The difference between hard money and private money is not that clear. In fact, many investors believe them to be the same. However, while they have some similarities, there are some major differences borrowers need to be aware of.
So, what is the difference between hard money and private money? And which lender should you go with? We’re going to be answering these questions and outlining the differences between the two in this guide.
What is Hard Money?
A hard money loan is a loan that’s acquired through a ‘hard asset’, with one of the most common assets being real estate. So, a hard money lender is a lender that uses the value of the asset in deciding both the loan amount and rate.
Learn more about hard money loans in our hard money loans guide
What is Private Money?
Private money is lent by a private person and/or organization. Therefore, the terms can vary greatly from lender to lender. Private lenders can use whatever criteria they are comfortable with when deciding whether or not to lend to a person or entity.
What do Private and Hard Money Lenders Have in Common?
The one thing that these two potential lenders have in common is that neither of them are restricted in the way that a traditional lending institution is.
This benefits real estate investors in a few ways:
– It’s quicker – as you don’t need to jump through as many hoops to acquire private or hard money, you can sometimes have your loan approved in less than a week.
– No credit check required – With traditional funding, your credit rating has to meet certain criteria. However, that’s not the case with hard and private lenders.
– Allow for liquidity – You’re able to leverage your own cash and stay more liquid when you’re using other people’s money (OPM). This also helps you spread out the risk rather than taking it all upon yourself.
– It’s much more flexible – Private lenders can be very creative with lending terms, whereas hard money loans don’t have any prepayment penalty. These are just a couple of ways in which these two loans are more flexible than going down the traditional financing route.
Private Money: Pros and Cons
As you may have noticed, the net for what constitutes a private money lender is pretty wide. In fact, if they follow all the lending laws, anyone with extra money or an invested interest in your real estate investment could be brought in as a private money lender.
Similar to hard money loans, the funds borrowers receive from a private lender usually go towards the purchase price and renovation of a property. Moreover, as an insurance policy, the lender tends to receive both the mortgage and promissory note at the time of closing. After the rehab and eventual sale, the lender will receive their principal plus interest payment.
How much interest does the private money lender charge? Well, this really depends on what kind of lender they are. Let’s consider these two different types of lenders:
– Your uncle believes in you and wants you to lend you money to supplement the down payment and renovations. He doesn’t and won’t lend to anyone else and won’t charge much. Therefore, his interest rate will be relatively low.
– A longtime friend has six real estate investments of his own. He has previously lent money to a different friend, also a real estate investor, and wants to fund your venture. He doesn’t advertise his services so he still constitutes as a private lender. However, he is likely to charge higher interest rates than your uncle would.
As you can see, private money loans are extremely flexible. However, it could be argued that private loans can put both the lender and borrower in a sticky situation. For example, say the two parties are new to real estate investment. They may not know much, but they are close to each other so want to help one another out. If the investment doesn’t work out, this could lead to bad blood between the two.
Moreover, despite them needing to meet certain criteria, private lending is not as regulated as hard money loans (in some cases, it’s not regulated at all). Therefore, if you do go down this route, make sure you research the private lender’s rates and experience thoroughly. In addition, if you’re an inexperienced investor, have a well-thought out exit strategy before pulling the trigger.-
Hard Money: Pros and Cons
Experienced investors know the benefits of complimenting their private money sources with a hard money lender.
So, what is the benefit of going with a hard money lender? Firstly, they’re semi-institutional and more organized than a private lender. However, above all, they’re licensed to lend to real estate investors. As a result, they’re typically more experienced in fix and flip style investments than your average private money lender.
Arguably a slight con with a hard money lender relates to one of the characteristics that connects private and hard money loans – regulation. Hard money lenders have more hoops to jump through than private lenders (but significantly less than traditional financing). However, depending on how you look at it, this is also a strength. It’s what makes hard money lenders the safer option of the two for a first time investor and the reason that savvy investors continue to go down this route.
Private Money vs Hard Money – What’s the Verdict?
The difference between hard money and private money is not always clear. However, as you can see, they both differ slightly and have different strengths and drawbacks.
Which one is right for you should be decided on an investment by investment basis. That being said, hard money loans do offer a level of security and industry know-how that your average private lender or Uncle Remus cannot. Therefore, unless you and your private lender are both confident and experienced with real estate investment, it could be worth applying for a hard money loan.