Basics of private lending

[Paul T.]

Hi guys, I came across the opportunity to private lend, but this is a new area for me where I don't understand the process and risks.

I am fine with the loan amount, term, and interest rate. The borrower is offering one of several properties of my choosing for collateral. 

Some are commercial and owned free and clear (borrower runs a daycare business, has been in business for 20+ years). Others are SFHs but with mortgages on them. 

What should I look out for to evaluate this deal? 

Some of my own thoughts on what would make this desirable:

1) loan is much much lower than the value of the property

2) if there is no underlying loan and I am in first position

3) there IS an underlying loan, and I am in second position, but the first position loan is low relative to the value of the property and would be worth it to pay off/take over payments.

[Jamie Bateman]

Hi @Paul T. At a minimum I would:

1) run a title search to confirm the title is clean, and purchase a lender's title insurance policy (often paid for by the borrower) to insure your position

2) order an appraisal or BPO to estimate the value of the collateral

3) determine what loan to value (LTV) you are comfortable lending up to (75% is generally the upper limit for a commercial loan but it's up to you)

4) ask to see payment history if dealing with other mortgages and/or profit & loss statements for the business.

5) check property taxes

6) determine of the borrower is willing to personally guarantee the loan (recourse) or not

7) be sure to be added as an additional insured entity on the borrower's homeowners/hazard insurance on the property

8) understand why the borrower is not seeking traditional (bank) financing. 

Also, if you are willing to be in second position, I would structure the deal at a higher interest rate to mitigate the risk of the lesser position.

I hope this helps.