If you were a property investor looking to get a hard money loan from Salt Lake City’s Actium Lending, you would be expected to include an exit plan in your loan application. An exit plan explains your strategy for repaying the loan on time. Whatever that plan might be should suit your goal for the property in question.
Actium Lending explains that there isn’t a single exit strategy suitable for every loan scenario. And in fact, hard money lenders are free to accept any exit plan they feel comfortable with. But by and large, there are three primary exit strategies lenders see most often. Each one is tailored to a specific investor goal.
Exit Strategy #1: Sale
Property sale is the primary exit strategy in the fix-and-flip industry. Investors purchase properties, renovate them, and immediately put them back on the market. It is expected that renovations and resale can be completed before the loan comes due. During the term, the investor only pays interest on the loan.
This particular exit strategy works weather investors are dealing in residential or commercial properties. That said, fix-and-flip is more common in the residential sector. Commercial property investors are more likely to acquire properties for long-term rental.
The advantage of this exit strategy is that it is fairly simple to pull off. An investor only needs to sell the property for more than the purchase price to make good on his loan. But the downside is the associated risk. What if he cannot get the home back on the market quickly enough? What if real estate prices fall between the time of purchase and sale?
Exit Strategy #2: Refinance
Refinancing the property with a conventional loan is a fairly common strategy among commercial real estate investors. They do not mind conventional loans and the benefits that come with them over the long term. It is just that conventional funding isn’t fast enough to let them close deals quickly. They turn to hard money instead.
Actium Lending offers an explanation of how it works. An investor might come to them looking for a $500K loan to acquire an attractive retail building. There are others interested in the same property, so time is of the essence.
Actium can approve and fund the loan request in a matter of days. The investor’s bank would require several months. So he gets the initial loan from Actium, closes the deal, and then arranges a conventional loan to refinance. He uses the conventional loan to pay off the hard money loan.
Exit Strategy #3: An Extension or Bridge
Although not a traditional exit strategy in the purest sense, convincing the lender to agree to an extension or bridge loan can be enough to get a deal done. It would be understood that the borrower has other means in place to exit at maturity. Yet if that exit falls through, the lender is willing to extend the original loan or offer a bridge loan.
An extension would simply extend the original loan terms. The borrower may have to pay additional fees or origination points. A bridge loan would cancel out the original loan in anticipation of a source of future income. For example, after the original exit plan falls through, the borrower puts one of the other properties in his portfolio up for sale.
Exit plans are critical to hard money because both borrower and lender are taking substantial risks. A good plan protects the lender against reckless borrowing while it forces the borrower to maintain financial discipline. In most cases, everything works out just fine.
