Are private lenders a better choice when you’re looking to take out a mortgage for a house? Are they better than the banks? The answer depends on several factors like whether you’re looking for a short-term or long-term product.
Your credit score and current financial situation make a difference too. Read on to find out more.
Making an informed decision about the mortgage product that’s right for you means having the right information. The real estate world can be overwhelming. The mortgage market presents different possibilities including private lenders.
An Alternative Solution
These act as an alternative to more traditional lending institutions. These private lenders finance loans to businesses and individuals with money that’s not tied to a bank or credit union. They can be a company or individual. These lenders can cover a variety of different loans, but personal and real estate are the two most common areas. You can get a loan for a house this way quickly.
They look beyond the traditional criteria like credit scores. Private Lenders are willing to make loans to borrowers that don’t meet the mortgage stress test criteria in some circumstances.
If you’re finding a roadblock by using a traditional lending institution to get a mortgage, private lenders can help. It’s possible to get a first, second or third mortgage or even a bridge loan through them.
Here’s what you need to know about the private lending side.
Private lenders use different criteria to decide if you’re eligible for a loan. Beyond credit scores the traditional institutions rely heavily on, these alternative businesses look at:
- Income. These are flexible lenders who will look at alternative sources. For example, a private lender will include self-employed income as well as money brought in from investments and even the child tax credit. Private lenders are excellent for situations where people need fast financing and they don’t want to wait for a more traditional approval process.
- Real Estate and Other Assets. Private lenders will also use existing real estate and other assets as collateral. Loans are often called hard money. These refer to the assets that underlie the small loan itself like a condo, cottage, or home.
You’ll more than likely need to come up with a bigger down payment when you’re using a private lender. Banks base low lending rates on excellent credit. They are considered low risk even though there’s a small down payment. Sometimes these down payments with a bank can be as little as 5%.
Larger Down Payments
Private lenders ask for larger down payments in order to manage their risk. This higher downpayment can offset credit shortfalls. It’s important to remember that they are more flexible than traditional banks. Private lenders aren’t regulated in Ontario. Mortgage brokers specializing in private lending will be regulated under the Ontario Mortgages Act. If you find a place and the owner wants to sell, making a large downpayment can open up new financing options.
More Private Lending Criteria
Private lenders use other different criteria adding to the ones listed above. These can make the process fast.
For example, the loan-to-value (LTV) of any existing property is an important benchmark. If a private lender is trying to determine whether to supply a second or third mortgage, this comes into play.
This is the metric that compares the amount you’re applying for with an appraised value of your home, condo, or cottage. Many private lenders will supply a second mortgage for up to 75% of this number. These lenders also give first mortgages with rates that average around 7 or 8%.
Finance for Short Periods
Other types of loans include bridge loans that finance for short periods, consolidation loans to pay off high-interest credit cards, and home improvement loans for immediate renovations.
Local market demand also comes into play. The factors that go into this include how many people are shopping in any given neighborhood and how much they’re willing to pay for homes there. How many of those homes are available is another factor for any property. This is about who is willing to sell.
One of the other factors influencing local market demand in places like Toronto, Oshawa, Pickering, and Ajax is interest rates. The lower the rate, the more buyers and that equals a lower cost of getting a mortgage. When rates are low, it’s important to act quickly.
In the end, private lenders and banks aren’t always competing for the same customers. The private lender can be better for people who have a problem proving their yearly salaries and are suffering from poor credit.
Deciding on using a private lender can come down to understanding the fees involved.
- Interest payments form the bulk of the money private lenders get. They usually range between six and 10% on a second or third mortgage.
- Set-up fees are also included. These cover the support staff and some other necessities. Typically they are around 2 percent.
There are a variety of other fees including ones for administration if the borrower misses payments. An appraisal fee and legal fees to close the mortgage can also be included. For example, to close a mortgage the combined borrowers’ and lenders’ legal costs can range from between $1000 to $3000.