Most investors would agree that buying an investment property is different than buying your primary home. While a traditional mortgage may make sense for your main home, this is not always the best option for an investment property. So where do you get cash for your real estate investment? One option is to find a private money lender. A private money lender (or private investor) offers a different way of getting financing and can be a big help when looking for capital for your real estate investments.
But how do you find private money lenders who may be interested in investing? What’s the best way to approach them? And how does it work? Check out this overview to help you better understand this concept.
What Is A Private Money Lender (a.k.a private investor)?
A private money lender is an individual who uses their own capital for real estate investments. This could be anyone with the financial ability to meet your monetary needs. They’re a private person, not part of a bank or other financial institution, and will deal with you directly when negotiating the terms of the loan.
Private Lenders vs. Other Types of Lenders
Traditional mortgage lenders care mostly about your credit score when evaluating you as a prospect for a loan. That, plus the term of the loan and the amount borrowed, are some of the biggest factors in determining how much you will owe with a traditional mortgage.
Private money lenders care more about your real estate track record than your credit score. They want to be protected by having a first deed of trust — or the primary mortgage — on the property. That means their money is secured by a hard asset. If you don’t pay, the property serves as collateral.
Private money lenders are more relationship-based. They may even be a friend or family member, and they often have different approval requirements and may not care about your credit score at all. They will usually move at a faster pace than traditional lenders. The pros and cons of private money deals have to be weighed before you decide to use this type of funding.
How To Use a Private Money Loan
A private money lender will let you use their private money for buy and hold, fix and flip, and everything in between. Lending terms can be short or long-term. The money can come in lump sums or installments, with or without interest payments, and with profit-sharing or not. The possibilities are only limited by you, the lender, and the creativity you both bring to the table.
Who Are Potential Private Lenders?
There are three circles of people you can reach out to when you want to find a private lender to fund your real estate deals:
The primary circle: friends and family
This circle is made up of family, friends, and acquaintances. It could be a parent, aunt, co-worker, the goalie from your soccer team — any individual you personally know. Many real estate investors find their first funding from this circle. Why? Because there’s a low barrier to entry. Also, they are inclined to say yes because they know you and hopefully want to help you with a private loan.
There are, however, negative aspects of raising money from friends and family. They may not be knowledgeable enough to know the difference between a good deal and a bad one. Be very clear about the risks. Ensure your lender has enough money for the deal and can afford to lose the investment if it goes south. Otherwise, the deal may sour the relationship.
This circle can provide that essential initial source of funds — like earnest deposit money. Using money from primary circle lenders gives you time to create value by locating and locking up deals so that you can raise additional money.
The secondary circle: friends of the primary circle
The secondary circle of investors is the friends and colleagues of your primary circle. The bigger your primary circle, the bigger your secondary — so get out there and make more friends and contacts through the BiggerPockets Forums and other social networking groups. Your secondary circle is, appropriately, the second-best source for raising capital. They’ll generally be receptive to listening to your proposal, given that your primary circle’s mutual contact gave the nod of approval.
But take the good with the bad: It will likely take more time to raise money since this group is less positively inclined to say yes. You’ll need to prove your worth by preparing an investment presentation and meeting investors face to face.
The third-party circle: lenders you don’t know
This circle consists of people you don’t know personally, like investors removed from your network. This circle is the biggest capital pool that you can access, but it takes the longest to convert them into capital partners since they don’t know you personally or professionally.
How To Find Private Lenders for Real Estate Investments
Your journey to finding the perfect private money lender should start with lenders you know and their contacts — or the primary and secondary circles.
Spread the word
Chronicle your investment activities through social media as a credibility boost among those you already know. It consistently reminds people that you’re a real real estate investor and a professional at what you do.
Additionally, call or email people who you already work with, like agents, title company reps, your CPA, closing attorneys, and everyone in between. Chances are you already have a relationship with someone who knows someone who can help you. This method can dig up a handful of small lenders with $10,000 to $50,000 they’re looking to invest.
The hard sell
Sit down with the potential lender and present your business plan. Have a proper, professional presentation and a pro forma package for them to review. Staying businesslike ensures you’re taken seriously by any contacts who run a bit more formal or private lending companies. Show them why they should invest with you. They’ll want to know:
- What deals have you completed?
- What return can you provide?
- What deals are you looking at right now?
