Welcome back to the Hard Money Academy. I’m Chris Jameson from SF Lending, and today we’re diving into Hard Money 106. Why would you use hard money loans? We’ve touched on this topic before, but let’s break it down further.
When to Use Hard Money Loans
Hard money loans can be particularly useful in two main scenarios:
- Quick Closures: When you need to close a deal fast.
- Property Repairs: When the house needs significant repairs.
But there’s more to it than just urgency and repairs. Using hard money loans can help you:
- Use Less Capital: You free up cash to buy more properties.
- Increase Returns: Higher potential returns on investment.
- Leverage Other People’s Money: Utilize funds and expertise from external sources.
- Avoid Partnerships: It’s often cheaper and simpler than partnering.
- Minimize Out-of-Pocket Spending: Keep more of your own money.
Comparing Financing Options
Let’s consider a basic scenario: You’re buying a house priced at $100,000 with a planned $40,000 rehab and an after-repair value (ARV) of $200,000. We’ll compare hard money, conventional financing, and cash purchases.
Hard Money Loans
- Loan Amount: Typically up to 70% of ARV, which gives us $140,000.
- Closing Costs: Around 7%, including points and fees, totaling $9,000.
- Out-of-Pocket Costs: About $19,000.
Conventional Loans
- Loan Amount: Requires 20% down on purchase, resulting in an $80,000 loan.
- Closing Costs: Comparable to hard money loans, including escrows, totaling $9,000.
- Out-of-Pocket Costs: About $74,000.
Cash Purchases
- Loan Amount: None, as you’re not borrowing money.
- Closing Costs: Minimal third-party costs, around $2,000.
- Out-of-Pocket Costs: A total of $143,000.
Out-of-Pocket and Returns
Now, let’s look at the returns from flipping the property.
- Hard Money:
- Total Out-of-Pocket: $19,000
- Net Profit: $23,000
- Return on Investment (ROI): 121%
- Conventional:
- Total Out-of-Pocket: $74,000
- Net Profit: $28,000
- ROI: 37%
- Cash:
- Total Out-of-Pocket: $143,000
- Net Profit: $39,000
- ROI: 27%
Why Does This Matter?
Even though the net profit using hard money is lower, the ROI is significantly higher. With the same amount of cash used for one cash deal, you can potentially fund seven deals using hard money. This means you can make much more money overall.
Example Scenario
If you flip two houses per year using cash, you might make $80,000 annually. Using hard money, you could flip seven houses at once, leading to a potential $161,000 in profits. If you manage to double that, you’re looking at over $320,000 annually.
Summary
Hard money loans offer distinct advantages for real estate investors, especially when speed, flexibility, and leveraging capital are essential. By using hard money loans, you can close deals quickly, finance necessary property repairs, and utilize less of your own capital, allowing you to invest in multiple properties simultaneously.
Despite a lower net profit per deal compared to conventional loans or cash purchases, the return on investment with hard money loans can be significantly higher, leading to greater overall profits. Whether you’re looking to flip properties more efficiently or maximize your investment potential, hard money loans provide a valuable financing option to consider.
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