I speak with investors looking to place money secured by real estate on a regular basis. Some of these individuals are very experienced, while others are looking to get started investing in deeds of trust. Experienced investors have learned, often through previous mistakes, some of the pitfalls of investing. In this post we are going to look at three things California hard money lenders should ask before investing their money.
The first thing, and potentially the most important, is what is the loan to value on the property you will be lending. This is a ratio of the debt vs. the value of the property. This number is very important because the property is your collateral when making a loan secured by real estate. Should the borrower default, the property is what will protect your principal investment. Many investors learned in the real estate downturn that property values do not always go up. Those who invested at very high loan to value ratios saw their protective equity eroded, and many lost money. Most of the investors we work with like to stay in the 65% range with regards to this number, meaning for every $100,000 in value, $65,000 can be loaned. There are exceptions to this rule depending on property and location, but ensuring that there is enough equity to protect your investment is going to help you sleep well at night.
The next thing to know is how the value of the property was arrived at. Oftentimes the value is given via an appraisal. Just because an appraisal says a property is worth a certain amount, however, does not mean that is the case. If you are intending to lend your money and want it secured by the property it is important that you understand the valuation and agree with it. Look at the comps used, pull your own comps and drive the property and neighborhood. If something does not seem right with the value, speak with your broker and raise the question before making the loan. Ultimately it is your money at risk, understanding and agreeing with the value of the property is another way to help yourself sleep well at night.
The third thing you should know when investing your money is what position your loan will be in. First position is typically desired, but not all loans are in a first position. If your loan is to be in a second or third position it is very important to understand that the loans in senior position take priority over yours. Should the borrower default on the first position loan it is very likely going to impact the subordinate loans, and has the potential to create expenses or problems that you may not have with a first position loan. Understand what debt is senior to yours and the ramifications should the borrower default.
There is much more to know and understand about becoming a California hard money lender. You can find more information on our California hard money lenders page regarding hard money loans, rehab loans and more.