Have you ever wondered how real estate moguls build portfolios worth tens of millions? Nearly all of them started out with just one or two properties. They invested wisely and scaled up as they went. And for many of them, hard money was the key to making it happen.
The good people at Salt Lake City’s Actium Partners explain that hard money is a form of private lending whereby real estate investors can fund their new projects without having to go to a bank. Hard money is advantageous to investors because:
- There are fewer paperwork requirements.
- Approvals are based mainly on property value.
- Loans can be approved and funded in a matter of days.
The way hard money loans are structured offers quite a few advantages to real estate investors. Let us unpack those advantages by discussing how to use hard money to scale a portfolio.
1. Buy That First Property
Every real estate investor needs to start somewhere. That first property could tie up all the investor’s cash and equity thanks to a low LTV and an equally high down payment. But that’s okay. The important thing is that the investor acquires a property and starts earning a return.
Let us assume it’s a commercial rental. The borrower has 12 months to pay his hard money loan. So while the property generates rental income, he goes to a bank to refinance. With a successful bank loan, he pays off the hard money lender, gets his down payment back out, and moves on.
2. Start Looking at Other Properties
It may take several months to a year before the first property’s rental income has allowed the borrower to build up a nice cushion of cash and equity. When the time comes, he starts looking at other properties. He will use the cash and equity from the first property to be the seed for his second property.
He will follow the exact same process by arranging a hard money loan with a 12-month term, followed by refinancing with a traditional bank loan. Once again, he gets his equity and cash out of the property at that point. Now he has the cash and equity from two properties to work with – and both properties are returning monthly rental income.
3. Lather, Rinse, Repeat
As long as these first two properties continue generating enough rental income to cover his mortgages, maintenance, and upkeep, he can simply repeat the process over again. To steal a well-known marketing phrase: lather, rinse, repeat.
4. Reinvest the Profits
As long as the investor’s outstanding mortgages are still being paid, he has to be careful about borrowing to invest in new properties. But as each mortgage is paid off, the properties they represent become profit machines. The equity in a property with no mortgage is 100% – on top of monthly rental income.
This is where scaling a portfolio really starts to take off. Every paid off mortgage represents money that can be reinvested into the portfolio. In essence, the investor reinvests his profits. He eventually has so many properties that his portfolio is self-sustaining. The profits are rolling in and the investor is set for life.
Full disclosure dictates that I admit to oversimplifying my explanation. But even though there are more details to consider, the basic principle is correct. A real estate investor scales his portfolio with hard money by leveraging the equity in each obtained property to fund the next property in line. Over time, his equity completely overshadows his debt. Moreover, the strength of his portfolio speaks for itself.