Hard money lending or cashflowing properties with little or no appreciation?
August 30th, 2006 by KenricWould you buy some properties in a historically non or slow appreciating area at a 12% cap rate or lend out that money at 12%?
One is obviously less work, but what are the risks of both?
Let’s say I have $50,000 and I go purchase a house in the mid-west for $50,000 cash. It has a cap rate of 12% which brings in $6,000/yr. My PM would be handling all the leasing and tenant contacts but inevitably there will be some vacancies, repairs and maintenance that may eat into that 12% cap rate. Also, I’m looking at a 6% realtor fee hit when I go to sell, so if there is absolutely no appreciation, I will lose $3,000 at time of sale.
On the other hand, I lend my $50,000 secured by some property at 70% or lower LTV. This loan would bring in $6,000/yr also. I would have no property headaches to deal with but 0% chance of any capital gain.
Those are the simple pros and cons of both. There are many what-if scenarios in either case that can sway you to either side. I’m not sure which direction to go, but am thinking of doing a little of each.
I like the idea of cashflowing properties in decent low priced areas. I think that there will be some appreciation in them, maybe up to 3% a year. Furthermore, if I can purchase these properties at a significant discount (which is definitely possible in today’s market) then I can have some equity built in and cashflow even more.
My concern on hard money lending is what happens when I don’t get paid. Sure I can foreclose and get the property. But will I even want the property? What do I do with it? What if it’s in mid-construction?
Posted in Real Estate | 
Stumble it!
Two things to consider:
1. Risk on the hard money loan. Is the loan being made in real estate sector?
2. Taxes. Interest on the hard money loan will probably be ordinary income rate. Expenses can be offset against the rental income.
By rags2riches on Aug 30, 2006
What’s your time frame for this investment? How long do you want to keep your money tied up? If it’s very long term, I’d go for the house. If it’s short term, go for the hard money.
Since you are talking about the midwest, I’m assuming the $50K would completely pay for a house and you’d have no mortgage. A plus of this investment is you can get a HELOC against the house and if you have an emergency, you can pull some of the money out for you to use.
With a hard money loan, you have no access to your money until the loan is repaid. If the borrower doesn’t pay, yes, you’ll need to foreclose and sell a property that is possibly not completely built. Is that any more of a hassle than evicting a tenant that doesn’t pay, taking care of maintenance on a rental property, worrying about vacancies (even with a property manager), and all the other issues of being a landlord? That’s something you’ll have to decide.
A little of both is good, if you’ve got the funds to do it.
By Shaun on Aug 30, 2006
I don’t have any timeframe in mind. I’ll try to concentrate on long term cashflow. My assumption is that with a HML, I will be able to keep rolling that money from loan to loan indefinitely.
$50k would be the price of the entire house. It’s true that the money in a house could be semi-liquid compared to a HML. In fact, I could probably pull out 80% of it and still cashflow.
By monarchcrest on Aug 30, 2006
Rags,
Yes, the loan would be secured by real estate.
You make a good point about deductions with a rental property vs. a HML.
By monarchcrest on Aug 30, 2006
I have an idea. How about we partner and scoop up houses here in Phx? lol
By prlinkbiz on Aug 30, 2006
I would but they don’t cashflow!
By monarchcrest on Aug 30, 2006
If you decide on the house, you would be better off splitting your $50k up to use as a downpayment for several houses and obtaining financing for each. This assumes you could finance them at less than 12%. This will blow up your cash on cash return for your $50k investment.
Year 1, single house = $50k investment, $6k return
Year 1, multiple houses = $10k downpayment on each of five houses with a $40k loan for each. You still invest $50k, but the return is 12% of the $250k worth of real estate you control ($30k). Even if you borrow at 8%, and pay $16k in interest, you still keep $14k.
Leveraging your cash investment provides a greater cash on cash return (28%) v. the all cash investment return of 12%.
By Cameron on Aug 30, 2006
Normally I would advocate leveraging and getting multiple homes. However in this case there are many reasons that I would not do this:
1) Getting a loan of $40k is difficult as most lenders like to loan out more. The rate may be higher and closing costs may amount to 10% of the loan!
2) I would probably bring in partners on this and create a multi member LLC and purchase multiple homes.
3) We can purchase the property will a new LLC when we pay all cash. If we got a loan, we’d have to buy in our names.
4) Once the LLC has established enough credit and cashflow (hopefully in 1-2 years) we can refinance any money we need out of these homes.
5) The purpose of this investment is cashflow. Capital gains investments will be done in a different area.
By monarchcrest on Aug 31, 2006
too bad there are no recent posts on this. I was buying and fixing up and reselling had some extra money and i lent it out the hard money route. i recieve 18% plus points. the loan was for 5 years cuz i dint no any better (it was my first and only one)about a year later it went into foreclosure she refied it and paid me off. whew. now if i were to do one term would be max 2yr. about the liquidity … u could sell that note to a hard money lender and recoup all ur cash.
there is way to do this tax free and the buying and selling can be tax free too thus avoiding the mess of a 1031.
if i could sell u a 1600 sf house in the area of camel back and 69 av for 130k dont u think u could make it cash flow? be creative, offer the renter an option to purchase at a price that makes u a decent return with option consideration of so many dollars per month (over and above the rent) make the option apply to down payment. try getting more by giving more … ie. say ur option was 100/month tell the renter if he can pay 200 per month he get a 400 per month credit to purchase price and down payment if 300 he get 600 or what is really wild offer him twice what i am suggesting or even more … here is how u get it back. say ur purchase price is 130 fix up is 15 ur in for 145 the value in that area is about 210. say u want to make 30 that brings u to 175 make ur predetermined sale price at 185 ot 190 that give u back 10-15 in give aways for the option. just make sure that the amount that is free to the renter does not excede the 10 or 15 so the renter is getting a house that is worth 210 for 175. u make a positive cash plus 30 at closing. (chances are he wont exercise the option). but it does not matter
have an interest in this … give me a jingle at 623-845-0972 or 623-206-8935
By bill or puss_n_boots_owner@yahoo.com on Jan 7, 2008