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Hard money lenders structure loans based on a percentage of the quick-sale value of the subject property. This is called the Loan-to-Value or LTV ratio and typically hovers between 60-70% of the value of the property. For the purposes of determine an LTV, the word "value" is defined as 'today's purchase price'. This the amount that a lender could reasonably expect to realize from the sale of the property in the event that the loan defaults and the property must be sold in a 1-4 months' time. This 'value' differs from an MAI appraised value.
Below is an example of how a commercial real estate purchase might be structured by a hard money lender:
65% Hard Money Loan (Bridge Mortgage)
20% Borrower equity (cash or additional collateralized real estate)
15% Seller carry back loan or other subordinated (mezzanine) loan
Hard Money is a term that is used almost exclusively in the United States and Canada where these types of loans are most common. In commercial real estate, hard money developed as an alternative "last resort" for property owners seeking capital against the value of their holdings. The industry began in the late 1950s when the credit industry in the US underwent drastic changes (see FDIC: Evaluating the Consumer Revolution).
The hard money industry suffered severe setbacks during the real estate crashes of the early 1980s and early 1990s due to lenders overestimating and funding properties at well over market value. Since that time, lower LTV rates have been the norm for hard money lenders seeking to protect themselves against the market's volatility.
Legal & Regulatory Issues Regarding Bridge Loans and Hard Money Loans
From inception, the hard money field has always been formally unregulated by state or federal laws, although some restrictions on interest rates (usury laws) by state governments restrict the rates of hard money such that operations in several states, including Tennessee and Arkansas are virtually untenable for lending firms.
Thanks to freedom from regulation, the commercial lending industry operates with particular speed and responsiveness, making it an attractive option for those seeking quick funding. However, this has also created a highly predatory lending environment where many companies refer loans to one another (brokering), increasing the price and loan points with each referral.
There is also great concern about the practices of some lending companies in the industry who require up front payments to investigate loans and refuse to lend on virtually all properties while keeping this fee. Borrowers are advised not to work with hard money lenders who require exorbitant up front fees prior to funding in order to reduce this risk. If you feel you have been the victim of unfair practices, contact your state's attorney general office or the office of the state in which the lender operates.
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