April 16, 2024

Paull Ank Ford

Business Think different

Hard Money Loans and the Total Cost of Borrowing

One of the knocks against hard money is cost. In other words, borrowers ostensibly spend more on hard money loans than they would with conventional loans. Guess what? That’s not always the case. To know for sure how a hard money loan compares to a conventional loan, you would have to calculate the total cost of borrowing.

The total cost of borrowing in a lending scenario is similar to the total cost of ownership in a car-buying scenario. You need to look at more than just the bottom-line interest rate. Lending is a service for which borrowers need to pay. What they pay goes well beyond loan interest.

Interest vs. APR

A loan’s interest rate versus its annual percentage rate (APR) offers a good illustration of the total cost of borrowing concept. The base interest rate advertised on a loan dictates how much interest a person will pay over the life of that loan. It is compounded, of course. APR is slightly different.

APR includes the base rate along with all the additional costs that get rolled into the loan. It is determined based on a combination of standard amortization and paying off loan costs on a month-by-month basis. Note that APR is always higher than a loan’s base rate.

All Those Additional Costs

So, what are all those additional costs? There are plenty of them. They can vary from one hard money lender in Utah  to the next as well. Salt Lake City’s Actium Partners suggests that the following costs are pretty typical of most hard money loans:

  • Origination Fees – Origination fees are assessed to cover the administrative expenses involved in application approval and loan underwriting. A borrower pays these costs just as he would the administrative costs attached to any product or service being purchased.
  • Appraisal Fees – Hard money loans require hard assets as collateral. Assets need to be appraised, and the fees for appraisal services are almost always passed on to the borrower.
  • Points – Points in hard money lending work the same way they do in conventional lending. Borrowers are offered the opportunity to pay a certain amount of cash for points. The more points purchased, the lower the interest rate on the loan.
  • Closing Costs – Closing costs can be rolled into a hard money loan just as they often are with conventional loans. They are tacked onto the principal amount and paid over the loan’s term.

Lenders might charge additional fees depending on how a loan is structured. In fairness, some fees are not rolled into their respective loans. They need to be paid upfront. Lenders and borrowers need to work those things out among themselves.

Don’t Forget Loan Terms

It is easy enough to understand fees and charges in relation to the total cost of borrowing. However, one thing people often forget is the loan terms. Loan terms constitute the amount of time a loan remains active. In hard money, loan terms are typically 24 months or less.

Here is the most important thing to know about loan terms: they directly impact the total cost of borrowing by influencing total interest payments. The longer the term, the more total interest a borrower pays. The opposite is also true. Shorter terms mean less interest paid over the life of a loan.

It is true that hard money loans tend to have higher interest rates than their conventional counterparts. But that does not automatically make them more expensive. Depending on a loan’s term and structure, a borrower could actually pay less for a hard money loan. While that might be hard to believe, it’s still true.