Private Lending is your opportunity to become the bank and earn the higher interest rate (or higher) that the bank is earning on your money (i.e. saving, CD or Money Market accounts). It’s your opportunity to eliminate the middleman and increase your returns.

Typically, private lenders receive interest ranging from 8% to 12% on the funds they lend. The specific rate is determined by several different variables and preferences. It varies depending on the lender's preference for monthly, quarterly, or deferred payments, which may occur upon the sale of a property. Whether they’d like a secured or unsecured funding option.

Real estate investors commonly secure funds at interest rates ranging from 8% to 12%, prioritizing the rapid availability of capital over its cost. Investors, like us, specialize in acquiring distressed properties at substantial discounts, aiming to renovate and resell for profit. Traditional banks, with their lengthy evaluation processes, pose a challenge as they hinder swift property acquisitions. Speed is paramount in real estate, and delayed funding from banks can result in missed lucrative opportunities for investors. While the higher interest rates paid to private lenders may seem like a sacrifice, it establishes a mutually beneficial arrangement. Lenders have the opportunity to earn significant returns secured by valuable real estate deals, while borrowers, typically real estate investors, can maintain a profitable business without the limitations imposed by traditional banks.

It is fairly simple to evaluate the risk and the potential opportunity of a Private Money loan. Let’s discuss the most important things to consider when doing a private money loan.

1. Loan-to-Value:

Real estate investors purchase properties at significant discounts and secure loans well below the market value of the property used as collateral. When evaluating a lending opportunity, the primary consideration is the equity in the property, typically measured by the loan-to-value (LTV) ratio.

To compute the LTV, start by determining the After Repaired Value (ARV) of the property under consideration. This can be determined by reviewing comparable properties provided by a real estate agent or a property appraiser.

Once the ARV is established, factor in the estimated fix-up or repair costs, usually provided by the real estate investor seeking the loan. If there's uncertainty about the accuracy of the estimate, it's advisable to request a bid from a licensed contractor. With the ARV and repair estimate in hand, move on to the next step.

Consider the purchase price of the property as the third component. Armed with these three figures, calculate the total LTV, ensuring it does not exceed 70%.

MAXIMUM LTV (Not to Exceed) = 70%

Example:

Purchase Price + Repairs = Loan Amount Loan Amount divided by ARV = LTV%

Given data:

• ARV: $250,000

• Repairs: $50,000

• Purchase Price: $125,000

Calculations: $125,000 + $50,000 = $175,000 Then, $175,000 divided by $250,000 = 70% LTV

If your loan aligns with the 70% LTV formula, your risks are minimized, and it's likely a sound private money loan. Keep in mind, your primary security (safety net) lies in lending significantly less than the property's actual worth. Consequently, the higher the LTV, the greater the perceived risk associated with the loan. Traditional banks, such as first mortgage lenders, typically extend loans up to 80% LTV or even higher. However, as a Private Lender, it's usually in your best interest to consider lending at a lower LTV, preferably capped at 70%.

2. The Borrower (Real Estate Investor):

Another crucial factor to consider when engaging in a private money loan is the level of experience possessed by the borrower, particularly the real estate investor. The greater the experience and success of the investor, the more secure your investment as a lender. Accomplished investors can provide a track record showcasing their proficiency in managing renovations, construction, budgets, timelines, marketing, and sales. Lending to an experienced real estate investor significantly mitigates inherent risks associated with the investment.

An adept real estate investor will procure a Comparative Market Analysis (CMA) from a licensed professional real estate agent to ensure that the Loan-to-Value (LTV) ratio is at least 70%. Alternatively, another option involves obtaining a professional appraisal conducted by a licensed property appraiser. A CMA or appraisal serves as a written estimate of the property's fair market value in a renovated state. Typically, the real estate investor will arrange for this report, which should be provided to you without any cost.

By securing an estimate of the after-repaired fair market value, both you and the real estate investor gain access to crucial property information. This report plays a vital role in ensuring that both parties are well-prepared to manage the private money loan effectively. In certain situations, especially when collaborating with an experienced real estate investor and their team of licensed sales agents, a comprehensive CMA may be considered sufficient instead of an appraisal. If there are any uncertainties regarding the validity of the value estimate presented to you, it is advisable to seek a detailed explanation from the real estate investor. Additionally, if needed, you can enlist a third-party real estate agent to conduct a "spot check" on the property's value and provide their best estimate.

