Hard money business loans: What to know

Images by Getty Images; Illustration by Issiah Davis/Bankrate

New businesses and startups can sometimes struggle to get approved for a business loan — especially if they haven’t established business credit or have bad credit.

Although it’s a risky alternative, a hard money business loan may be an option if you need financing but can’t get it with a traditional or online lender. Understanding how a hard money loan works, the pros and cons and how they compare to other business loans can help you decide if this option is the right choice.

What is a hard money business loan?

A hard money business loan is a secured loan that uses a company’s property or assets as collateral. Hard money loans refer to how difficult it is for a business to repay the loan. This type of loan focuses more on the value of the collateral backing the loan rather than other eligibility requirements like credit and revenue.

Hard money business loans usually have high interest rates and short repayment periods, like short-term business loans. Hard money loans are often riskier than business loans since they don’t use traditional factors to determine eligibility and terms.

If you default on hard money small business loans, you could lose the business property you use as collateral. Still, this type of short-term business loan may be an alternative for startups and businesses with bad credit or no credit if they lack other options.

Hard money business loan vs. traditional business loan

A hard money business loan is generally easier to get than a traditional business loan, which may require good credit, years in business and sufficient cash flow to qualify, plus collateral. However, traditional loans typically have longer repayment terms with lower interest rates and fees than hard money loans.

Depending on the loan type, traditional lenders may require a down payment as low as 10 percent or as high as 30 percent. But private hard money lenders may expect 30 percent or more as a down payment.

Traditional, alternative or online lenders finance small business loans. Hard money lenders are typically small organizations, private individuals, businesses or funding groups willing to take on more risk.

How a hard money business loan works

Private lenders and investors are the most common options for hard money lending as the loans mainly rely on the value of property or collateral you use.

Hard money lenders have fewer regulations than traditional lenders, making financing requirements unclear but often easier to qualify for. Hard money loans are often used for business acquisitions if you’re looking to expand your business. Expect loans with high interest rates and short repayment terms to reduce the lender’s risk.

To assess risk, lenders use the loan-to-value ratio of the collateral asset. The ratio is the collateral value compared to the loan amount. While traditional lenders often go as high as a 90 percent loan-to-value ratio for business loans, hard money lenders may only offer up to 75 percent loan-to-value ratio.

Pros and cons of hard money business loans

Alternatives to hard money business loans

There are alternative small business lending options you might consider besides hard money loans. Consider your financing needs, loan amount, credit and other factors to determine which alternative financing is right for your business:

• Equipment financing/loans: If you need equipment like a vehicle, office furniture, machinery or other assets, equipment financing may be a better option. Equipment loans usually come with additional fees besides interest, so compare your options carefully for the best deal.
• Invoice factoring: If you have outstanding customer invoices, you can sell them to an invoice factoring company for fast funding. Rather than use assets or property as collateral, invoice factoring companies use your customer’s creditworthiness.
• Term loan: A secured business term loan also requires collateral and may offer more favorable terms than a hard money business loan. If you have a good relationship with a bank or lender along with an on-time payment history, you may still be eligible, even with bad credit.
• Line of credit: A business line of credit works like a credit card but provides a lump sum of cash. You can draw money for a specified period and only pay interest on the funds you draw. As you pay the money back, the amount you can draw increases.

Other less risky alternatives, like grants, special credit programs, microloans or peer-to-peer lending, may better fit your funding needs. Looking closely at your business’s health, funding needs and repayment abilities can help you find the right business loan.

The bottom line

Hard money lending is an option for startups or businesses with bad credit but have assets or property they can use as collateral. This option is usually riskier than other alternatives, like peer-to-peer lending, since you risk losing your property if you default on payments. If you need fast funding, weigh the costs of hard money business loans compared to other short-term lending options.

Frequently asked questions

• What credit score is needed for a hard money loan?

  Hard money loans don’t require a credit score, making it an easier option for startups or businesses with bad credit. Instead of using a credit score for approval, hard money lenders use business property, like real estate or other assets, as collateral. The lender can seize the property if the business defaults on the payments.

• What are the requirements for a hard money business loan?

  Hard money business loan requirements can vary by lender. Most lenders require a down payment of 30 percent or more. The business requesting the loan uses personal or business property or assets to gain the loan funds. The loan-to-value ratio of the collateral property determines the value of the loan. If the business defaults, the lender can take the collateral property.

• Why are hard money business loans risky?

  Hard money business loans are risky because they use your property or assets as collateral for the loan value. If you can make back the payments on time and in full, your assets aren’t in danger. But if you can’t, the lender can take ownership of the property you use as collateral.