Hard money loans question

[Scott W.]

I know someone who will do HML quite a bit the past 5 years & then goes to a refi after 6 months - think of it as a short-term loan. He's very careful these will appraise out before he pulls the trigger. He has a lot of properties now, is sharp, & has been very successful.

It's crazy -$1000 appraisal/bend over fees, 5 points, 15% interest. Need to be 65% of APR.

He loses out the 1st month of the rehab, breaks even next 5 months, & then makes about $350/month cash flow.

But the real wealth build is his equity. He gets these at steep discounts since are all cash purchases. With $10-$15k of his average rehabs, he has anywhere from $20-$40k instant equity after the $2-3k refi - all by putting minimal $ down.

I am very much anti-debt but this is very tempting. Has anyone else had success doing this? I've always remember Dave Ramsey preaching against things like this (almost like a credit card accept this is wealth accumulation).

[Bobby Gerry]

Ann gave a great reply, and I want to add just one more part to what she wrote.

Sometimes it's easy to forget that hard money serves as a bridge to where you're trying to get to as a real estate investor. Hard money is not "debt" in a traditional sense. It's so short term that it's hard to compare it to what is normally referred to as debt. It's just a bridge.

And when considering the cost of hard money, it's useful to compare it to the cost of an equity funded deal. Here in Texas, the norm for an equity real estate deal is to pay the equity investor an 8% preferred and then split the profit after the sale of the property 50-50. That's a vanilla equity deal, and, as someone who works with a large commercial office property buyer here in Texas, I see these deals quite a bit.

But think of the cost to a flipper to have to pay out half of his or her profit. That's expensive. And so I look at hard money as the middle ground between traditional debt and traditional equity. In fact it really is right in the middle. Sometimes people balk at a hard money interest rate. But they're already thinking about it incorrectly. No one should have a business plan that involves a hard money loan for longer than six months. A good deal for a solid single-family rehabber can be done in four months. Take the annual interest rate, divide by 12, and that's your monthly cost. If your total hard money cost is more than half the profit, it's just not a good deal.

But this is just all bonus material to what Ann already said so concisely.