Today we’re going to discuss what exactly a private mortgage lender is. This might be a term you’ve heard floating around or someone may have even suggested it to you as a viable option to buy a house. There are some great things about private lenders that you might want to know about and some absolutely atrocious things that you NEED to know if you want to avoid some serious heartache.
They sound exclusive and alluring don’t they. Who doesn’t like a private club, or a private entrance to their house, or a private party. Well, in the mortgage world it’s not really the same things. A private lender refers to someone who is not an institutional lender, it’s just a guy who’s willing to loan you money to buy your house. This can literally be your dad…but you tell me what sounds better “I got a private VIP mortgage for my house” or “my dad lent me the money.” Just like most things in life it’s all about the marketing.
When you set up a private mortgage to buy your house you’re literally entering into a contract with a private investor and that could be your family or friends or someone you were introduced to or found through some kind of networking.
First, let’s go over why you might want to go with private funding.
You can’t qualify for traditional funding
Conventional home loans have a strong set of regulations. They look into your employment history, your credit score, your income situation…it’s a pretty exhaustive look at your financial life. They do this to both protect you and themselves in the transaction. When they underwrite your loan in traditional financing they put you under a microscope and make a nice thick file on you so that they know you are most likely going to be able to make the payments you agreed upon.
But what if you don’t qualify? Either you have a non-traditional way of making money or your credit is too poor to get a loan, or maybe you need more money than a typical lender is willing to give you. Then a private loan may sound quite tempting.
Faster Approval Process
Most private lenders are lending to people based on far less criteria so getting approved for the loan can be as quick as a phone call.
Everything is Negotiable
Since you’re dealing with just some guy willing to lend money, everything is up for grabs in negotiations. You want to pay less the first year, you might be able to convince him of that, you want to delay your first payment for a few months – it’s on the table. Negotiating terms can be a huge advantage if you’re savvy and know your way around a deal.
However, private mortgages are not all peaches and cream. In fact, the cons in my opinion FAR outweigh the benefits. Not only do private loans often have much higher interest rates, they also have shorter terms. So instead of paying off the loan in a normal 30 year or even an accelerated 15 year like you would with a traditional lender, you’re going to likely be looking at a 7 or 10 year repayment in full or for a large portion of the loan and then at the end of that term they might expect a big lump sum of the rest called a balloon payment.
Most private mortgage loans are also done in what we call a non-arms length situation meaning the person loaning you the money has a relationship with you – they’re just an arms length away. Like your family, friends or boss…and a huge issue with this is that your relationship with someone can get very hairy very very quickly if they’re also your debt collector. Just think, how close would you and your best friend be if he owed you fifty-thousand dollars and every time you went to dinner he told you the check was in the mail – my guess, you wouldn’t be best friends for long.
Can you get it done? Yes, absolutely. There are reasons when a private mortgage is perhaps the only option on the table but I will say that in 99.99999% of casese it’s better to work on your credit score, work on your income and employment situation and just put off owning a house until you can qualify for a normal conventional home loan.
In fact, a quick phone call with someone like me who can look at your situation and recommend how to get on a path so that you can afford a home in six months or a year or even two years might make all the difference in the world.
If you do still decide that a private mortgage is the best way to go you’re definitely still going to want to get the paperwork in order which is going to include a promissory note and a deed of trust amongst other things. I would highly recommend that you get a good, solid escrow company involved and if you feel they can’t explain certain parts of the process you might also want to get a real estate professional (either a very seasoned real estate agent or real estate investor or even a real estate attorney) to consult with on the deal so that you know exactly what you’re getting into.