40k - lend it as hard money or buy a rental? other options?

Question

So lets say I have a friend... :) Who is a professional and is pretty happy where he is at and does not really have too much time into landlording and such, but is very much interested in getting into REI and building up a portfolio... but at the same time fears that he may not have time for it.

He was offered to lend his money to a friend at 9% backed by a house the friend lives in. (This friend borrowed at a higher rate and this would be a refi of sorts for him.) So it seems like a win win. Borrower gets lower payment and lender gets to make a little money in form of interest. According to my calculations comes out to roughly 250-300/mo over the 5 first 5 years. This would be calculated as a 30yr mortgage, paid for 5 years and then balloon payment at the end.

Alternatively... he could take the money and do a 20% down on a rental property. The problem is that is kind of hard to find something that meets the 1% rule in this market and not sure what the potential would be of making 300/mo in cash flow on that, after considering the 50% rule. Also not sure what headaches would be associated with that.

The loan situation seems like the ez route, but you dont really learn anything. One of the main appeals of getting a property is the learning experience.

Does 9% annual sound like a good deal? Or does owning a rental property provide a potential of much greater returns. I have seen some folks pull in 20% COC, which is pretty compelling.

Your thoughts please...
and why... :)

TIA!!!

Steve Babiak · Answer

A "personal loan with a lean [sic] on his house" - that would still be a mortgage, because you are using the lien on the house as security for the loan.Here's a link with a story about how a newbie lending money can have a bad experience:https://www.biggerpockets.com/forums/41/topics/339...

John Thedford · Answer

I do both but with 40K I might consider doing a loan. That being said, I would never lend at that low of a rate. I would ask for 12% plus 4 points, require the borrower to pay all legal and closing fees, and verify value of the property. I would also make sure my terms are in compliance with Dodd-Frank. The lowest returns I get on private lending is 16.5% per anum..and usually higher. Not bad for collecting checks, no tenants, and no evictions. In your scenario, with your friend living in the house, Dodd-Frank does come into play. You MUST stay legal or else...the penalties can be severe. Penalties can be up to 1M per DAY.

Paul Gilo · Answer

Appreciate the info @Ian IppolitoI will have to do my own DD on them, but this is certainly a good start. Thank you for sharing the info.

Ian Ippolito · Answer

Paul, there are 2 national crowdfunding REITs that you can access as a nonaccredited investor. One is from a company called FundRise, and another is from a company called Realtymogul. Since you are in Florida, there's also another site that has a nonaccredited investor REIT called Rich Uncles. I've looked in detail at the 1st 2 but have just found out about the 3rd so I'm still doing my due diligence. Personally I'm not a huge fan of the FundRise marketing/structure because of the way they artificially inflate returns in the 1st 2 years by diluting investor returns later. They advertise a guaranteed return of something extraordinary like 12% return for the 1st 2 years...which sounds amazing. However, if you dig down deep into the prospectus, you'll see that this return is not being generated by the performance of the investments themselves. Instead, the company plans to pump money into the fund (and dilute future returns to investors) to achieve this. In my opinion this is a bit like "robbing Peter to pay Paul". And if we have a serious recession in the 1 to 5 year time frame, that could come back to bite them.Realty Mogul doesn't have the dilution issue which I like. They charge $1.5 million in organizational fees, versus $1 million for Realty Mogul, so those expenses are higher. But over the lifetime of the fund, that should be significantly less expensive than the scheme for artificially propping up the returns like Fundrise does.Rich Uncles is potentially interesting because they are 1 of the few options that invests in triple net leases (NNN). These are leases from credit worthy national tenants, that tend to be extremely reliable and hold up very well in a downturn. As I mentioned, I'm still trying to get more information from them on it. Their site is not as polished as the others, and tries to channel you directly into making an investment before it fully explains what's going on. This could be just result of their growing pains because they are new, rather than a red flag. I'm looking further into it.

Paul Gilo · Answer

Thanks @Ian IppolitoI'm a noob. Not accredited. Is there a website I can look at or specific phrase I can google? What is the expected ROI on deals like this? Thank you.

Ian Ippolito · Answer

If you do decide to go the crowdfunding route there are a lot more options open to you. You can lend to borrowers looking for hard money loans, or get into a fund that listed these borrowers for greater diversification. You can also invest in the fund that does equity investments in residential real estate, or even commercial debt and/or equity as well. However, the one restriction is that most of these sites require you to be accredited. Is that your case? If not, there are a couple of nonaccredited options (although the choices are much more limited and the fees are higher).

Paul Gilo · Answer

Thanks guys! I have known the borrower personally for about 10 year now. Good honorable guy (but I guess that means nothing in the legal sense of things). The had borrowed 50k form another hml, at a higher rate, and has done renovations to the house, house is probably worth double, if not more than I would be lending. My idea would be to just draw up a doc with the terms and such and both of us sign... but it seems I'm oversimplifying things here... i think im getting in over my head when you got dodd-frank getting in the mix with penalties and such... is it possible to perhaps do a personal loan with a lean on his house? Seems like ez money... buy as always got to CYA. Thanks. @John ThedfordI did hear about the crowdfunding site on the bp podcast. They say 8-12%. Do you have experience in this? How did it work out? It sure beats a CD ... :) @Percy N.

Percy N. · Answer

Paul Gilo be careful about lending to any owner occupant. There are special provisions that come into play and you could face stiff fines and jail time. Have you considered investing via a crowdfunding site?

Chris T. · Answer

agreed. If your goal is to learn, go buy a rental. If you're not experienced enough, how do you know if it's a good deal or not when you become a hml ?

Michael Randle · Answer

Hello! I guess the question would be is 40k really enough to be a hard money lender. And do you have the experience or money to be educated in the hard money field to collect if defaulted and all the legal details that go into even an easy successful deal. I would be interested in what your thought process is because I was going to put 40k down on my first rental property here shortly. I never considered hard money lending because I would assume someone would want in the hundreds of thousands from one lender to do a total project.