By showcasing your success through social media and other outlets, more individuals will come to you, asking how they can also benefit from your success. With enough experience and success, it won’t be long before you stop seeking out private money lenders — and instead, they seek you out.
Seeking Out Lenders You Don’t Know — Yet
Eventually, you might get to the point where two to three awesome lenders are helping you complete deals left and right. But what happens if you happen to lose one — or even all three? It’s never a bad thing to forge relationships with lenders. Before connecting with these individuals or companies, you’ll need to go out and find them. Here’s how:
Network, network, network
Attend every local meetup you can — whether at your city’s real estate club or a BiggerPockets meetup. Also, go to your local chamber of commerce meetings and any real estate-related conferences you can find. Put yourself out there and ensure those who previously didn’t know you get to and want to work with you.
Public record search
If networking isn’t taking off and you don’t know anyone with money, try searching public records. Each time a mortgage is made, the related documents are publicly recorded, and you can find the information online or in the public records building itself. You can find out who the lenders are on properties from these documents.
Specifically, you are looking for the “grantee” (mortgage provider) line. You want to find grantee lines that have either a person’s name or a corporate entity name, not the name of a bank. These are potential lenders for your next deal.
Online direct mail lists
Rather than looking up every property to find the lender, try one of these data broker sites:
You can also have the lenders come to you by posting your real estate deal on the following sites:
What can you do after you have downloaded a list of names from ListSource or DirectMail.com? Reach out to them, of course!
After creating your list of potential lenders, find their phone numbers and give them a call. A basic script you can use when cold calling looks like this:
“Hello, is this John? My name is Anson, and I see you lent money for a project on 123 Main St. My company does similar fix-up projects, and I’m calling today to see if you are looking to lend more on these types of deals and what your loan terms might look like.“
From there, the conversation could go 100 different ways. This is a relationship game. Build rapport by talking about projects they are working on, other investors they work with, their kids, the local sports team, or one of a dozen different things. Show them how you bring value, and don’t just pitch. Lenders will be able to see through phony enthusiasm.
Direct mail marketing
If you don’t want to call, you can send letters. You want to provoke an initial reaction, get them to call you, and start building rapport. Mention the property they lent on, so they know what you’re talking about — and, of course, bring it back to your current deal and that you are currently looking for new private money lenders.
Make sure to include your call to action, asking them to contact you to discuss this further. But use the contact information you find only to build a relationship. Soliciting others randomly for money can be both illegal (for you) and annoying (for them).
How Private Money Deals Are Structured
For buy-and-hold real estate investments, private money, and hard money deals are structured much like a conventional bank loan. The lender puts up the full amount to buy and rehab the property. The buyer repays the loan at an agreed-upon interest rate (often a higher interest rate) and amortization schedule.
These loans are usually for five years or less, with balloon payments at the end. Many times, the lender agrees to refinance the loan at the end of the term because they like the stability of income.
Private lenders can also function as a second mortgage behind a primary bank lender to cover down payment or rehab costs. There are two things to remember when doing something like this:
- Be sure your lender understands their position as a second mortgage holder.
- Be sure your primary bank lender will allow it, as some don’t because they want some of your skin in the game.
You might negotiate a profit-sharing agreement for fix and flip deals with private lenders. In these types of deals, the lender loans the entire amount to purchase and rehab the property. Then, once the property is sold, the profits are split as per your agreement.
There are no monthly payments, and the lender has no say in terms of how the property is rehabbed and listed. But, of course, keep them informed throughout the process.
In both cases, significant amounts of paperwork are drawn up to protect every party. A proper closing is held with an attorney and all monies are properly escrowed or exchanged.
A deed of trust is always recorded, and a promissory note outlining terms and conditions is always executed.
Can You Pool Private Money?
Yes, you can — with many legal conditions. Laws have recently changed to allow crowdsourcing. Plus, syndications, or combining investor monies into an entity such as an LLC, have been used for decades.
That said, while pooling can be done, you need to be aware of state and federal rules. Advertising is a big no-no, for example. You can get into some real trouble if you do not report the right information or structure your dealings properly.
There you have it — all the ways to find 100% private money. Go out and network, promote yourself, and use any of these creative ways to seek out lenders and get some money to do some deals.
Any questions about finding private money? How do you go about doing it for your deals?
Let me know your thoughts with a comment!
Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.