Before committing to a loan for real estate investment, it's crucial to establish comfort and confidence in the investor. Inquire about their past projects, requesting before-and-after pictures for verification. Obtain a construction scope of work and estimate to ensure the work is up to code and will be completed within a reasonable timeframe. While inspections are valuable, focus on structural and foundation issues in distressed properties. Experienced investors may handle foundation and roof assessments, but a third-party inspection is advisable, especially for less experienced investors. The investor should demonstrate a clear plan for construction, and any third-party inspections should be at their expense.

Remember, it is the job of the real estate investor to show you the deal is good. It is not your job to work hard and figure it out on your own. If your real estate investor doesn’t have the system or ability to earn your confidence and clearly show you what construction is going to be done, what the condition of the property is in the distressed state and how they are going to get the property repaired, you may want to reconsider making the loan.

The approach varies. Successful real estate investors strategically incorporate profit centers into each deal to sustain cash flow for their business operations. Running a thriving real estate investing business involves expenses, and these investors typically establish additional profit centers in various stages such as acquisitions, construction, management, and sales. This diversified approach helps cover overhead costs and ensures a steady cash flow, contributing to the overall success of their real estate ventures.

This is something that you as the private lender want your real estate investor to do.

Why?

The longevity of a real estate investor's success is contingent on their ability to generate consistent profits and run their business efficiently. When extending a private money loan, it's crucial to partner with investors who possess the skills to make money, operate their business profitably, and maintain a steady cash flow. Cash flow is vital for the sustainability of any business, and a lack of it poses a risk of business failure. As a private lender, it's essential to lend to real estate investors who understand how to establish regular and repeatable income streams, as this significantly enhances the likelihood of success in the lending partnership.

When a real estate deal is finalized, two types of title insurance are typically issued: an Owners Policy and a Lenders Policy. These insurance policies serve as safeguards for owners and lenders against potential title-related issues that may arise despite careful research. Even in cases where a closing is executed meticulously, unforeseen title problems may emerge in the future. Both the property owner (with the Owners Policy) and the private lender, like yourself (with the Lenders Policy), are protected against such defects.

While traditional banks routinely include a Lenders Policy as part of their extensive closing instructions, it is often overlooked in private money loans due to their cash nature. However, having an insured title through Owners and/or Lenders Title Insurance Policies is crucial. It shields against potential challenges to title legitimacy and safeguards the rights of the insured parties. The insurance company bears the costs associated with resolving any title-related problems, and any losses resulting from title defects are covered within the policy limits.

Title insurance is secured through a one-time premium paid at closing, transferring the risk of title defects to the insurance company. This is particularly significant because, despite thorough title research, certain elements may be overlooked, misinterpreted, or fraudulently conveyed. With a Lenders Title Insurance Policy, you are provided with valuable protection. The advantages for you, as the private lender, when the real estate investor obtains title insurance include no-fault recovery of loss, coverage for claim costs to rectify defects, and comprehensive protection, even in cases of neglect by the closing agent or attorney. The reasonable one-time premium for title insurance can be covered by the real estate investor, making it a prudent investment for enhanced security in your lending transactions.

Property casualty and fire insurance are essential components of real estate investment transactions, providing protection in the event of loss or damage to the property resulting from various events such as fire, lightning, explosion, earthquake, impact collision, riot, theft, malicious acts, and subsidence. It is crucial that the insurance policy is configured to cover vacant property, although this entails a higher cost compared to traditional landlord policies due to increased risk for the insurance company. Premiums are typically paid for a minimum of the first three months and then quarterly thereafter.

A comprehensive real estate investor considers this insurance cost in their evaluation and presentation of a potential property for private loan consideration. Once construction is completed and the property is sold, the policy is canceled. It's important to be named as the Loss Payee on the policy, allowing you, as the lender, to activate the policy if it expires, maintain coverage, and charge the expense back to the real estate investor.

The risk is significant if there is no insurance in place and the property suffers a catastrophic event, leading to substantial loss. Ensuring insurance coverage is in place is imperative when making private loans, providing a crucial layer of protection against unforeseen circumstances.

As a private lender, you possess specific rights if your borrower defaults on payments. Typically, you have the options to:

• Call the loan due and demand full repayment in advance (accelerate payment)

• Initiate foreclosure proceedings and take possession of the property

• Pursue legal action against the borrower

The process of collecting on a defaulted loan varies in each state, and it is crucial to engage the services of an attorney to navigate the foreclosure process accurately and in compliance with state laws. This ensures that you protect your loan in the most cost-effective manner possible.

