Why would I consider lending you money to buy properties?

The following is the frequently asked question answer to: Why would I consider lending you money to buy properties?

In our current financial markets you have several options for investing your capital to get a fair return and lending money secured by real estate may be an extremely competitive way to earn a return on your investment.

Let’s consider some alternatives and see how they compare to private lending.

Certificates of Deposit

Maybe you have considered investing in Certificates of Deposit (also known as CDs). The overwhelming majority of people would consider CDs an extremely safe investment with a very, very high probability of preserving your initial capital investment and relatively low return on your investment. CDs are also usually relatively liquid. This means that if you really needed access to the money you had in a CD, usually for a nominal penalty, you could access your capital earlier than the agreed upon investment duration.

Bonds

Or, perhaps you have thought about investing in Bonds. Each bond’s return, risk and likelihood of preserving your initial capital investment is different. Typically, bonds offering higher rates of return do so because they are considered to be a higher risk. While many people would consider bonds to have a relatively high liklihood of returning your full capitial investment, it is possible to lose money investing in bonds.

Stocks

Many investors are familiar with investing in Stocks (usually via the Stock Market). Unfortunately, history has shown the while the stock market as a whole has historically had an upward trend and there have been periods of amazingly high returns, there have been periods of extreme and significant losses of capital and sub par performance lasting many years. During periods where the stock market is going up, many people believe that the stock market is the place to invest. Stocks, as history has repeatedly shown, can also drop to fractions of their intitial value and even go to zero leaving you with a loss of capital.

Private Loans

Other investors have decided to lend money secured by local real estate as a Private Lender. In many ways, private lenders are acting just like a bank would except instead of agressively lending with very high loan to values, they insist on lending a smaller amount in comparison to the value of the property that secures the loan.

Just like most Certificates of Deposit, the notes that describe what you earn with Private Loans usually have a fixed return and a fixed duration. This is very different from investing in a stock where the return is dependent on the performance of the business (good or bad) and the management of the business.

How Banks Lend Money and Earn A Profit

Banks will often pay you a low return for depositing money with them and then turn around and lend your money out at a higher rate so their other customers can buy real estate. The bank makes a profit by paying you a small return and then lending money at a higher rate. With Private Loans you can become the direct lender of your money and earn the higher return directly.

Bad Bank Policy

Some banks were lending more than the value of the property they were lending against (loans with greater than 100% Loan To Value) and ran into significant problems with that strategy. Traditionally, banks would lend 80% and sometimes 90% of the value of the property knowing that in a worst case scenario they could sell the property that secured the loan.

As a Private Lender you act like the bank and get the same paperwork that a bank gets: a note that describes the loan and a security instrument that ties the loan to a specific piece of real estate. Plus, just like the bank, you are named as a lender beneficiary on the insurance policy which helps to protect your investment from things like fires and other natural disasters covered by the insurance policy.

Just like a bank, the paperwork and the actual distribution of the loan is handled by a third party: usually a title company or escrow company (depending on what is customary in that real estate market).

Until my next post,

James

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