Hard money loans don't come cheap. Interest rates range from 12 to about 20 percent, up-front fees are high, and the lender -- often a wealthy private individual with deep pockets -- wants your property as collateral. The good news is it gives some hope to borrowers who can't obtain a conventional "soft money" loan. If you default, you probably lose the land you used to back the loan.
Once you sign a hard money loan, the lender has the same right to foreclose on your property as a bank or mortgage lender. Your lender will insist on having a first mortgage. That way, if she does foreclose, she has the highest claim to the sale proceeds. A hard money lender will foreclose faster than a bank because your up-front payment is high. Even if the foreclosure auction brings in 60 percent of the sale price, that may be enough for her to turn a profit.
Judicial or Not
Hard money lenders have to play by the same foreclosure laws as soft money lenders. If your state requires a lender to go to court to foreclose, the hard money lender will have to notify you you're in default before he files a foreclosure suit. He must then notify you of the suit. Then comes a judicial hearing to decide if he can take your house. In some states, this process can take more than a year. A nonjudicial foreclosure only takes weeks. In some states, all the notification you get in a nonjudicial case is when the lender tells you the sale date.
When the lender sells off your house, it may not be the end of your woes. Foreclosure lowers your credit rating 85 to 160 points, with the exact amount depending on the strength of the rest of your financial picture. If you took out the hard money loan because your credit was too weak for soft money, defaulting will make things even worse. In some states, your lender may be able to sue you for whatever part of the mortgage the foreclosure sale didn't cover.
Hard money lenders may set conditions for default you don't find when you borrow from a bank. Your lender could require, for example, your property value not dip below a certain level. If it does, that gives her grounds to foreclose and sell before it drops any lower. Some lenders even reserve the right to foreclose if you don't properly maintain the property. If it's a commercial loan, your lender may require you get permission before adding a junior lien that might reduce your ability to repay her.
- Bankrate: 'Hard Money' Lenders: The Source for Last-Resort Loans
- Foreclosure University: The Truth About Hard Money Lenders
- Financial Web: The Consequences of Defaulting on a Hard Money Mortgage
- Nolo: How Foreclosure Works
- CNN: How Foreclosure Impacts Your Credit Score
- Private Money Lending Guide: Hard Money Foreclosure Issues
A graduate of Oberlin College, Fraser Sherman began writing in 1981. Since then he's researched and written newspaper and magazine stories on city government, court cases, business, real estate and finance, the uses of new technologies and film history. Sherman has worked for more than a decade as a newspaper reporter, and his magazine articles have been published in "Newsweek," "Air & Space," "Backpacker" and "Boys' Life." Sherman is also the author of three film reference books, with a fourth currently under way.