Home prices have now stabilized, and most observers see the market as continuing to rise at a modest pace. Active investors are coming back to the market, and are back in the swing of buying distressed properties, doing quick rehabs and selling them for a profit.
An aftershock of the Great Recession, however, is the tightened lending practices of major mortgage lenders. In fact, many flippers can’t seem to get mortgages to ply their trade, partly because they’re unfairly lumped in with consumer borrowers whose mortgage applications must now undergo heightened scrutiny.
These fix-and-flippers are turning to the crowd. Crowdfunding, to be exact.
Here’s an example. Chicago-based Ben Walhood used to sell brain surgery equipment; on the side, he flipped a few houses.
“When I had the W-2 and a good income, getting a mortgage was relatively straightforward,” he said.
But when the flipping profits grew, Walhood, 33, decided to go into it full time. Entering a solid business seemed like the right idea; but as an unexpected consequence, he found that without the sales job, lenders became flustered. Walhood didn’t have a regular salary and a W-2, and money from conventional lending sources dried up.
“At that point it was essentially impossible to get funding from the big banks,” he said.
Walhood turned to one of a growing group of real estate crowdfunding platforms. These lending sources come in different varieties, but the better ones are online marketplaces for real estate investing, where individual investors can access investments in properties across the country. These platforms effectively pool together contributions of $5,000 or $10,000 amounts from individual investors, and use them to fund the loans of fix-and-flip investors across the country. The advantage of these platforms is they are often able to provide quicker, more efficient capital that helps meet the needs of these investors, who are generally looking for speed of execution and the ability to be flexible with loan terms and underwriting requirements.
Walhood now gets his property purchases funded by this “crowd” of investors, who lend him the money. As with a mortgage, he pays interest on the loan, and the investors get about a 9 percent return. Once each property is sold, the loan and the investors are paid off.
Walhood went through an underwriting process with the crowdfunding platform, which checked his credit score, his track record with other investments and his personal finances. Once cleared, the company needed to just focus on underwriting the projects themselves, which dramatically sped up the lending process. Now, Walhood can get full funding for home purchases quite quickly – in just hours, in some cases.
It does, however, come at a cost—a higher interest rate than a bank would normally charge for a conventional mortgage. Investor loans backed by Fannie Mae and Freddie Mac can carry rates in the 4 percent range; Walhood pays around 11 percent (the crowdfunding company takes a servicing fee that explains the difference of interest rates charged of the borrower and that paid to investors). Investors make a good profit. Some deals can even include an equity share in the property.
Since he can generally flip a house in three months, he is only paying that high rate for a short time, and then the loan is paid off. He does hold some of his properties as rentals, but for those, once he has a renter in place, he can refinance with a more conventional loan through a local bank.
“We’re certainly paying a higher interest rate through Realty Shares [the company that Walhood used], but the benefits are well worth it. I can work with Realty Shares or other private funders, or I can just not do this,” said Walhood. If he worked with conventional lenders, said Walhood, “we might only do one or two deals a year.”
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