While hard money loans and traditional bank loans are both sound financing solutions, their processes and purposes couldn’t be more different. Both options have an important part to play in financing new opportunities. But while hard money loans can flexibly serve an immediate, time-sensitive need for funds based on existing assets, traditional bank loans rely on an extensive approval process to assess the ability of candidates to repay their loan.
At first, it can be difficult to know which type of loan is the best for your specific circumstances. We’ve broken down some of the key differences between these two types of financing so you can find the option that works best for you.
How Hard Money Loans Work
In broad terms, hard money loans are a great option for those who need a short-term, fast financing option. They can be approved quickly and come with short repayment times but entail greater risk for both the lender and the recipient. Here are some other key characteristics of hard money loans.
Private lender: Hard money loans are typically issued by private lenders or investors.
Collateral: Hard money loans most often use real estate assets owned by the loan candidate as collateral. This is a key difference between them and traditional bank loans, which often do not depend on collateral at all.
Underwriting Criteria: Hard money loans require a thorough due diligence process to ensure the borrower’s financial history and collateral demonstrate a proven ability to repay the loan. One important difference to note is the speed of underwriting a hard money loan is much more swift than a traditional bank loan.
Speed: Hard money loans can be obtained relatively quickly, often within days or weeks. The approval process is streamlined and less paperwork-intensive compared to traditional bank loans. This is advantageous for time-sensitive real estate investments or urgent financial needs.
Flexibility: Hard money lenders may be more flexible regarding the loan terms, repayment schedules, and loan amounts, allowing borrowers to customize the loan structure to meet their specific needs.
Higher Interest Rates: Hard money loans typically carry higher interest rates compared to traditional bank loans. The increased risk associated with these loans, as well as the shorter loan terms, contribute to the higher cost.
Shorter Loan Terms: Hard money loans generally have shorter repayment periods, often ranging from 12 – 24 months. As such, monthly payments are typically higher.
Higher Risk: Borrowers need to pledge real estate property as collateral, which means the property may be at risk of foreclosure if the borrower fails to repay the loan.
Traditional Bank Loans
Traditional bank loans are provided by financial institutions such as banks, credit unions, and mortgage lenders. There are many key features that set traditional loans apart from hard money loans.
Underwriting Criteria: Traditional bank loans typically require borrowers to meet specific creditworthiness criteria, including credit scores, income verification, and debt-to-income ratios. Approval depends on the borrower’s financial history and proven ability to repay the loan.
Interest Rates: Bank loans generally offer lower interest rates compared to hard money loans due to the lower risk associated with the borrower’s financial profile.
Longer Repayment Period: Traditional bank loans often have longer repayment terms, allowing borrowers to spread out their payments over an extended period and potentially reduce the monthly payment amount.
Lengthy Approval Process: The application and approval process for traditional bank loans can be time-consuming, often taking weeks or even months to complete. This makes them a poor fit for anyone seeking immediate funding.
Rigidity: Banks may have strict loan terms and conditions, limiting the flexibility to customize the loan according to the borrower’s specific needs.
It’s important to note that the specific terms, rates, and requirements of both hard money loans and traditional bank loans can vary depending on the lender and the borrower’s circumstances. Exploring all available options is an important part of the financing process.