The Ins and Outs of Private Lender Home Loans

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If you’re struggling to qualify for a conventional home loan, working with a private mortgage lender might be a good option. These lenders aren’t affiliated with a traditional financial institution like a bank or credit union, which means they have the freedom to offer more flexible loan terms with less stringent requirements.

If you’re wondering whether to work with a private mortgage lender, here’s what you should know.

Private lender home loans can be a great option for some homebuyers, but they aren’t right for everyone. As the name suggests, these loans come from private lenders rather than big banks or mortgage companies. This gives borrowers more flexibility, but also exposes them to more risk In this article, I’ll break down everything you need to know about private lender home loans so you can decide if one is right for you.

What is a Private Lender Home Loan?

A private lender home loan is a mortgage loan that comes from an individual or company rather than a bank. The lender sets their own criteria for approving borrowers and loan terms. These loans are sometimes called “hard money loans” because the lender bases approval more on the property and projected returns than the borrower’s finances.

Private lenders are often real estate investors themselves looking to profit from interest payments. They may also have more niche lending criteria than conventional lenders. For example, a private lender may specialize in fixer-upper properties or short-term bridge loans.

Pros and Cons of Private Lender Home Loans

Private lender home loans offer some advantages but also carry considerable risks Here are the main pros and cons to weigh

Pros

Easier to qualify: Private lenders use their own criteria rather than conforming to conventional mortgage standards. This means you may be able to get a private loan with bad credit, low income, or unique property types that don’t meet conventional requirements.
Faster process: The loan process is often much faster with a private lender because there is less paperwork and underwriting. You can sometimes close within days rather than weeks or months.
More flexible terms: You may be able to negotiate the loan amount, interest rate, fees, collateral, and repayment terms with a private lender.
Variety: Private lenders offer more variety than conventional mortgages. You can find loans for fixer-uppers, land loans, bridge loans, interest-only loans, and more.

Cons

Higher costs: Private lenders charge higher interest rates and fees to offset their risk. Rates often start around 8% and some exceed 15%.
Shorter terms: Private loans typically have terms of 1-5 years before needing to be refinanced. This results in frequent finance charges.
Prepayment penalties: Private lenders often charge you fees if you pay off your loan early.
Fewer borrower protections: Private loans don’t have the same regulations as conventional mortgages. There are fewer protections if you default.
Property risk: If you default, the private lender keeps the home as compensation. They can be quick to foreclose.

As you can see, private lender home loans offer more approval flexibility but expose borrowers to more costs and property risks. They are best for short-term financing needs rather than long-term homeownership.

Who Offers Private Lender Home Loans?

You can find private lender home loans from these sources:

Individual investors: Wealthy individuals may offer private loans for profit and to diversify their investments. Often they have real estate investing experience.
Mortgage brokers: Some brokers use private money in addition to conventional lending options. A broker can help you find and evaluate private lenders.
Private lending companies: There are companies that focus specifically on private lending. They have funds from individual or institutional investors.
Banks: A few banks offer portfolio lending divisions with non-conforming products similar to private lending.
Websites: You can find private lender listings through websites like LendingHome, Lenda, and various investor networks.

Shop around to find reputable private lenders. Check ratings, reviews, licenses, length of operation and Better Business Bureau reports.

Who Should Consider a Private Lender Home Loan?

These situations may call for looking into a private lender mortgage:

You have a low credit score or high debt-to-income ratio that prevents conventional mortgage approval.
You are self-employed or have non-traditional income sources a conventional lender may not accept.
You want to buy a fixer-upper or distressed property at auction.
You need a bridge loan to purchase before selling your current home.
You are looking to buy a unique property like raw land or a commercial building for residential use.
You need money fast for a time-sensitive real estate investment opportunity.

While private lenders offer more flexibility, try to improve any credit or income issues first if possible. The costs and risks of private lending may outweigh the benefits for some borrowers.

How Do You Apply for a Private Lender Home Loan?

The application process for a private loan is similar to applying for a conventional mortgage:

Compare lenders: Research options and narrow down your top choices. Compare interest rates, fees, loan types, and borrower criteria.
Check property eligibility: Make sure the property meets the lender’s criteria and they operate in your state. Some only lend in certain areas.
Complete loan application: You’ll provide basic personal, income, asset, and employment information. Requirements vary by lender.
Submit property information: Details like purchase contracts, inspection reports, and appraisals show the property specifics a private lender will evaluate.
Get pre-approved: The lender will review your info and issue a pre-approval letter if you qualify. This states the loan amount and terms you are conditionally approved for.
Submit final documentation: After finding a property, you’ll submit complete financial and property documents for formal underwriting. This verifies your details.
Close on loan: The lender handles title work and loan filing. You’ll sign final loan documents and receive the funds at closing.

The specific paperwork and underwriting steps depend on the private lender. The overall process is typically faster with fewer hoops than conventional loans.

Tips for Getting a Private Lender Home Loan

Here are some tips to boost your chances of getting approved:

Shop around: Contact multiple lenders to compare options and increase your chances. Each lender has different approval criteria.
Highlight property potential: Emphasize the property’s value and your plans to increase it. Private lenders focus on property profit potential.
Have a large down payment: Put down at least 20-30% if possible. This reduces the lender’s risk.
Bring a cosigner: Adding a cosigner with better finances reduces the lender’s risk.
Offer collateral: Providing additional collateral like a car or investments improves your chances.
Keep paperwork organized: Having financial and property documents ready makes the process much faster.
Build rapport with lender: Take time to establish a connection just like with conventional lenders.

