Ok, we have a confession. Private money loan negotiation is not always Step 3. Sometimes it occurs in the middle of your loan process. Sometimes negotiation happens on an ongoing basis throughout as new factors and considerations come to light. And sometimes it happens even after the loan closes if your excellent performance earns a second look.
What we’re trying to say here is be prepared for some flexibility about when and how you negotiate your terms.
Read on below, but first – other articles in this series:
You Should Care About Private Money Loan Process
Step 1: Find Your Lender
Steps 2 & 3: Don’t Sweat the Negotiating Table
Step 4: Don’t Sweat the Negotiating Table
Step 5: Zzz…Don’t Sleep Through Loan Contract Review
Step 6: The Closing Table
Step 7: Pay Your Debt, Darn It
Get into the right mindset for private money loan negotiation
Here’s the dish: you are not just negotiating your interest rate and other costs and fees. You need to approach negotiation as a give-and-take between costs and all other factors. This includes your personal guarantee, bad-boy clauses, and non-monetary covenants.
And remember: you’re not talking to a bank. Everything can be negotiated. Also remember that there is a “real person” behind the loan – lenders have risk too. You are creating a relationship even as you’re trying to work the best deal for yourself. Approach negotiation with the goal of reaching a happy medium, with compromise on both sides.
If there are any loan terms that give you pause, the best way to resolve it is to come to the negotiating table with a replacement. Ask yourself if there is something you’re willing to give up somewhere else. Or perhaps the solution is to fine-tune the language so it’s more specific or narrow. You may also be able to resolve the issue by providing proof of how you’ve taken measures to prevent or insure against the occurrence.
The personal guarantee
Most hard money lenders will require a personal guarantee if you own 20 percent or more of the borrowing entity or the subject property. Where possible, you should try to negotiate the personal guarantee from unlimited to limited or conditional, or have it waived entirely.
You may be able to negotiate the personal guarantee and full recourse loan down if you are:
- Able to demonstrate that they property has a loan-to-value less than 50%.
- Willing to cross-collateralize the loan with another property you own.
- Willing to cross-collateralize the loan with other non-real-estate collateral you own, including art, autos, other collections with value, etc.
- Able to show you have an established relationship with other private lenders. These relationships should include excellent payment history and prior payoffs.
The best time to negotiate a waiver of, or the language for, a personal guarantee is during the initial loan evaluation. However, you may be able to negotiate a release of the personal guarantee during the life of the loan if you:
- Can demonstrate that the property has increased in value. This may be through the combination of an appreciating market, your improvements to the property, and/or your principal pay-down of the loan balance.
- Have an excellent payment history with this lender. This may be on the loan itself or because you’ve paid off other loans with the lender.
- Experience a better-than-expected cashflow and profitability. This may be because your company shows higher profit margins for an extended period, along with larger cash assets than originally projected.
Bad-boy clauses are contract clauses that will trigger an otherwise limited guarantee into an unlimited guarantee. As an example: if you commit fraud (tongue-in-cheek, if you’ve been a “bad boy”). These clauses may also trigger the loan to fall due immediately or on an accelerated schedule.
Although it’s unlikely you’re planning to commit fraud, overly broad “bad-boy” language could unwittingly work to your disadvantage.
Read the language carefully, and imagine a series of unwitting, unfortunate events that may unintentionally result in you breaking the clause. To illustrate:
Bad-boy clause says, “…Mr. Smith, or any of his staff members, shall not mislead the lender or its associates…” Harmless, right? You’re not planning to mislead the lender, and you trust your employees.
But. Can you really control what your staff members do? Or perhaps they accidentally misspeak. And where is the threshold between a simple misstatement and an intentionally misleading assertion? In our example, the lender also isn’t required to confirm details with you before taking their assertions as golden.
In this case, you can likely negotiate such language away entirely by providing proof a fidelity insurance. This kind of insurance financially protects you if your employees commit bad acts.
Beyond that, it’s best to work with an attorney to incorporate more specific language into your guarantees. “Mislead” might then change to “willfully and intentionally mislead the lender by falsifying financial statements.” You could also add language that articulates that the lender will not trigger the clause unless they first alert you, and provide you with reasonable opportunity to fix the issue (called cure times).
Even if you trust your private lender to interpret the contract favorably, the private lender may sell your note to someone else. Will a stranger interpret your contract as favorably?
Non-monetary covenants are factors you must maintain throughout the length of the loan to avoid triggering the loan coming due or other unfavorable outcome.
These covenants are often unique to the lender and loan program. Like bad-boy clauses (and indeed, all your contract terms), you should evaluate them closely in terms of:
- Negotiating them down
- Adding more specific language
- Sometimes even negotiating them higher in exchange for consideration elsewhere
Loan costs and fees
Your private lender and the private investor make money from the loan through more than the interest rate. You should look to negotiate your loan costs down by looking for compromise in these areas:
- Points: paid by you as part of your closing costs.
- Underwriting or other fees: Paid by you as part of your closing costs.
- Referral fees: Paid by your lender to another lender for referring your business.
- Loan servicing: Paid by the private investor to the hard money lender, if the hard money loan is serviced by the company.
- Late fees: Paid by you if your payment is not made on time.
- Default interest: Paid by you as an increased interest rate if there is a breach of the loan’s terms.
- Foreclosure fees: Paid by you and added to the balance of your loan.
- Renewal fees: Paid by the you to renew the loan for an additional term if you need it longer than the original contract.