The Complete Guide to Hard Money Loan Down Payments

Hard money loans have become an increasingly popular way for real estate investors and homeowners to access financing quickly for real estate purchases and projects. One key component of securing a hard money loan is providing a down payment. Here’s a comprehensive guide to everything you need to know about hard money loan down payments.

What is a Hard Money Loan?

A hard money loan is a type of short-term financing issued by private lenders rather than banks or traditional financial institutions. Hard money loans are asset-based loans, meaning they are secured by the real estate or property being financed rather than the borrower’s credit score or income.

Hard money loans are frequently used by real estate investors and developers for projects like flipping houses, renovating properties, or acquiring rental properties because they can be obtained much faster than conventional bank loans. The loans typically have higher interest rates and shorter repayment terms of 6 months to 3 years.

Why Do Hard Money Lenders Require a Down Payment?

Since hard money loans are riskier for lenders than conventional mortgages hard money lenders nearly always require a substantial down payment from the borrower. The down payment serves a few key purposes

• Mitigates the lender’s risk – The down payment provides the lender with an equity cushion and decreases the loan-to-value ratio. If the borrower defaults, the lender can recover their capital by selling the property.

• Confirms the borrower’s commitment – Requiring a large down payment ensures the borrower has “skin in the game” and is invested in the success of the project.

• Increases the borrower’s borrowing power – A higher down payment allows the lender to offer better loan terms and interest rates.

Typical Down Payment Percentages

While specific down payment requirements vary, most hard money lenders look for at least 20-30% down. More experienced real estate investors with a strong track record may qualify for loans with a 10-20% down payment. High loan-to-value ratio loans above 80% are rare in the hard money space.

Here are some typical down payment percentages for hard money loans:

• Owner-occupied residential properties: 20-30%
• Investment residential properties: 25-35%
• Commercial properties: 30-40%
• New construction projects: 30-40%

In comparison, conventional mortgages typically only require 3-20% down. Hard money lenders take on greater risk, so they require more equity.

Factors That Influence Down Payment Requirements

Several factors determine the down payment percentage hard money lenders will require from individual borrowers:

Property type – Investment properties usually require higher down payments than owner-occupied residential properties. Commercial properties also call for larger down payments.

Project type – Fix and flips tend to have higher down payment requirements than refinances or purchases of existing properties.

Borrower’s experience – Seasoned real estate investors with a proven track record may qualify for lower down payments than first-time investors.

Credit scores – Borrowers with higher credit scores are viewed as lower risk and may need less down.

Loan-to-value (LTV) ratio – To keep the LTV ratio within their comfort zone, lenders may require larger down payments on higher-priced properties.

Loan-to-cost (LTC) ratio – For construction loans, the down payment may be dictated by the project’s total costs.

Financial reserves – Strong bank account balances and liquidity may allow for a smaller down payment.

Collateral quality – If the property is in poor condition, a lender may want a larger down payment.

Down Payment Sources

Where does the money for a hard money loan down payment come from? Here are some common sources borrowers tap for down payments:

• Personal savings – Most traditional source but requires significant cash reserves

• 401(k) or IRA funds – Can use without penalty through loan or withdrawal

• Home equity line of credit – Tap into equity in an existing property

• Gift funds – Receive gift funds from family members

• Business partners – Pool funds with business partners

• Private lenders – Separate loans to cover down payment costs

• Secured loans – Assets like stocks/crypto can be used as collateral

• Seller financing – Negotiate for seller to finance part of down payment

Tips for Securing a Lower Down Payment

If you want to minimize the required down payment on a hard money loan, consider these tips:

• Highlight experience and past success with similar projects
• Show significant assets, reserves, and liquidity
• Offer additional collateral like stocks, bonds or other real estate
• Shop around with multiple lenders to compare terms
• Opt for a lower loan-to-value ratio (e.g. 60% instead of 75%)
• Negotiate for partially seller-financed down payment
• Pay for appraisal and other third-party reports upfront

A reputable hard money lender will work with you to customize loan terms and down payment based on your unique financial situation and project merits. With proper preparation and planning, it’s possible to obtain favorable financing terms.

The Bottom Line

Securing financing for real estate projects almost always requires bringing some of your own capital to the table. Hard money lenders specifically look for substantial down payments from borrowers – typically in the range of 20-40%. By understanding down payment requirements, preparing adequate sources of funds, and negotiating with lenders, investors can obtain the capital they need while minimizing out-of-pocket costs. Reaching out to multiple lenders and brokers is key to getting the best hard money loan down payment terms.