The real estate market is unique in so many ways. For example, real estate investors and developers have access to financial tools you will not find at your neighborhood bank. Among them are hard money, bridge loans and gap loans. It pays to understand these three funding tools as a real estate investor looking to maximize funding options.
For the purposes of this post, all three forms of lending will be discussed in relation to private lenders and the real estate market. Bear in mind that bridge and gap loans can also be made by banks and credit unions. They do not always have to be utilized for real estate investing purposes, either.
1. Hard Money
Hard money constitutes a type of private lending that is entirely asset-based. This is to say that lenders make approval decisions based on borrower assets. For their part, borrowers pledge assets as collateral on their loans. In the event of default, the collateral can be seized and sold to repay what is owed.
Actium Partners is a Salt Lake City, Utah hard money lender that specializes in the real estate market. They say that borrower assets could be just about anything, but a typical scenario involves pledging the property being acquired as the asset backing the loan.
Imagine a borrower working with a hard money lender to purchase an office building. That office building acts as the collateral. As long as it has enough value to satisfy the lender’s loan-to-value (LTV) ratio, the chances of approval are high.
Bridge loans are a form of hard money in the private lending industry. They are a separate instrument in retail banking. The main component of the bridge loan is that it is based on the concept of bridging the gap between current financial needs and future resources.
A good example would be a real estate investor looking to buy a hot piece of property that other investors also have their eyes on. That investor has access to bank financing, but it cannot be arranged quickly enough. He turns to a bridge loan to immediately acquire the property. Then uses the anticipated bank financing to repay the bridge loan at a future date.
Like hard money loans, bridge loans are usually senior loans. That means they are in the first lien position. If the borrower defaults, any proceeds from the sale of the asset would go first to the private lender in that senior position.
3. Gap Loans
Gap loans are secondary loans. They are in a subordinate position to senior loans. As their name implies, they are intended to fill the gap between available resources and current financial needs. A typical use for a gap loan in the real estate industry is making improvements to a newly acquired property.
An investor might work with a hard money lender more than willing to offer a bridge loan for property acquisition. However, what if the lender does not want to get involved in funding improvements? That leaves the investor to seek out additional financing. They would do so by way of a gap loan.
Hard money, bridge loans, and gap loans are all tools real estate investors use to acquire and improve properties. Investors can mix and match the various loan types on a case-by-case basis. Best of all, working through private lenders gives them access to funding in a way that is faster, more efficient, and perfectly suited to the pace of the real estate market. It is no wonder investors prefer private lending over banks as a primary funding source for their investments.