as for the repairs. So that’s sort of hard money in a nutshell.
Hambright: Yeah, and if you’re using it to purchase real estate, if you’re an investor and you’re purchasing it at a discount it’s very flexible, right, in terms of, being able to fund repairs and other things that a traditional lender may not be able to do. Certainly traditional lending like Fannie and Freddie type loans, there’s generally not a lot of opportunity for funding repairs, right?
Hanna: That’s exactly right. You can’t go get a 30-year fixed-rate note from Fannie Mae or Freddie Mac or any conventional type product where the property needs repairs. And when we’re saying repairs, we’re talking if the hot-water-heater’s missing, or something very, very minor could trigger them not approving the loan.
Hambright: Absolutely.
Hanna: In some of the properties where you have the most equity in a deal, those are going to require extensive amounts of repairs, as you know. So that’s where you’re going to want to use hard money. It might make sense to talk about reasons why people use it.
Hambright: Absolutely.
Hanna: I think there’s three reasons. One is leverage. You get to leverage more of your money by using somebody else’s money. The other thing is, these deals that we’re working on, they go fast. There are wholesalers selling deals now where, hey, we’ve got to close this week. You can’t do that with a bank. You can’t do that even with most bank lines. You’re not going to close a transaction in a one-week time period. It’s going to take 30 days in most cases. So that’s why hard money is so much more flexible, as you mentioned.
The other thing is you’re going to get to put an expert set of eyes on the property. That’s really why we have clients that we’ve been doing business with for years now. Hey, they feel very comfortable doing the deal but they want someone else to look at it as well, put their eyes on it. We get an appraisal on every property. A lot of hard-money shops don’t do appraisals, we think that’s a big mistake.
The biggest reason why you want to do an appraisal is you really need a third party to come in and assess the value of the property. The first thing an appraiser does when they go out to the property is they’re going to measure it. I mean, 20% of the tax records are wrong on square footage. Why would you take that risk? You think a property has 2,000 square feet, comes back, it has 1500. That’s going to have an impact on the value. So you really want to do that. There are other reasons why you want to do it as well, but I think those are the three big reasons to use hard money.
Hambright: I guess in terms of, from a partnership standpoint, while some people that want to borrow money may be concerned that you may not see the value that they do. The reality is is that you’re in the business of giving loans, so you want to give a loan. But you’re not going to take on excess risk or allow your clients to take on excess risk because that’s not good for either one of you.
Hanna: Absolutely. And we turn down a lot of transactions because the deal just absolutely makes no sense where the borrower’s going to lose money in the deal. Sometimes until you put it on paper, they don’t really see that. We do what’s called a deal analysis for our clients. If they bring us the after-repair value, the purchase price and the repair amount, we plug that into our software and if you’re going to sell the property it’s going to tell you what your out-of-pocket costs are going to be and it’s also going to tell you your profit potential.
If you’re going to rent the property, it’s going to give you your cash-on-cash return, cash flow, equity. It’s going to be based on current mortgage rates that our affiliates that we work with, they give us what the market rate is for a 30-year note on an investment property. We plug that in and we give them those numbers so they know what their returns are before they get into closing the deal.
Hambright: We talked a little bit about how it’s fast. I think one of the challenges that a lot of people buying rental properties have is that, if there’s a wholesale deal available, they need to move fast. In my experience, if we have a good wholesale deal that we’re selling as an investor and we put it out there and it’s priced right, it generally doesn’t make it more than a few hours.
Hanna: That’s right.
Hambright: People just come out of the woodwork. But if someone wanted to keep that as a rental and they wanted more of a long-term type loan, it’s going to take longer than that. So they are usually able to use hard money as kind of a bridge to that long-term financing. Is that right?
Hanna: That’s exactly right.
Hambright: I know you do a lot of that, too. So talk a little bit about how that process works, basically using hard money as a bridge to get to the long-term financing.
Hanna: The key thing with rental properties is you’re going to have get the property fixed, first. Get it repaired. When you’re going to go into a 30-year note, what we do, when we get your application in, we’re going to see what your exit strategy is. If it’s to keep the property as a rental, we’re going to make sure that you’re approved for the permanent financing first. That’s the most important thing.
If you don’t already have that in place, then we can securely and electronically send the application that you filled out with us over to one of our affiliate lenders that does 30-year notes. We don’t do the 30-year notes, we just do the hard money piece. We can send it over to them, they’ll get you approved for the conventional loan and then that automatically approves you for our loan. So that’s how that financing works on that end.