If legal action is initiated, and the borrower wishes to reinstate the loan, it's important to have terms outlined in the Promissory Note. This should clearly state that all attorney fees, interest payments, and penalties are due for reinstatement, preventing any ambiguity in the foreclosure proceedings.

Once legal title or possession of the property is obtained, the advantageous low Loan-to-Value (LTV) ratio allows for a swift sale of the property at a discount, facilitating the recoupment of your loan funds. Having a well-defined legal and financial strategy is key to navigating the complexities of loan default scenarios as a private lender.

Your closing agent has the capability to draft an "Assignment of Rents," a document that can be signed by the borrower during the closing process. This document can typically be created at minimal or no additional cost. The Assignment of Rents serves a valuable purpose by granting you the authority to collect rental income directly, should the borrower default on the loan. This added layer of protection ensures that, in the event of default, you can assume control of the rental income, providing a means to offset potential losses and protect your interests as a private lender.

For an unsecured loan, you’ll only need a Promissory Note. A Promissory Note, signed by the real estate investor, serves as evidence of their commitment to repay your loan. This document outlines repayment terms, duration, interest rates, payment schedule, and other pertinent details.

For a secured private money loan, two essential documents establish your loan terms and security. Firstly, the Promissory Note. Secondly, the Mortgage or Deed of Trust is signed by the real estate investor and recorded in the public records by the closing attorney or title company. The choice between a Mortgage or Deed of Trust depends on the state's legal framework—some states use mortgages, while others use deeds of trust.

It's crucial to clarify that a "deed of trust" is distinct from the Deed. The Deed is the proof of ownership recorded in the public records, demonstrating the real estate investor's ownership of the property.

The Deed of Trust is a separate document recorded along with the Deed, indicating that you have invested money secured against the property. It serves as a safety net; in the event the real estate investor sells the property, the Deed of Trust remains on record, notifying the public that you are owed money and have a legal claim to be repaid. This dual documentation system ensures a clear and legally enforceable structure for your private money loan.

For an unsecured loan, your money will go from your bank account directly to the business in the form of a cashiers check or a wire.

For a secured loan, your money will go from your bank account directly to the closing agent (attorney or Title Company) in the form of a cashiers check or a wire. The real estate investor will not touch the money until after all of your funds have been properly secured by the real estate. The closing company will assure that this happens.

At closing, the closing company will make sure that the real estate investor signs the Promissory Note, the Deed of Trust and that everything gets properly recorded and documented.

You will be added to a slack channel that will provide regular updates on the project.

Otherwise, you can enlist the services of a real estate agent, property inspector, appraiser, or another professional for a fee of around $25 to $35. These individuals can visit the property, take photos, and provide you with timely updates. This approach ensures efficient and reliable monitoring of your private loan, allowing you to stay informed about the progress of the investment.

To facilitate the final payoff of your loan, a pay-off letter will be prepared. This document, drafted by either you, your attorney, or the real estate investor (subject to your approval), outlines the final payment details for your loan. The pay-off letter is then submitted to the closing company responsible for managing the refinance or sale of the property. This enables the closing company to collect and disburse funds directly to you during the closing process. The pay-off letter is a crucial component in ensuring a smooth and transparent conclusion to the loan agreement, providing clarity on the financial aspects of the transaction.

Here’s an example of how the numbers on a typical private loan will work:

1. After Repaired Value (ARV): $150,000

2. Estimated Repairs: $20,000

3. Purchase Price: $75,000

4. Closing / Holding Costs: $5,000

5. Total Private Loan: $100,000

6. LTV: 67%

7. Loan Terms 10%: ($833/month)

8. Loan Length: 12 months

9. Total Interest Paid to You: $10,000

10. Your Total Payoff: $110,000

So, in this case, you made a $100,000 loan to a real estate investor. The real estate investor paid you 10% annual interest rate on your money and the loan was out for 12 months. Each month you earned $833 and after 12 months, you were paid $110,000 for your initial $100,000 loan.

Certainly, the real estate investor was able to generate a substantial profit even after paying a high interest rate for the private loan and securing the money against the property throughout the entire transaction. This success was a testament to the mutually beneficial nature of the deal. Following the closing of this private loan, the private lender engaged in another transaction with the same real estate investor, earning a comparable high interest rate and fostering yet another win/win arrangement. This underscores the potential for ongoing successful partnerships between private lenders and real estate investors in a continuous cycle of profitable deals.