It’s All in the Action: A Wholesaler’s Guide to Transactional Loans

In a perfect world, all wholesaling transactions would involve you (the wholesaler) taking the final buyer’s money and giving it to the seller while taking your fee at the same time. But alas, the world rarely works out that easily — and even when you do manage to schedule both your close on the seller’s property and the final buyer’s close on the newly-yours property on the same afternoon, it doesn’t mean you get to pay the seller with the buyer’s money, because with certain exceptions, you have two separate transactions. The money you would pay the seller doesn’t arrive until after you’ve completed the second transaction in which you take money from the buyer. If only there were a lender out there willing to lend enough money to purchase a house, but only for a day or two…oh, wait, there totally is. Welcome to the world of transactional lending.

Transactional Loans Defined

A transactional loan is basically exactly what it sounds like: a loan that exists just long enough to cover the space between two transactions. So you purchase a home from a seller with the loan money, then you sell the home to the buyer, and then you use the buyer’s money to pay off the loan. In general, for the privilege of doing this, you pay around 2% of the value of the loan plus a small flat fee (say, $500), often with a minimum total fee (say, $2,500).

Prerequisites for Obtaining a Transactional Loan

Of course, from the perspective of the lender, a transactional loan is a fairly dangerous deal — they’re accepting a huge amount of risk and generally doing it without requiring collateral or doing much by way of background/credit checks. In order to reduce the risk, a lender will only offer a transactional loan if and only if you can prove that you have buyer that is not only ready and able to close on a specific date, but that the buyer’s funding is already in hand.

What Are the Downsides of a Transactional Loan?

There are two noticeable downsides of a transactional loan, neither of which are actually all that noticeable as long as nothing goes awry with the double-closing. The first is that paying a 2% fee for a two-day-long loan is equivalent to paying an APR of about 366% — so in traditional terms, a transactional loan is pretty ridiculously expensive. Of course, few traditional lenders would be willing to give you a loan you wanted to pay off two days later (or they’d put a huge fee for early payoff on it!), so that’s probably a wash. The second and related downside involves the second closing going awry at the last second. If you take a transactional loan and you spend the money from that loan closing on your purchase of the seller’s house, and then the buyer gets hit by a meteor before they can sign the contract, you’re the proud owner of the seller’s house, and you have to find a new buyer stat! Well, transactional lenders are prepared for that eventuality — but the percentage you pay in fees skyrockets as the days tick past. While there is no real standard, paying an extra 2% of the loan value per week that goes by while you find a new buyer isn’t unheard of. Needless to say, this means you need to be as certain as possible that your second closing will go off without a hitch before you commit to using transactional funding to get your close(s) on.

It’s Not Easy: A Flipper’s Guide to Hard-Money LoansĀ Flippers

Hard-money loans are short-term loans that require real estate — generally the real estate that is being purchased and/or renovated with the loan itself — as collateral. They’re issued by private investors rather than banks or credit unions, with a term generally around 6-12 months, with costly extensions. Monthly payments may or may not include money going toward the principal, but either way, a balloon payment is due at the end of the term that must pay off the entirety of the loan. Hard-money lenders are useful tools to investors who don’t necessarily make great candidates for traditional lending. The last aspect of the hard-money lending process is that such lenders are rarely willing to loan more than about 70% of the value of the property — some will even cap out at 50%. This is both to ensure that you are invested in making the deal work out, and to ensure that they can sell the property quickly (i.e. significantly below market value) should you default on the loan. Because a hard-money loan is secured by real estate, the lender generally puts less emphasis on the credit rating of the lendee — but the lender won’t lend (much) more than the value of the land that acts as collateral, so that if the lendee defaults, the lender doesn’t actually lose (much). This makes hard-money lending a pretty good racket if you’re good at evaluating the value of properties (or getting them evaluated). Because of the requirement for evaluating property values, many hard-money lenders tend to have certain kinds of property that they prefer to have as collateral. It’s best just to ask each lender which kinds of property they’re comfortable with so as not to draw things out. As a sidenote, due to legal complexities, it can be quite hard to find a hard-money lender willing to work with an owner-occupied residential property — so if that’s your goal, be prepared to put in some serious legwork! Oh, and you can expect an origination fee to the degree of several points as well.