Hambright: But the biggest reason that people would use that is because that long-term lender, one, it’s going to take longer, two, they’re not going to likely fund any level of repairs, and so, you can get that done and then present it to them and say, “Hey, it’s already repaired, maybe already has a tenant in it, or it’s on the market to rent,” and that type of lender that’s looking at the finished product, it’s just a different lens they look at properties through. Rather than what the property can become, they want to look at it as what it is.
Hanna: Absolutely. There’s actually going to be two appraisals in that type of transaction. Up front, we’re going to do our appraisal on it and make sure that what the after-repair value that you think you’re going to get is exactly what it is. Then we want to make sure that that after-repair value is the same when you get into your refinance loan. There’s going to be two different appraisals and more than likely two different appraisers that are going to be doing that analysis.
The key thing, and I would say this is one of the most important things you can do in that situation when you’re going to be refinancing, is don’t cut any corners on your rehab. If you said you’re going to put granite counter tops in and you’re going to put laminate flooring in, make sure you do that, because that’s going to have an impact on the value, especially if the appraiser’s already told us that ahead of time. All we want is for that second appraisal to come in at the same value that we assessed it at, or higher than the estimate. You go into your closing and you’re not bringing a lot more money to the table on your refi.
Hambright: I know one of the other benefits of traditional hard money is, and you mentioned this kind of in passing, one of the benefits that a lot of real estate investors see is if they purchase the property right, I know you have a certain loan-to-value you’re willing to go up to, but if they purchase it really well, they could potentially have no money out of pocket for the purchase or the repairs or very low amount of money, is that right?
Hanna: Yes, that’s absolutely correct. Whether you’re going to keep it as a rental or if you’re going to flip the property, we’re one of the lenders that would allow what we call 100% financing in the deal because the deal’s because the numbers are at or below our loan to value.
Hambright: For folks that are listening, if this sounds unusual to you, it’s a reality that a lot of banks . . . I borrow from a few local banks here, especially for rentals and their underwriting requirements, probably through the Fed, is that they have to equate value to purchase price. So even if it’s a $100,000 house and I purchased it for $40,000 let’s just use an extreme example, they say that the value must be $40,000 and therefore we’ll lend 75% or 80% of that because they can’t impute value based off of an appraisal even if we all know that it’s worth a lot more than it is, they have to say that the lesser of the appraised value or the purchase price is the real value.
Hanna: You hope that the purchase price is less than the value.
Hambright: Of course, yeah. But then they’re only willing to typically finance a percentage of that. Usually 75%, 80% potentially.
Hanna: Most banks that we see are loaning at, they’re going to require you to put 20% down of the cost of the property. So you’re sitting there, you’re bringing $8,000 plus your closing costs to the table.
Hambright: Right. Yep. Talk a little bit about, especially for newer investors, a lot of people that start using hard money, they just assume, and I know you help keep them safe, but they just assume, “Yeah, it is what it is, I need the money, I’ve got to do this,” and they tend to get themselves maybe in a position where they could potentially lose money or make very little. So I think there’s a tendency for some people to not use it very wisely.
I know that not all lenders are like you either, where they have a higher level of hand-holding and making sure that they stay safe and kind of walking them through, “If all your assumptions are right, here’s what you probably are going to make on that deal when it’s all said and done.” But talk a little bit about some of the ways you see people are not using hard money wisely and how people can use it a little more wisely.
Hanna: I think not using it wisely would mean you’re doing a lot of guesswork, and that would be really in two areas. One is on assessing the value. You’re looking at comps and you’re really not looking at the right comps. Your lender says, “Well, I’m not going to do an appraisal on it. We base it off of a desktop review and that’s a huge risk because, like I said, square footage could be wrong, there could be some anomalies that the house has or some obsolescence that the house has — that’s a better word — that would prevent the value from being what you might think it is. So there’s a lot of risk on that side of it.
You go out there and there’s power lines in the back of the house, like high-tension cables. Or we’ve seen one house where it had the high-tension cables and it also had a railroad track like right next to it. So those are things that are really going to have a tremendous negative impact, or a power station behind the house. Or sometimes houses, they back up to commercial. Not doing an appraisal is a huge mistake because you’re not going to capture some of those things that are going to prevent you from misinterpreting what the real value of is of the property.
Second would be the repairs. That’s where most of the problems lie on the hard money side is. You get into a situation where there’s some hiccups. You didn’t account for plumbing work, you didn’t account for the foundation to be as bad as it really was. So you’ve got to do that due diligence. You’ve got to get those contractors in there and professionals in there to assess what that is and put a real number on it. Don’t do any of that guesswork yourself and try and get the deal closed real quickly.
