How to Become a Hard Money Lender

Hard money lenders issue short-term loans to real estate investors, for the purpose of buying and renovating properties. 

After the initial rehab project is completed, the borrower typically sells the property (in the case of house flippers) or refinances it to keep as a rental (in the case of BRRRR investors). Either way, hard money loans come with short terms, typically in the 6-18 month range. 

These short loans come with high interest rates and origination fees, making them attractive investments. Best of all, hard money lenders typically keep the loan-to-value ratio (LTV) low, reducing their risk of losses in the case of a default. 

It leads many investors to wonder how to become a hard money lender and earn those high returns for themselves. Keep the following in mind as you explore how to start a hard money lending business.

What Is Hard Money Lending?

Hard money lenders specialize in fast, flexible funding for renovation projects. 

In particular, hard money lenders serve house flippers and long-term rental investors who buy fixer-uppers. These real estate investors often need quick funding to buy distressed properties such as pre-foreclosures, plus money to cover extensive renovations. 

Conventional bank lenders don’t tend to do well with renovation loans. The wheels of bureaucracy and rigid loan programs simply move too slowly and stiffly for a major renovation project. Besides, conventional loans take too long to close for some off-market deals, which might require closing in a couple of weeks (or less). 

Hard money lenders can range from a single wealthy individual who lends locally all the way up to semi-national lending companies operating in dozens of states. They keep their hard money loans within their own portfolio, rather than packaging and selling them on the secondary market the way banks do.

How Does Hard Money Lending Work?

As touched on above, most hard money loans are short-term. Real estate investors use them as quick purchase-rehab loans, before selling or refinancing the completed property. 

So, the high interest rates don’t sting as much as they would for long-term financing. And the interest rates are in fact high: most hard money lenders charge 9-15%, structured as interest-only loans. But when borrowers only make a few interest payments while renovating a property, the high interest rate doesn’t cost them much in real dollars. 

The points and flat fees sting more however. Hard money lenders typically charge two to six points, with one point equal to 1% of the loan amount. These lenders also charge flat fees, also known as junk fees, to make hard money loans even more profitable. Common junk fees include loan processing fees, underwriting fees, lien recordation fees, wire transfer fees, and so forth. 

Hard money loans can range in terms from six months for simpler renovations up to 18 months or more for complex projects. 

On the collateral side, hard money lenders typically lend up to 65-85% LTV. The stronger the borrower’s credit and income, the higher the LTV many hard money lenders will allow. 

Part of what hard money lenders offer, in exchange for those high fees and rates, is flexibility. They sometimes allow creative structuring for loans, such as lending 100% LTV against the main property in exchange for a lien against a second property as additional collateral. 

Pros of Becoming a Hard Money Lender

Hard money lenders can earn outstanding returns in rapid succession — if they know what they’re doing. Consider a few upsides as you look into how to become a hard money lender.

High Interest on Your Capital

Few investments pay 9-15% interest. Hard money loans rank among those few. 

Hard money lenders can name their own rates and returns, within the realm of their competition’s pricing. 

Earn a Spread on Other Investors’ Money

After establishing a track record, hard money lenders don’t just lend their own personal money. They borrow money from friends, family members, and even strangers as they build a reputation for consistency. 

For example, a friend of mine who became a hard money lender borrows money at 8-10% from his friends and family and lends it at 12-14%. He earns a 2-4% spread on loans, in an endlessly scalable form of leverage. 

And that says nothing of the money he rakes in from fees.

Hefty Fees Add to Your Total Returns

Imagine a hard money lender charges two points and $1,000 in flat fees. 

They lend $200,000 of their own money to a house flipper at 12% interest. The two points come to $4,000, plus the flat fees, bringing the total initial fees to $5,000. The house flipper completes the renovation within three months and sells the house in another three months. Then the lender turns around and immediately issues another hard money loan that lasts another six months. 

The lender earns $24,000 in interest for the year, plus two rounds of fees at $5,000 apiece. That comes to $34,000 in income on their $200,000 investment, for an annualized return of 17%. 

Where the numbers get really interesting is when the lender starts leveraging other investors’ money. In the second year, they borrowed another $200,000 from friends and family at 8%, for a total loan budget of $400,000. 

They double their lending income to $68,000, and they pay out $16,000 in interest to their investors. That comes to a total income of $52,000, and they’re still only tying up $200,000 of their own money. As a return percentage, that makes 26%. 

