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Understanding Securitization: Hard Money Lending and the Weak Secondary Loan Marketplace

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A loan’s terms are directly related to the security that the lender has that they will have their investment returned.  As it pertains to real estate investing, things have dried up considerably in the last decade due to the mortgage crisis and the financial sector’s reluctance to lend money.  This puts those interested in “flipping” commercial properties in a tough position, as the loan market isn’t what it used to be.

This dynamic is causing many investors to turn to hard money lending firms as a means of generating the necessary capital to pounce on investment opportunities.  While the interest rates are often higher, the process is streamlined, giving borrowers an incredible advantage.

But, in order to fully understand the climate in real estate lending, we must first analyze the nature of lending and how the mortgage crisis may have changed the lending landscape permanently.

The Secondary Loan Marketplace

When a lender issues a real estate loan to a borrower, the intention is not to hold the loan for its entirety, as many would believe.  Instead, the loan is often initiated, held for a short period of time, and then sold to another lender.  Organizations such as Fannie Mae and Freddie Mac are perfect examples of secondary lenders.  Though they did not initiate the loan, they have purchased it from its original lender.

Why does this matter?

When secondary lenders stopped purchasing mortgages due to their suddenly high risk, first-tier lenders stopped issuing loans.  After all, they don’t want to keep the loans for the duration of their terms, so if the secondary market isn’t buying, they certainly aren’t going to issue new loans.

And, while some lenders DO still have an interest in lending, they certainly aren’t interested in offering capital to ANYTHING that carries even a remote amount of risk.  The securitization of the loans simply isn’t enough to sway their decision, leaving many real estate investors waiting for weeks for a decision, before eventually learning that they have been declined.

In other words, the secondary lending market has EVERYTHING to do with the current climate in real estate finance, and those without access to capital simply cannot makes moves within the industry.

The Emergence of Lending Alternatives

With the previous information in mind, it isn’t difficult to see why hard money lenders have enjoyed a rapid ascent within the real estate industry.  By eliminating much of the red tape that traditional lenders endure, these agencies can help investors access capital quickly.  Anyone who has “flipped” a property can attest to the importance of timing when it comes to borrowing.

Hard money lenders, or “private lenders” as they are often called, have helped bridge the gap between investors and the newly created “stingy” policies found in the finance sector.  These loans often carry higher interest rates, but because the capital shouldn’t be tied up for long (the goal is to “flip”, remember?), the prospect of a higher interest rate isn’t alarming.

We always have to remember that RISK is the single, largest factor when a lender considers your request for capital.  Will the investment pay off?  What if you default?  Will the money get recouped?  These questions will determine the outcome of your loan submission, which brings us to our last topic…

Securitization and Real Estate Lending

Hard money lenders will offer up the capital to assist in acquiring a commercial property.  However, fully expect for the appraised property to act as collateral should you default on the loan.  Because these lenders only offer up to 70% of the property’s appraised value, they can be certain that their investment is protected.

Securing loans in a volatile real estate marketplace may scare many standard lenders away from approving loan applications, but don’t think that this means that there aren’t investors making moves on distressed properties.  As the industry continues to recover, hard money lending has become commonplace, helping to eliminate the gap created by a lack of mortgage purchasing in the secondary marketplace.

Those who understand how to identify commercial properties and initiate lending opportunities with private lenders are able to swiftly navigate the volatile real estate marketplace, turning incredible profits along the way!

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