Lending hard money loan, need advice

[Jon Christian]

Hi all. 

My real estate agent buddy, whom I've known for a long time, wants me to loan him $7500 for a max of 45 days to pay off his contractors while his investment property flip closes. I don't have any reason to distrust his intentions as he's helped me close on a few deals and he lives and owns right around the corner; ie: he's low risk for fleeing the state for this amount.

I had him write up a contract that says the following: 

This agreement covers the personal loan provided by (loaner) to (borrower), signed into effect on x x , 2020. The terms of the agreement are as follows:

-(loaner) will loan (borrower) $7,500 (principal loan)

-(borrower) will repay (loaner) the principal loan amount of $7,500 plus 10% interest of the principal loan ($750) which brings the total repayment to $8,250.

-(borrower) will have 45 days from the day the money is received to repay the loan & interest total of $8,250 to (loaner)

-The money will be used for (borrower)s investment property, at (address) for roofing, staging, lender dues, and materials/supplies

-If (borrower) is not able to pay the loan back within 45 days, an additional $500 penalty will be assessed for every 15 additional days it takes to repay the loan in full. For example, if it takes 60 days to pay the loan back for example, (borrower) will owe (loaner)$7,500 principal + $750 interest + $500 penalty = $8,750. If it takes 75 or less days there will be a $1,000 penalty. This penalty amount continues to increase by $500 for every 15 days outstanding until the loan is repaid.

We will both then sign the agreement.

Pretty straightforward but am I not considering something to protect me, like actual collateral? Any advice would helpful.

[Kyle J.]

@Jon Christian  A few thoughts off the top of my head.  The title of your post refers to this as a "hard money loan".  A hard money loan is typically secured by a "hard" asset, such as real property.  To be clear, this proposed loan is not that (even though it appears that it will contain the address of a real property in it).  This, as written, would be nothing more than an unsecured loan to a friend/acquaintance (which comes with all the risks typically associated with doing loans like that).

Being that it is unsecured, there is no collateral backing this loan.  If your buddy were to default, you'd have to take him to court and get a judgment and then attempt to collect/enforce it.  I don't know what sort of assets he has to collect from, though it's clear he does not have $7,500 in liquid assets or he would not be attempting to borrow this from you.  And I know no one wants to think about loans potentially going bad (especially when the borrower is a "buddy"), but the fact is they do and you have to at least consider it (and plan for it) on the front end otherwise it's too late.

Lastly, I think it's worth mentioning that this loan as written might not even be legal in your state.   I'm not an expert on Indiana law, but as best I can tell the usury laws in your state limits the maximum interest rate that can be charged on "non-supervised" consumer loans to 21 percent per annum.  Your loan is WAY over that.

Now, you're probably thinking to yourself, no it's not...it clearly says "10% interest".  But let me try to explain.  Your friend borrows $7,500 and he has up to 45 days to pay you back before incurring penalties.  For simple math, let's say he pays you back in full in exactly one month, for which he would apparently owe you $8,250 ($7,500 + $750).  You guys are saying that is 10% interest.  However, that is actually 120% interest per annum.  (10% interest collected in one month X 12 months in a year.)  And that's not even addressing if he were to go over the 45 days and start incurring those crazy high penalties.  

I get it, he's the one proposing this.  But a borrower cannot agree to a usurious loan.  Nor is one legally enforceable if the borrower were to challenge it. Again, I'm not an expert on Indiana law, but that's my interpretation of it after a quick read of your state's laws.  I'd consult with a local lawyer if you want to know for sure because the borrower has ALL the advantages in a usurious loan situation, and the lender has none (and is actually committing a Class A misdemeanor in your state).  So it's worth getting educated on.