It is generally understood that property investors turn to hard money financing in order to keep conventional lenders out of the equation. But then so many of them turn around and refinance their hard money loans with conventional funding. Why? If a conventional loan is ultimately the goal, why not just start there and skip hard money altogether?
The Decision to Obtain Hard Money Financing
Understanding why real estate investors refinance hard money with conventional funding begins with understanding why they seek hard money to begin with. That decision could be rooted in any number of things, including:
- Bank Reluctance – Retail banks are often reluctant to get involved in real estate acquisitions for investment purposes. They can see their way clear to refinancing after the fact, but they just don’t want to take on the risk that comes with property acquisition.
- Limited Time – One of the main reasons property investors turn to hard money is the speed at which loans can be arranged. Investors are usually working with limited time, and banks simply cannot fund loans as quickly as their hard money counterparts.
As a point of reference, Salt Lake City’s Actium Partners has been known to approve, underwrite, and fund loans in as little as one business day. That’s certainly not the norm, but Actium says most hard money loans can be arranged in a matter of days. Bank loans can take months to arrange.
The Decision to Refinance
It is clear that hard money offers some advantages property investors find quite attractive. So when an investor turns to hard money to acquire a new property, the question then becomes why he would arrange for conventional funding after the fact. Once again, there are multiple possibilities:
- Affordability – Although hard money loans are normally arranged as interest-only loans, monthly payments can still be higher than their conventional counterparts. It might be more affordable on a month-to-month basis to refinance through a bank.
- Term Length – Hard money loans are short term loans by their nature. They do not typically exceed 36 months. And in fact, most hard money loans have terms of 6-24 months. An investor might refinance with a conventional loan in order to get a longer term.
- Release Equity – Hard money lenders require higher down payments than their conventional counterparts. By refinancing after the fact, an investor can get back a portion of his down payment along with releasing any existing equity in the property.
Releasing equity and a portion of an investor’s down payment immediately frees up cash the investor can put into another acquisition. In essence, the investor relies on hard money to turn equity into usable capital for growing his portfolio. When doing so is possible, it is actually a very smart strategy.
The Bank’s Position
As we wind up this discussion, let’s not forget the bank’s position in all of this. Investors often find that banks are not willing to fund their acquisitions because it’s too hard for them to determine an investor’s ability to repay. So why are these same banks willing to refinance?
Once a piece of property has been acquired and starts generating revenue, the bank has something to look at for repayment purposes. An income generating property is a lot less risky. With lower risk comes a greater willingness to lend.
It’s fairly common for real estate investors to utilize hard money for new acquisitions before turning around and refinancing with a conventional loan. A refinancing strategy makes perfect sense when you understand how hard money lending works. Investors do it all the time, and for good reason.