When looking for financing as a fix and flip investor, it's essential to understand various terms and concepts related to real estate financing. Here are some must-know terms:
Hard Money Loan: A short-term, high-interest loan provided by private lenders or investors, typically secured by the property itself. Hard money loans are often used by fix and flip investors due to their faster approval process and flexibility.
Loan-to-Value (LTV) Ratio: The ratio of the loan amount to the appraised value or purchase price of the property. Lenders typically have maximum LTV ratios, which can affect how much you can borrow.
After-Repair Value (ARV): The estimated value of the property after all planned renovations and improvements are completed. Lenders use ARV to assess the potential profitability of the project.
Interest Rate: The percentage of the loan amount that the lender charges as interest. Interest rates can vary based on factors such as the lender, loan type, and your creditworthiness.
Origination Fee: A fee charged by the lender for processing the loan application. It's typically a percentage of the loan amount.
Points: One point equals 1% of the loan amount. Lenders may charge points as a way to increase their yield on the loan.
Loan Term: The duration of the loan, usually expressed in months. Fix and flip loans typically have short terms, often ranging from 6 to 18 months.
Amortization: The process of gradually paying off the loan principal and interest over time. Some loans, like interest-only loans, may not involve amortization during the term.
Prepayment Penalty: A fee imposed by the lender if you pay off the loan before the end of the term. Make sure you understand the prepayment terms before accepting a loan.
Draw Schedule: For rehab loans, this is a schedule outlining when the lender releases funds for different stages of the renovation project.
Contingency Fund: An additional amount of money set aside for unexpected costs or overruns during the renovation.
Personal Guarantee: A commitment by the borrower to be personally liable for the loan in case of default. Some loans may require a personal guarantee.
Debt Service Coverage Ratio (DSCR): A ratio that compares the property's net operating income to its debt obligations. Lenders use this to assess the property's ability to generate sufficient income to cover loan payments.
Loan Application Process: Understand the steps and documentation required to apply for the loan, including credit checks, financial statements, project plans, and property appraisals.
Exit Strategy: A plan outlining how you intend to repay the loan, such as selling the property or refinancing, once the project is complete.
Cross-Collateralization: Using multiple properties as collateral for a loan. This is common when dealing with a portfolio of investment properties.
It's crucial to thoroughly review and understand the terms and conditions of any financing option before committing. Consult with a financial advisor or a real estate attorney to ensure you make informed decisions that align with your investment goals.
Larry L. Gilmore, CMB, AMP
ClearBlu Group
President & CEO
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