No lender likes to see a loan go bad. Lenders do not get into the business because they want to see borrowers take out loans and then not be able to repay. When loans do go bad, lenders need to react. They need to respond in some way, shape, or form. Let us look at hard money as an example.
Hard money is private money lent out by firms that might be working with funds contributed by multiple investors. Such firms have a fiduciary responsibility to their investors. As such, they have to offer very clear terms along with equally clear solutions for remediation when loans go bad.
Hard Money Is Asset-Based
To understand how hard money lenders react when loans go bad, it must first be understood that the hard money model is asset-based lending. What does this mean? Salt Lake City’s Actium Partners explains that borrowers must offer a hard asset as collateral. Most of Actium’s loans go to real estate investors. The property being acquired acts as collateral on the loan.
Most hard money lenders want to be in the first position in order to protect their investments. Rare is the lender willing to accept second or third position. Being in first position allows the hard money lender to take immediate action when a loan goes bad.
Time to Cure the Loan
It should also be noted that hard money lenders are not predatory lenders hoping that borrowers default so that they can seize property. Lenders are investors. They have no interest in being property owners or having to go through the process of disposing of a seized property. So they do whatever they can to avoid such scenarios.
In most cases, a borrower is given time to cure a loan deficiency. It will not be too much time, though. The time frame is generally 30-60 days. In addition, the lender will usually assess a higher interest rate moving forward. Higher rates are another tool for protecting the lender’s interests.
As long as the borrower brings the loan current within that limited time frame, things go on as normal. The borrower continues to make monthly interest payments followed by a balloon payment at the conclusion of the loan. But if the borrower fails to cure the loan, the lender must react.
Hard money lenders are a lot like borrowers in the sense that they want to avoid foreclosure when possible. Foreclosure is a costly process that only further risks the lender’s investment. To avoid it, some lenders will offer what is known as a ‘deed in lieu of foreclosure’.
Under such an arrangement, the borrower voluntarily surrenders the property by signing the deed over to the lender. The borrower walks away, and the lender has an asset worth more than the outstanding balance on the loan. The property can then be sold. All sale proceeds go to the lender. Meanwhile, the borrower’s credit history isn’t saddled with a foreclosure for the next 7-10 years.
If a deed in lieu of foreclosure is either not possible or rejected by the borrower, a lender has no other choice but to foreclose. Because of the way most state laws regulate hard money lending, foreclosure can happen fairly quickly. It doesn’t take the 12 months or more typically associated with residential mortgages.
Hard money lenders certainly do not hope for loans to go bad. Nonetheless, sometimes they do. That is the nature of the hard money business. And when loans do go bad, lenders need to react. They need to protect the best interests of their investors.