When is a Hard-Money Loan Useful?

In the vast majority of real estate transactions, a conventional loan or a cash deal is almost always preferable. Hard-money loans do definitely fill a few niches, though. Specifically: If you have a rock-solid opportunity but little cash and can’t get a tradition loan, If you have a rock-solid opportunity but little time to act (as hard-money loans can be processed very quickly compared to traditional loans — like within a few days!), If you have a rock-solid opportunity that you can turn around within the term of the loan…which is exactly why this bit of the newsletter is addressed toward flippers.

Is Hard Money the Right Choice for You?

Of course that’s not a question we can answer here. Only you can decide whether the large down payment, high interest, high origination fee, and of course the fact that you’re putting the very property you’re purchasing up as its own collateral are worth the risk that your property won’t actually sell for as much as you anticipate. Even if you do successfully sell the property, it’s not all that hard to end up breaking even or even losing money because you have to pay off the loan!

Finding a Hard Money Lender

The easiest way to find hard money lenders is to start with their favorite audiences. Join your local REIA or other investment group, or just ask around with local real estate agents. Hard money lenders don’t generally advertise, but they’re also not particularly well-kept secrets. But do the legwork before you find a deal you want a loan on, and get a list of a few names you can reach out to simultaneously. Ultimately, the question you have to answer above all others is this: just how rock-solid is this opportunity? Because this is the one time in your life you really must insist on getting a rock on the other side of you and a hard place.

Funding Your First Investment Rental (Without a Mortgage)

How do you buy a house? Easy — you start off rich enough to pay cash, or you get a mortgage and pay “rent” for 30 years for the privilege of not having anyone else take care of the maintenance and upkeep for you. Right?

…Of course not! Getting your first investment rental doesn’t have to involve a mortgage or a huge wad of cash up front. There are literally dozens of other options that are commonplace enough that you can learn all about them with a bit of Googling. Here’s a quick breakdown to inspire your research:

The Option Hidden in Your Bank: Portfolio Lending

Most mortgage originators don’t use their own money to fund their mortgages — they get the cash from institutions like Fannie Mae or Freddy Mac, which means they have to follow the rules that those institutions enforce. Some banks (or credit unions or whatever) do have their own funds to lend — they’re called ‘portfolio lenders.’ Look ’em up!

The Direct-From-the-Government Option

The Federal Housing Administration offers its own loans as well. You can’t finance an investment property with an FHA loan unless it’s a four-plex (or smaller) and you live in one of the units thereof. The big benefit here is that FHA loans are generally the lowest-down-payment of all of the options here. Also Google ‘203K loans’ for an option that will give you money for renovations as well.

Financing Without the Middle-Man

Owner-financed properties are rare, but they are definitely out there. The upside is not dealing with the rules imposed by a bank — the downside is that often an owner-financed home will have an interest rate or other attributes that are less optimal that what a standard mortgage would provide. Google ‘lease-option,’ ‘land contract,’ ‘wrap mortgage,’ and ‘seller financing,’ in order of “favors the seller” to “favors the buyer.”

Hard as a Moneygrubber

See the article above about Hard Money — it can apply here, too.

Private Money

Private Money is very much akin to Hard Money, but in general a Private Money lender is not a professional lender — they’re just a person who happens to have money that they’re willing to lend. Of all these categories, Private Money is the least predictable, because there are almost no hard-and-fast rules compared the other options. Whatever you are capable of negotiating, you can achieve.

Tapping Your Own Resources

The last option is getting in on some creative self-financing. Home-equity loans/lines of credit, IRAs, some forms of life insurance — almost any pile of money you have attached to your name can be turned into currency that you can use to fund the acquisition of an investment home. Go down the list of accounts that exist in your name, and Google the kind of account next to the words “real estate investment,” and you can find all the details you need. With all of the options that are available, given persistence and determination, almost any erstwhile property investor should be able to come up with the money to get a property added to their portfolio — just be careful not to overleverage yourself along the way!