Many different areas in a transaction can create risk.
The key to leveraging more beneficial negotiations with your hard money lender is, as with most negotiations, better understanding your lender and what they are trying to accomplish. This article will outline three ways to harness more negotiation power with your lender, as well as to lower your project costs and complete your project faster – and that will likely benefit you as well as them!
Negotiation Tool #1: Increase your down payment
Hard money lenders are constantly managing risk. Many different areas in a transaction can create risk. There is the physical risk of loss on the property, which is covered by hazard insurance. There is risk at the closing that the title company will not put the deed on record, which is managed with an insured closing letter. There is the title itself that is insured with title insurance.
However, the one risk that nobody can be sure about is the risk that you will default as a borrower. What if the market goes down dramatically and you walk away from your property? What if you become injured or otherwise unable to complete the project? The only way that a hard money lender can protect against default risk is to insulate themselves against default losses.
If you have a really good equity position on the property when you buy it, that is helpful. However, that still doesn’t demonstrate your commitment to the deal. The only way to prove to a lender that you are reducing your default risk is to increase your down payment. That way, the lender knows you will do everything possible to avoid a default and the loss of your own money that you have in the deal.
Negotiation Tool #2: Pay a higher rate and lower points
In the hard money business, the lender is trying to “turn” their money as fast as possible in order to “churn points” and reduce deal risk. If a hard money lender is charging three points to originate a loan and twelve percent a year in interest, they really want the loan to pay off as fast as possible, so that they can increase their yield.
If you can get in and out of your deal very quickly, ask your lender if you can pay a higher rate and lower origination points. That way, the lender gets a good yield if you end up having a longer maturity and the lender has the upside of churning the money if you pay it off quickly.
Negotiation Tool #3: Execute faster
Executing fast reduces risk and raises everyone’s yield. As described above, the hard money lender makes more money when they can churn their portfolio. You as a borrower/flipper also make more when you can “churn” deals. If margins are constant, the more transactions that you do, the more money you make.
How can you get things done faster? Be ready!
- Spend your time before the transaction closes lining up all of the detailed parts of the project.
- Let all of your vendors know when they should be ready to start work on your project and what materials they will need for your job.
Pro Tip: Working together with your lender to reduce risk and increase speed is essential to reducing costs. Showing your commitment to the deal by increasing your down payment; paying a higher rate and lower origination points to help the lender “churn money”; and executing faster by using a general contractor that your lender has previously worked with can all benefit both the lender and the borrower in the short-term (with one specific project), as well as the long-term (with having a beneficial working relationship).
If you have a typical three-draw project, here is a tip for taking three weeks off of the timeline: use a general contractor that your hard money lender has worked with previously and trusts so the lender can rely on photographs of the site and verbal confirmations about your progress.
Let’s say that it is Friday and you just finished completing all of the framing on your project. On Monday, your contractor plans on ordering the framing inspection. After that is complete, the contractor will need to purchase electrical and plumbing materials. Assuming that the hard money lender trusts the contractor, they might advance the draw at the conclusion of the framing and prior to the inspection.
If you can get your hard money lender to wire the next draw for the materials on Monday morning instead of waiting a week for the framing inspection to be completed, you have saved yourself a week of time on your project. Assuming that you have three draws and a 12-week project, you can save twenty five percent of the construction time just by expediting the draw process.
Check out our video course on Working with Hard Money Lenders here.