The next year the lender doubles their business again, by bringing in another $400,000 from other investors at 8%. They earn a gross of $136,000 of income, and pay $48,000 in interest to their investors, for a net total of $88,000. And so the cycle continues. 

Short Terms, High Velocity of Money

Hard money lenders issue loans with short terms, often recovering their loan principal within just a few months. That lets them turn around and keep re-lending the same capital over, and over, and over again. 

Each time they issue a new loan, they earn a new round of fees. This creates a high velocity of money, as they recycle the same capital into new fee- and interest-paying investments. 

Plus, the quick turnover allows them the flexibility to reallocate money as needed. They don’t have to tie up money for years at a time, like buy-and-hold real estate investors do. 

Strong Collateral

Hard money lenders enjoy strong collateral, with loan-to-value ratios typically ranging from 65-85%. 

If a borrower defaults, the lender can foreclose or accept a deed-in-lieu of foreclosure and still recover all of their principal in many cases. 

Cons of Becoming a Hard Money Lender

For all those upsides, not everyone should become a hard money lender. Watch out for the following risks and downsides as you research how to start a hard money lending business. 

Requires Deep Experience & Capital

You need plenty of experience to achieve consistently high returns without losses in the hard money lending industry. 

Specifically, you need to know how to underwrite purchase-rehab loans. That requires understanding the renovation and permitting process, the going rates for local rehab projects, knowledge of the local housing market, and, of course, underwriting borrowers’ creditworthiness. Most hard money lenders earned their stripes by working for other lenders, banks, or credit unions first.

To become a hard money lender also requires deep pockets. It takes plenty of money to get started, because it’s hard to borrow money from others without a track record of success. Most hard money lenders start by lending their personal money before raising capital from friends and family. 

Lenders Must Sometimes Take Ownership of Properties

No matter how well you underwrite borrowers, some will inevitably default. And when they do, you may have to take possession of the collateral property. 

All of that experience with the renovation and permitting process comes in handy here, too. You may need to step in and complete the rehab project, and then sell through a local real estate agent to recover your principal. Expect time delays and possibly extra money injected in order to recover some or all of your invested capital. 

Risk of Inheriting Messy, Half-Completed Projects

When you take ownership from a defaulting borrower, you could step into a nightmare renovation.

Half-completed work may have to be removed and restarted from scratch. That adds labor and cost, and can leave you with a loss of principal when you do finally sell. 

How to Set Up Your Hard Money Lending Business

Make no mistake: becoming a hard money lender means starting a business. 

You’ll need to open an LLC or other legal entity, file for an Employer Identification Number (EIN), and open a business bank account. That’s the easy part. 

The harder part begins with marketing yourself to borrowers — your clients. Many hard money lenders already work in the local real estate investment space, perhaps as house flippers or real estate wholesalers themselves. As such, they already have a deep local network of other investors. They can start small with investors they already know (and hopefully trust). 

As they develop a track record of successful loan repayments, they can raise capital from friends, family members, and eventually strangers. With more capital, they can expand their customer base of borrowers, and keep growing. 

It helps to start with plenty of your own money to lend, plenty of local contacts in the real estate investing world, and plenty of experience as an investor yourself. The less you have of any of those, the harder you’ll find it to become a hard money lender. 

If you’re new to the industry, consider working for another hard money lender to gain experience and contacts. You can later either partner with that lender or split off by yourself to hang your own shingle. 

Final Takeaway

Hard money lenders can earn enormous returns on their own money and leverage other people’s money to scale their revenue to the moon. 

But hard money loans come with real risk. Even the best lenders sometimes have to foreclose on a property in default, and then take on all the headaches of completing the renovation and marketing the property for sale. Alternatively, they can sell the half-finished property as-is, but they risk taking a loss on their lent principal.

As you learn how to become a hard money lender, make sure you develop the skills you need to succeed. These include not just loan underwriting but also renovating properties, working with contractors, navigating permits and inspectors, and marketing properties for sale. 

You’ll also quickly reach the limits of your own capital for lending. If you want to become a hard money lender as a full-time business, you’ll also need to master the skills of raising capital from outside investors. 

Take your time to build the necessary capital and skills, scale slowly, and get mentoring from other hard money lenders.