Soft Money Lenders (SML) are the best creative financing resource for most real estate investors! You get faster closing times than conventional loans, higher Loan To Values (LTV) than both traditional and Hard Money Lenders (HML), lower credit score requirements. So, Who are they? Where or How do you find them?
What Is A Soft Money Loan (SML)
In contrast to a hard money loan (HML) - a short-term loan backed by the value of the property, usually funded by private investors with rigid repayment schedules and lending criteria -, a soft money loan is a more traditional loan with better terms such as longer repayment periods and with a below-market interest rates. Granted, it’s still secured by real property — meaning you’ll still have the assets as collateral in case of default making it easier to get a soft money loan. A car loan would be a good example of a soft money loan. Some car loans offer 0% annual percentage rate (APR) for an amount of time (also called interest holiday) and repayment periods extending from 2 /7 years. A soft money loan is usually provided by a certified lending institution.
Who Are These Soft Money Lenders ?
The first group are more traditional lenders. Soft money loans issued by commercial banks and structured on: a borrower’s credit score and ability to make monthly payments based on income. The second less obvious and easily overlooked group are Private Money Lenders. They offer loans that are secured by a real estate asset. These loans are used to purchase a house, condo or multifamily building. Private money lenders can be anyone from a personal friend to an established private lending company and are therefore called “relationship-based” lenders. Roughly put there are technically 3 shades of private lenders based on the relationship between the borrower and the lender. The three shades of private money lenders are as follows:
1. Primary circle: Family & friends
2. Secondary circle: Colleagues, professional & personal acquaintances
3. Third-party circle: Accredited investors & Lending Institutions
Benefits & Pitfalls / Requirements of Soft Money Loans
SMLs are asset-backed, so you are required to back your loan with collateral, which protects the investors should you not be able to make your payments. Unlike a HML (Hard Money Loan), your credit score plays a larger role – in fact, to qualify for most SMLs your credit score needs to be better than 580.
Some Benefits of SML are:
Lower interest rates depending on your credit score. First Circle Private Lenders might even consider 0%.
Usually funds up to 90% of a property’s Loan To Value. If you have great personal relationships with a lender you might even get 100% purchase loan and up to 90% After Repair Value.
When you take out a soft money loan with an institution, it becomes part of your credit history and can help you build and/or repair your credit score.
Soft money loans have a more flexible repayment schedule, depending on your credit score.
Of course there are also some pitfalls or better said requirements to getting a soft money loan approved:
You can’t get approved for a soft money loan with bad credit with institutions that is. Your family and friends might always lend you on your word not your credit score since they have the collateral in place.
You must turn over some assets as collateral for the loan. In addition to demonstrating good credit, yo also need to prove you have 3-6 months worth of loan payments in reserve.
Soft money loans have longer closing times: 10-14 days. HML’s can close in 3-5 days. But this is still lighting speed considering the 30+ days closing process of traditional loans.
Why Would Anyone Lend You Money?
You are probably already familiar with some of the advantages / leverage of Debt or OPM (Other People’s Money) as we explained in "Why The Richest Are Diving Into Debt…" So the flip side of the same coin is that these lenders love to give you their money, you only have to make a great effort into understanding where they are coming from to make it a win/win situation for everyone.
The key advantages for a soft money lender:
Higher Returns; The biggest advantage of becoming a money lender is the fact that you will be able to realize higher returns on your invested capital versus a savings account. Typical loans yield between 8% and 12%, often higher.
Diversification; Expanding into paper investments is a great way to boost returns on your real estate business without buying more property.
Liquidity; Notes (we have covered all about notes in Make Money By Taking “Notes”!) are investments that can be sold more easily than the underlying property. However, you should expect to receive less than your full principal depending on the going rate of return and the underlying characteristics of your note.
Assets Utilization; Becoming a money lender allows you to invest in real estate deals on a short-term basis when you don’t have a deal to invest in yourself.
Low Hassle Cash Flow; loans provide for a steady cash flow without the usual hassle of managing a tenant or property manager.
So once you understand that you, the real estate investor, are practically the precious gem stone lenders are actively looking for, you now have a cutting edge advantage - if you work it to make it work for them!
Dive Deeper into the Creative Funding World Take A closer Look At Why The Richest Are Diving Into Debt… & Hard Money Lenders, Cracked!
Finding your perfect borrower/lender match
Ask wealthy family, friends not to “borrow” but to invest with you for a great return on their money. Prepare a Pro forma like you would for a commercial bank make them see that you walk your talk and that their money is in good hands and for extra safety make sure they have title to the property or secure them with first lien.
Reach out to your network of investors to see who’s interested in funding your deal. The best place to do this is at your local Real Estate Investment Club. Size Up The Deal!
Reach out to institutional lenders they are also actively looking for you! It’s a match made in heaven.
The Typical Soft Money Lending Process
Establish Equity; How much equity do you have in the property? A Money Lender is looking for at least 30% equity. This means that the lender is borrowing no more than 70% of the After Repair Value of the property.
Assessment; Do you have a “local” reputation for making great deals? Have you gone through bankruptcy/ short sales can you explain? Are you new, is this their first deal? What is your track record of timely payments? They are not necessarily concerned with your personal credit history because your loan will be secured by the property. Instead, they are concerned with your reputation as an investor.
Negotiate The Terms; Ask the lender what terms they are expecting. Soft Money Loans are typically longer term, some borrowers are looking for a multi-year loan, up to 5 years but they will likely refinance and pay off your note early. Others are willing to lend only short term, 6 months to 1 year, depending the risk and the amount. Interest rates can vary widely depending on the local market, the risks involved, the length of the loan, etc. Be sure to know the going rate in your market and what you can negotiate. Make it attractive for both sides. Remember a Soft Lender is helping you to become an investor. Make it work.
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The Due Diligence; Practicalities of the loan require you to have at least the following documentation in place:
Pro Forma and After Repair Value appraisal prepared by a professional appraiser
Repair bids; Obtain a list of repairs needed and an inspection report which should include a termite and oil tank inspection. Inspection of the property.
Title and home insurance naming the lender
Close The Deal; Reviews of the loan documents and funds wired to an escrow agent. Be sure to use an experienced lawyer, especially if this is your first transaction.
Service The Loan; A simple straight forward interest-only loan with a balloon payment can be managed directly by you. However, if your loan is more complicated, you may want to turn the loan over to a servicing agent who prepares amortization tables, monthly statements and takes care of the payments.
Soft Money Lenders are more willing to take a risk on you than banks or other traditional lending institutions, because they know you, they have a close relationship with you. All they want is to be sure you are worth that risk. Be great, do your due diligences, have them coming back for more. Make it work like a pro!
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