Your hard-money lender is more than likely going to make sure that that doesn’t happen, but if you get in one of these situations where you’re bringing a lot of money to the closing and they’re just comfortable moving forward then, really, you’re taking on a lot of risk. I think the hard-money lender is taking on some risk, too, because there’s going to be some unknowns, but if you have a lot of skin in the game, be sure that you’re protecting yourself by doing that due diligence up front.
Hambright: It’s funny when you were just describing that because I have one of those houses right now. It has power lines behind it, you know, the big power tower ones and, and then it backs up to the tollway.
Hanna: Oh, my god!
Hambright: We knew all that when we went into it and we kind of priced it accordingly and it’s in a great area. You would know it well, and, very literally, we have the house listed now for $425,000 or something like that, but literally, a few houses in, literally, if we went in five houses on an adjacent street there, people will buy houses for $500,000 or $600,000 and scrape the lot and build a million dollar house. It’s so different in just a few houses because we back up to those things.
Again, we factored all that in and we knew it when we bought it. But if you’re just doing desktop appraisals and if you don’t even really know the area, you don’t look at it that closely, there’s some things that could cause . . . we call them white elephants, but everybody knows it’s a problem but you just are blind to it. But they could really wreak havoc on your ability to make a profit on a deal.
Hanna: Yeah, there’s no question. I think another thing is, properties that are on corners. They’re on a hard corner, or they’re facing a busy street, or they side to a busy street, like a six-lane through street. Those are other things to watch out for when you’re doing a deal, because they can still be great deals if you buy them right, but they can also hit you
Hambright: You have to factor it all in.
Hanna: What’s that?
Hambright: You have to factor all that in.
Hanna: You have to factor it all in. That’s right.
Hambright: Well, Mike, maybe take a few minutes to talk about what people should look for in a lender. You lend here in the Dallas-Fort Worth market and kind of central and north Texas, I know, but people watching the show are all over the place. What should they look for in a hard-money lender, besides the obvious stuff of rates?
Hanna: Yeah, I think you should try to stay away from looking solely at what the rates and fees are. Most lenders, not all, but most of them are pretty competitive. Even if you see a cheaper rate, it usually means they’re hitting you higher on the fees. That’s just pretty common.
What you want to look for is a lender that has a lot of experience as an investor, and that their team, the people that they’re surrounding themselves with, that they have experience as real estate investors. That’s where you’re going to get the most value out of your deal. That’s what’s going to enable you to have more success as a real estate investor is finding a lender like that.
Hambright: Okay. Where do they find those people? Where would you suggest people that are . . . there are some obvious places REA clubs and stuff like that… but how do you find hard-money lenders in their market, outside of REA clubs and events?
Hanna: Sure. You know, networking with other real estate investors and getting referrals from them, like, “Who did you use? How was your experience?” That’s probably the most important thing that you can do is find somebody who’s used that lender before because that’s really where . . . all the advertising that they do, doesn’t really matter. Find somebody’s that used them and look for their reviews. If they have reviews on their website or testimonials things like that, that’s what you want when you’re looking for a lender and just what’s their experience level in the business.
Hambright: Yeah, absolutely. They can even have reviews on Flipnerd.com, by the way, now. I’ve got to pump in the shameless plugs whenever I can.
Hanna: That’s right.
Hambright: Fantastic. So any kind of final words? We have a few minutes more here on just what hard money means and if people haven’t used it in the past, why they should consider it.
Hanna: Yeah. Don’t be afraid of it. It just has a strange name. It sounds like it’s difficult; it’s really not – it’s very easy. Just get online and start searching for hard money lenders, read about what they’re doing. Don’t be afraid to use it because it’s a powerful tool. Like I said, we have clients that we’ve done business with for many, many years and you would think it’s not common but it really is. I just want to encourage everybody to look at it from that perspective.
Hambright: Yeah, sure. Absolutely. Awesome, Mike. Tell us how folks, if they’re in the north Dallas area, or the central Texas area, or I guess anywhere for that matter and they want to learn more about you or talk with you about hard money, where do they go?
Hanna: Sure! Go to InvestmarkMortgage.com — it’s I-N-V-E-S-T-M-A-R-K Mortgage.com or you can go to IMHardMoney.com. That’s the best place to go to learn more about us.
Hambright: Awesome, Mike. Thanks so much for your time. It was good to see you, my friend.
Hanna: Same here, Thank you.
Hambright: I appreciate you and I’m sure I’ll be talking to you soon.
Hanna: Sounds good.
Hambright: Have a good day.
Hanna: You, too. Take care.
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