What Happens if You Default on a Hard Money Loan

Hard Money Loans: Why People Default and What You Can Do to Avoid It

Hard money loans are a source of short-term financing frequently used by real estate investors to secure a loan for a property that a bank or institutional lender would typically avoid, such as a fix and flip house or a distressed property.

Hard money loans are appealing to borrowers because they have few requirements, don't require a great credit and the fast turnaround time makes them ideal for many real estate investors.

Before you obtain a hard money loan, though, be aware of the consequences if you default.

What Does it Mean to Default on a Hard Money Loan?

When a borrower takes on a hard money loan they have an obligation to make monthly interest payments to the hard money lender.

If the borrower fails to make those required monthly interest payments, he or she is in default. 

The specifics of what constitutes "default" condition are specified in the loan papers signed at closing in the hard money lending industry. The default status is usually triggered by a breach of contract or lack of payment.

Usually even missing only one months interest payment or partially missing one months payment will put the borrower in default.

Consequences of Defaulting on a Hard Money Loan?

The hard money loan documents go into detail about how to handle a default situation and bring an outstanding loan current.

Avoid delays by paying on time and keeping your accounts current. Corrective measures include catching up on missed payments and any applicable fines.

If a payment is missed, typical terms include having up to 30 days to make up the deficit before the property enters default.

However once this threshold is crossed the following is likely to happen;

Property Seized and Sold?

In the worst-case scenario, if you default on your hard money loan, the hard money lender has the right to seize and sell the collateral property, using the proceeds to pay off the outstanding loan and any unpaid interest.

Monetary Penalty

Most hard money lenders have what is called a “default rate” written into the contract stating once a borrower is in default they must now pay a higher interest rate.

Negative Impact on Credit Score

Credit scores range from 300 to 850 and when you default on a hard money loan, your credit score will suffer.

People with high credit scores will be negatively impacted the most and should anticipate their credit score dropping anywhere from 100 to 150 points. 

If you have a low credit score as a result of a foreclosure, it might be tough to obtain new financing, find work, or even rent an apartment or home.

What Happens to My Equity in the Event of Foreclosure?

By law, a lender may not keep any money beyond the amount owed after a property sale.

After all liens are paid in a foreclosure, the borrower will retain any remaining equity.

Borrowers will be responsible for making the lender whole on the principal loan amount and also on any accrued interest during the foreclosure process.

Since foreclosure properties are sold at auction, they usually sell for less than market value, which is not great for the borrower.

How to Avoid Defaulting on a Hard Money Loan

It’s imperative for the borrower to not over leverage themselves and to have a thought out exit strategy from the hard money loan.

The most common exit strategies are either selling the property or refinancing into a traditional bank loan.

If you run into financial trouble and are having trouble making the monthly payments be sure to communicate with your lender. 

Usually a smaller local hard money lending company will be understanding and more willing to work with you on a modified payment structure than a large nationwide lender.

Many of these nationwide lending companies package hard money loans together and sell them to private equity companies who are not concerned with your financial wellbeing.

How Often Does Crescent Lenders Foreclose on Borrowers?

We have an open line of communication with our clients at Crescent Lenders to assist them in difficult situations.

Our small company structure allows us to be flexible with our borrowers meaning oftentimes we can accommodate them with favorable payment structuring.

Over the last decade we have funded hundreds of hard money loans in California and have only had a handful of foreclosures because we lend money to individuals whom we believe are in a position to pay us back.

If you are in need of a hard money loan don’t hesitate to contact us.