Be the bankMark Anthony McCraycommercial real estate, lending, income, asset appreciation, stability, hard money
I would be willing to bet that neither you nor I know many
bankers who are at risk of starving. Altogether, they seem to be
doing fairly well within a good, stable, profitable business that
has been getting better over time. As I have worked in commercial
real estate finance for a number of years now, I've observed a
simple truth that bankers have known since the first merchants
sought financing for their next expedition--lenders don't lose.
Within lending, making loans to real estate investors and
projects is preferred by many creditors. Most great, lasting wealth
has been made through real estate investing. Where real estate
wasn't the great driver, such as the Internet and
telecommunications booms of the early '90s, the smartest people
redirected cash earned into real estate holdings. Buying and
holding residential and commercial properties, speculating in land
and serving the growing population through construction have proven
to be effective paths to wealth.
Even within that, many smart investors have chosen a more
passive path to real estate riches. Instead of being the landlords,
rehabbers, developers and builders, they have chosen to finance
those who are. This is often called "hard money lending," or it can
be known as "private real estate investing."
Let's look at three main reasons why real estate lending works
so well for those looking to build long-term wealth:
Real estate lending offers you the chance to earn passive income.
Unlike your job, where you trade your hours and effort for cash,
lending allows you to leverage capital. Your money makes you more
money, while you do something else or nothing at all!
Another great feature of real property is asset appreciation (that
is, the underlying asset that is actively generating income even as
it may be increasing in value). This means that the value basis of
a loan you make may improve for you after you close the loan,
draining risk from your portfolio for the same rate of return
(according to www.pikenet.com).
Investing through private mortgages can shield you from some of the
fluctuations that exist in the stock and bond markets. While real
estate does have cycles (just like any other asset class), demand
is fairly consistent, especially in the Sunbelt region. This
feature can be tremendous in a well balanced portfolio.
How does hard money lending work?
When investors make hard money loans, they usually do so at annual
interest rates of 12-18 percent. This can be invested in a wide
variety of income-producing real estate projects, each of which
should be thoroughly researched. The loan terms are typically six
months to two years, during which time the lender receives a
spendable income, paid monthly.
The most experienced private lenders almost never exceed 75
percent of the appraised value on residential properties or 65
percent of the current appraised value on commercial properties and
land. This measure is taken to help ensure a secure loan--one that
allows for a strong equity position in the case of a loan
Why people use private money
My colleagues and I have found that real estate borrowers (even
borrowers with flawless credit) are able and willing to pay a
higher interest rate because of the fewer time constraints and red
tape than they face with traditional lenders. Private lenders can
often approve and fund a loan within days of receiving a complete
submission. Traditional lenders can often take 30-45 days to
approve and fund even a simple transaction. This leaves the
borrower a clear choice when attempting to purchase time-sensitive,
below-market real estate.
Obtaining a private money loan provides the professional real
estate investor much greater flexibility when structuring a
transaction. Instead of relying solely on his own cash or credit, a
borrower is able to utilize the equity (or potential equity) in the
property as collateral for the loan. This allows for a profitable
and secure transaction for all parties involved. The borrower is
able to acquire and/or rehabilitate a piece of real estate at
below-market value with little or no money out of pocket, while the
investor is able to gain higher-than-average returns with
What could go wrong?
Nobody likes to talk about investments that go bad. The fact of the
matter is that all investments have some level of risk, and some
investments simply do not work out. This presents another advantage
to investing in private mortgages. When a traditional investment
goes bad, the investor simply loses his money. He may receive
nothing in return, except maybe an apology from the borrower.
However, well structured private mortgage investments are secured
by real estate and, in the unlikely event of default, the lender
may choose to retain the property or sell it for a profit.
If the loan was funded at a portion of the appraised value, the
lender might have a greater than 30 percent profit potential in the
What could go right?
Investing in private mortgages also provides a monthly income
stream. With a "normal" investment, you don't actually receive any
income when (and if) your investment performs well. The capital
investment stays with the investment, and you receive a quarterly
statement detailing how much the portfolio gained or lost. This can
be a great strategy for long-term growth, where the investor is
secure enough to leave the investment alone. However, many people
would like a monthly income from their investments. Private
mortgage investors usually structure their notes to generate
monthly interest checks, creating a "spendable" monthly income
stream. For example, a $250,000 investment earning 14 percent could
yield you a monthly income of $2,916.67.
What is the formula for success?
The process I follow is really quite simple.
First, do not pool money. Typically, after an opportunity has gone
through the underwriting process, you should issue a letter of
interest to the borrower. Once the borrower agrees (in writing),
draft an executive summary and forward that to an interested
investor. If there's continued interest, then provide the full
details, which would include a full appraisal, title insurance, a
survey and various other due diligence items.
After reviewing the information and upon deciding to invest in a
particular opportunity, forward the investor a document that allows
him to indicate his commitment to funding a portion or all of the
investment. From that point, I normally advise a lender to either
visit the property personally or send someone that he trusts to
provide an accurate report. My partner and I visit each property,
regardless of its location, and we visit with each borrower. In our
view, there is no substitute for face-to-face meetings.
After the recent shakeup in the mortgage industry, money is
still flowing. It's just flowing in some different directions.
Homebuyers are becoming renters, sellers are becoming landlords and
lenders are still winning. Therefore, I believe that one of the
keys to winning in the next few years is to become a lender.
Lenders never lose. I wish you great success.
Mark Anthony McCray, author of the upcoming book, "The 31
Rules for Succeeding as a Mortgage Broker," is the founder and CEO
of Houston-based First Capital
Mortgage Company and McCray Capital Partners. He
may be reached at (713) 267-4040 or e-mail [email protected]