This spring, for the first time in more than two years, Jonathan Daniels’ phone began to ring with calls from apartment investors seeking fast, flexible cash.
Daniels is the president of Silo Financial, a lender based in Stamford, Conn., that specializes in providing the short-term, high-interest financing sometimes known as hard money loans. “We are what you might call a situational lender,” said Daniels. “We look for unique situations and people with time-critical needs.”
During the boom time, apartment investors had little need for the kind of high-interest financing Silo offers. Wall Street conduits and insurance company lenders were eager to put money into apartment deals, even for borrowers with scarred credit or deals with complicated stories.
Since the credit crisis hit last year, loans have gotten harder to come by and lenders have become much less willing to stretch their underwriting standards, according to Charles Foschini, vice chairman of South Florida markets for CB Richard Ellis.
So hard money loans have become an attractive alternative, especially considering they have some advantages of their own. They can close very quickly, for instance. In March, Silo closed a loan to a commercial property in just four days. Typically, Silo’s loans close in an average of two weeks.
Silo’s loans tend to have 12- to-24- month terms and cover an average of about 65 percent of the value of a property, although the lender will sometimes go up to 70 percent. “When we stretch, it’s for multifamily,” said Daniels.
The largest benefit of hard money loans is their flexibility. The capital that funds hard money loans often comes from high net worth individuals. Because the loans are not securitized or underwritten to fit the needs of a large investment fund, hard money lenders can be flexible about what kind of loans they accept.
“We are not as concerned about debt-service coverage ratios and historic performance,” said Daniels. “We are very concerned with what the real value of the property is.”
Silo will sometimes lend to vacant properties that are producing no income.
To establish the value of this collateral, Silo looks at comparable properties in the market. Silo can also make loans to packages of properties, a practice that allows, say, four or five properties to be used as collateral for the rehab of a property that currently has little value.
To a hard money lender, the borrower’s credit history is much less important than the value of the property. Many borrowers use hard money because they have problems with their credit that could prevent them from getting conventional financing.
The biggest downside to hard money loans is the high interest rates the lenders charge, which can go as high as local usury laws will allow. However, most hard lenders offer rates at least a few percentage points below the yield demanded by equity partners.
Silo’s typical interest rates are between 10 percent to 12 percent, said Daniels.
Apartment investors considering hard money financing should be cautious. “Borrowers should be doing background checks on lenders,” Daniels warned. Simply typing the lender’s name into an Internet search engine may generate some helpful information, but speaking to other borrowers that have worked with the lender is even better.
Less reputable hard money lenders have been known to change the terms of a loan at the closing table. Also, potential hard money borrowers should make sure the commitment fee they give to the lender to apply for a hard money loan is reasonable, said Daniels. It shouldn’t equal more than 1 percent of the proposed loan amount.
The commitment fee should also be fully refundable, minus reasonable lender expenses, in case the loan does not pencil out. Some hard money lenders have earned a reputation for accepting applications from unlikely borrowers just to keep the commitment fees after the applicants fail to qualify.
“Have the strongest set of loan documents that you’ve ever had to protect yourself,” said Foschini. The loan documents should be very clear about whether the borrower can receive an extension on the loan and under what situations the lender can foreclose.
Hard money lenders are also known as “loan-to-own” lenders by some skeptics in the apartment business. That’s because of a perception that many hard money borrowers eventually lose their properties to hard money lenders.
“Borrowers should be certain they are getting involved in a transaction that they can perform on,” said Daniels. Silo has not foreclosed on a property in 15 years, he said.