New to private $$ lending and asked to fund a project. Looking for help...

[Nick P.]

Hello all,

I've been asked by a colleague if I had any interest in being a private $$ lender for a home flip in the Chicagoland area. 

I have no experience in this and I'm not even sure where to start to know how the process works, what terms to offer, things to look out for, ect... 

Can anyone recommend any resources that I can use to educate myself on this subject?

The project...

- A1344 sq ft 4 bed, 2 bath home in a "well to do" suburb of Chicago. List price is 289K, ARV 390K

- Buyer needs 84K loan for rehab.  The terms he presented: A 12 month note at 10% annualized interest. Realistically, it would take 4-6 months to flip and sell the house, and when they do, they would have the option to pay back the principal and accumulated interest of the loan. 

Any recommendations are appreciated. I'm looking to educate myself on this subject first and foremost. 

Thanks in advance 

[Jeff S.]

What do you mean by “… option to pay back the principal and accumulated interest …”?

Yikes.

Not only should you avoid this loan, @Nick P., I would caution your colleague from buying the property. The $289k purchase price plus the $84k rehab estimate (your loan) total $373k. This is 96% of the $390k ARV which is basically a full-price purchase but with all the extra rehab work. Not only is there no profit in this deal but expenses such as property taxes, insurance, purchase and sales costs, legal, and interest expenses will result in a significant loss. Does your colleague have any experience here? Has he shown you an itemized P&L, with all the expenses, that show a profit?

FYI, as a quick rule of thumb, the purchase price plus rehab should not total more than 70% to 75% of the ARV. This will result in a 12 to 15% of ARV profit. (A detailed P&L will show that). Thus, your colleague couldn't pay more than around $189k to $209k. This seems like an unreasonable discount off the asking price.

Since your colleague must borrow the rehab money, I assume he will also be borrowing the purchase money. This would place you in second position, which is as dangerous as it gets. If the first forecloses, you would likely be wiped out. Can you afford that?

You’re located in AZ and the property is in Chicago. What would happen if you had to foreclose instead of the first-position lender? Could you pay off the first? What would be your plan to take over a house in Chicago?

We’ve been lending our money privately for years and I can’t recommend it any more strongly. If it’s something that appeals to you, I strongly suggest you stay local and loan only in first position. Here, you’ll get to know the borrower, see the house, and also have the safety of a first-position lien. I published our process in this thread several years ago: Becoming a Private Lender. It’s still about 90% current.

Don’t forget the personal guarantee.