It is essential to make careful financial preparations before applying for a hard money loan to fund your flipping project.
Every flipper who has been in the game long enough already knows hard money is their best solution when seeking capital.
That’s because hard money lenders base lending criteria on the ARV (After Repair Value) of a property rather than the borrower’s credit history.
Hard money loans are tailored specifically for real estate development with short terms, flexibility and fast approval.
But there are still financial preparations flippers can make to speed up that approval process.
There are unlimited opportunities in California’s real estate market.
But equally, there are many roadblocks for the naive and ill-prepared.
That’s why it is critical to be ‘funding-ready’.
What is ‘funding-ready’?
In terms of a hard money loan, ‘funding ready’ means you have been pre-approved by a hard money lender to purchase a property.
This is especially important in the highly competitive California real estate market where any kind of delay often results in losing a deal to a competitor.
The high cost of California real estate and tight timelines also make being ‘funding ready’ imperative for flippers.
To gain ‘funding-ready’ status, you will have to illustrate to your hard money lender all the risks of the project.
They includes potential permit delays, market volatility and even wildfire hazards.
You will also need to demonstrate how the project will generate a healthy margin while satisfying all the core metrics used by lenders.
Core metrics used by hard money lenders
Unlike traditional lenders, hard money lenders aren’t overly bothered by the credit history of a borrower.
Their primary concern is the security of their loan based on a guaranteed return on their investment.
To assess that investment, they use the following core metrics:
Loan-to-purchase – In California, this generally maxes out at 80-90%. In other words, lenders require a downpayment from the borrower of 10-20%.
Loan-to-ARV – This commonly sits at a maximum of between 65-70%.
Rehab budget accuracy – The operative word here is accuracy. Your estimation does not have to be down to the last dollar but it must be realistic, complete and executable with no hidden risks. It helps ensure the project is completed on time and within budget.
Loan-to-cost – This reflects how much cash the lender is stumping up as a percentage of the total cost of the project (purchase price and rehab budget). Experienced flippers may receive 80-90% of the total cost while newer investors might only be offered 75-80%. It helps protect borrowers from under-budgeted flips or inflated ARVs while encouraging the flipper to stick with the project.
Loan-to-value – This is the percentage of the loan against the lender’s valuation of the property (not its actual purchase price). In stronger markets, this normally has a maximum of between 70-80%. Inland markets may rise to only 60-70% with smaller counties even lower. It protects the lender in the event of a foreclosure and is a reflection of the borrower’s estimation of the property’s value rather than its actual sale price.
Projected timelines – Lenders will closely examine timelines to ensure their feasibility. California is notorious for delays due to local government permits, inspections and difficulties securing contractors. These delays can significantly push up holding fees and ultimately jeopardise projects.
How to prepare thorough financial preparations
Experienced flippers will have developed a relationship with their hard money lender based around mutual trust.
Newbies to the game can gain trust quicker by making thorough financial preparations that meticulously detail their project.
This gives lenders confidence in their ability to complete the project and repay the loan.
Their business plan or practical checklist should include:
Clean deal summary – A one-page document with all the relevant numbers and information (purchase price, rehab cost, ARV, flipping experience and exit strategy) and full disclosure of all challenges (foundation cracks, tenant issues, permits).
The summary relies on accuracy and honesty. If you declare rehab will cost $100,000 and you have been quoted $150,000 by a contractor, you don’t have a ‘clean deal’, you have a dirty deal!
Line item rehab budget – Details all the rehab expenses including demolition and debris removal, materials, labor, equipment rental costs, permits and fees. Include a buffer of around 10% to account for any unexpected expenses.
Contractor bids – A deeper look into your rehab budget with details of all contractor bids and estimates. California’s building costs usually run higher than other states because of the demand for work.
Comparable sales report – This will illustrate the sale prices and profit margins of properties and rehabs in the area. It needs to be specific to the micromarket you are operating in. Take care to compare only similar projects, making adjustments where appropriate.
Borrower experience summary – A summary of your experience as a flipper with details of previous projects, profit margins, timelines and funding.
Exit strategy – Provide clear evidence of your desired exit strategy with timelines along with at least one alternative strategy in the event of unforeseen circumstances. If your project doesn’t sell on time, you may need to rent it or secure alternative avenues of finance.
Common traps and pitfalls that kill funding fast
Even with thorough financial preparations, there are some common traps and pitfalls that will have your lender showing you the door rather than the money.
Soft-cost underestimation – Soft costs are the cost of permits, insurance, utilities and all other holding costs. They can be easy to underestimate and mean that your numbers just don’t stack up.
Inflated ARV arising from non-relevant comparisons – When assessing your ARV, like for like becomes a critical factor. That means comparing recent sales of similar properties in that specific micromarket that have undergone comparable renovations. It is also important to adjust for differences between properties including square footage, number of bedrooms and other unique features.
No contingency buffer – Always factor in a buffer of 10-20% to account for unexpected costs. Without it, your profit margin may be eroded and your lender will likely reject your application.
Overleveraging multiple simultaneous projects – Lenders get nervous when their loan repayment relies on the success of other projects. While taking advantage of financial tools like a capital stack is a great way to grow your business, your lender will want significant confidence and faith in your ability to complete projects before getting on the end of the queue.
Poor documentation – If your financial preparations clearly have blocks of information missing or numbers inflated, expect a swift rejection.
Get finance and support today
Flipping houses successfully relies on borrowing capital.
Hard money lenders are the best option for flippers because they can provide fast money with flexible terms.
But for new or inexperienced flippers, knowing how to secure fast money can be overwhelming.
That’s where Equidy can help.
Equidy has an intimate and personal history with all aspects of property development in California and has done so for more than four decades.
They can assist you with your financial preparations to help you acquire the capital you need and maximize the return on your investment without putting yourself at unnecessary financial risk.
And now for the best part …
Equidy doubles as a hard money lender who can finance flippers and developers in as little as 48 hours.
They stand by their core belief that anything is possible and are determined to prove it every single day.
Even in difficult economic times, they love to reward entrepreneurship and strive to help their clients realize their wealth creation dreams.
Equidy enjoys long and established relationships with serious investors, sellers and real estate professionals while leveraging their reputation and trust, using clear communication to minimize the risk to all parties.
Contact Equidy today to book your free strategy call.