With the right property and preparation, you can increase your chances of getting approved for a private loan.

Alternatives to Private Lender Home Loans

If you don’t qualify for a private lender home loan or want to avoid the costs and risks, here are a few alternatives to consider:

FHA loan – Insured by the Federal Housing Administration, these feature low down payments and lower credit requirements.
VA loan – No down payment required and easier approval for veterans and military members.
USDA loan – Subsidized fixed-rate loans for low-income borrowers in rural areas.
Renovation loan – Special FHA, VA, and conventional loans that finance purchase and repairs for fixer-uppers.
Manual underwriting – Conventional lenders review your full financial picture rather than just credit scores.
Co-borrower – Add a co-borrower with better finances to meet qualifications.
Improve your credit – Work on improving your credit and financial profile to qualify for conventional financing.

Don’t jump into a costly private loan without exploring all your options. An FHA or VA loan may provide the easier approval you need at a much lower cost.

The Bottom Line

Private lender home loans fill a unique niche not served by conventional mortgages. They offer a more flexible way to finance real estate, especially for investors and homeowners that don’t meet typical lending standards. However, this flexibility comes at the cost of higher rates, stricter terms, and increased risk.

Carefully weigh the benefits and drawbacks before obtaining a private loan. Improve your financial profile if possible to qualify for cheaper conventional financing. But for some situations, and in the right circumstances, a private lender may be your best or only option to finance the home you want. Just go in with eyes wide open so you know exactly what you’re getting with these riskier but more flexible private lender mortgages.

Friends or family members

If a friend or family member has the cash on hand, getting a mortgage from them could help you buy a home if you won’t qualify elsewhere. However, this could also have an impact on your relationship—especially if you don’t keep up with your payments and put that person in a tough position where they have to enforce a payment schedule or take a loss.

Be sure to clearly lay out the terms of the loan and treat it as a business transaction to avoid awkward situations later on. It’s also a good idea to have an attorney or real estate professional draft the mortgage agreement to ensure that you and the lender are following local laws and agreeing to a realistic plan. They can also look for tax implications and help you fill out the necessary paperwork, which will include:

A promissory note (or mortgage note): This shows you agree to repay the loan by its maturity date. This should include the loan’s balance, monthly payment, repayment term, interest rate, amortization schedule and any fees that could be applied, such as for late payments or defaulting on the loan.
A deed of trust (or mortgage): This states that the lender owns the property and holds the title until the borrower pays off the loan in full. This is a contract that places a lien on the property, meaning the lender can foreclose on your home if you default.

What Is a Private Mortgage Lender?

A private mortgage lender is a private entity—such as a friend, family member or business—that provides funds for a home loan and earns a profit on the investment by charging interest. Unlike traditional mortgage lenders that follow borrowing guidelines set by the federal government or government-sponsored entities, private mortgage lenders determine their own lending criteria and underwriting processes.

For example, a private lender might base the loan approval and interest rate on the borrower’s down payment and collateral rather than the credit history, debt-to-income (DTI) ratio and employment status needed to qualify for a typical mortgage. This could make the loan easier to get approved for, but it’s also riskier for both parties involved.

It’s also important to keep in mind that private lenders are not federally regulated the same way as traditional banks and credit unions, so you are losing some protections but not all. Private lenders often have to register with the state authority where they operate.

If you get a mortgage from a private lender, the home loan works like a standard mortgage—meaning you’ll sign an agreement to repay the loan, plus interest, within a certain timeframe. You’ll also likely provide a down payment. The private lender might perform its own underwriting process, such as checking your financial situation and conducting a title search. And like with a traditional home loan, the house you purchase will act as collateral and can be foreclosed on if you fail to make your payments.

How You Can Find Private Lenders As a Beginner Real Estate Investor

FAQ

Can I borrow money from a private lender?

A private lender can be a suitable alternative to a traditional loan. The application and qualification process for a private lender loan may be more informal, as well as quicker and more personalized. Those who may not qualify for a traditional loan may also may have more success securing a loan from a private lender.

Is it better to go with a private mortgage lender?

If you prefer lower monthly payments over an extended period, a bank mortgage might be the way to go. On the other hand, if you’re okay with higher payments over a shorter term or if you plan to sell or refinance the property soon, a private lender could be the better option.

What is a private lender mortgage?

A private mortgage is a loan that’s provided by an individual or company, rather than a financial institution. “Homebuyers usually consider a private mortgage when they’re unable to qualify for a mortgage from a traditional lender,” says Leslie H.

What are the risks to private lenders?

The main risk associated with private lending is the risk of borrower’s default (i.e. inability to make their scheduled mortgage payments).

What is a private mortgage lender?

Unlike traditional mortgage lenders that follow borrowing guidelines set by the federal government or government-sponsored entities, private mortgage lenders determine their own lending criteria and underwriting processes.

Who can get a private mortgage?

Companies that offer private mortgages might specialize in different types of borrowers, such as investors, commercial entities or individuals who are buying or building a new home. The home loans provided by these lenders are typically non-standard mortgages, which can come with high-cost loan amounts and long repayment terms.

How do I find a private mortgage lender?

Aside from asking friends and family, you may find private mortgage lenders by networking with real estate professionals and investors in your area. There may be investors who are interested in a somewhat unconventional opportunity. When do lenders require private mortgage insurance?

Is private lending a means to homeownership?

Private lending can indeed be a means towards homeownership, especially for those shut out by traditional banking systems. For them, they see private lender mortgage as their holy grail. Unraveling the Risks: A Look at Potential Setbacks and Strategies to Mitigate Them With private lender mortgages, risks certainly exist.