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Risk Assessment Of Private Mortgage Loans

More and more people are turning to private lenders to obtain a loan for the purchase of a home or to carry out renovations.

With new rules coming into the market, it is now more difficult for some people to take out a loan from traditional lenders, especially for the self-employed, first-time home buyers and those with credit problems. Homeowners who want a loan for new construction or renovations may also be turned down due to these new rules.

As a result, private lenders have come to the fore to lend individuals money. These private lenders can be investment companies that offer syndicated mortgages or individuals.

This type of mortgage can be an attractive alternative for people who cannot get a loan from a traditional financial institution.

However, before taking out such a loan, borrowers should consider the following risks:

  1. Property-based approval – For traditional lenders, borrower eligibility is first assessed based on their ability to repay the loan, while for private lenders, it is primarily assessed based on the value and location of the property. The financial condition of the borrower is a secondary consideration.
  2. Higher interest rates – Since private lenders are exposed to greater risks, they often charge higher interest rates.
  3. Additional Costs – You may have to pay thousands of dollars in lender fees and broker fees, in addition to administrative and legal fees. 
  4. Home foreclosure – Private lenders can foreclose on your home faster than banks if you don’t pay off your mortgage on time.
  5. Short-term loans – Loans offered by private lenders usually do not go beyond a year or two. Borrowers who fail to obtain bank financing when they renew the loan may find themselves in a cycle of short-term, high-cost mortgages.
  6. Loans capitalized at maturity – Some private lenders offer capitalized loans at maturity. Unlike traditional mortgages, the monthly payments made on these loans are applied only to financial interest and not to the loan balance. At maturity, the borrower may end up with an untouched balance and not be further advanced in the repayment of his loan.

If you are considering hiring a private lender, do your research.

  1. Find out about the intermediation fees or fees payable by mortgage brokers, the interest rate that will be charged, your prepayment options, and the duration of the loan.
  2. Consult a real estate lawyer before signing a contract. 
  3. If you work with a mortgage broker, make sure that the private investor is also represented by a licensed broker.
  4. Keep in mind that mortgage brokers must declare any conflict of interest.
  5. Make sure the mortgage broker or associate you are dealing with is registered with the NMLS. You can consult our online database by clicking here. If the role of the broker or partner extends beyond obtaining the mortgage loan and includes the management of financial operations, he must also hold a mortgage administrator’s license.

If you are thinking about becoming a private lender, here are some tips that should help you:

  1. Find out about the real value of the house or property. Do your checks: get an assessment from an independent expert, consult the Personal Property Registry, etc. 
  2. Check if mortgages are already registered for the property. This could affect your priority and your ability to recover the funds if the borrower defaults. 
  3. Beware of renovation projects for resale, because the proposed renovations could increase the value of the property.
  4. Make sure you have on hand a contractual promise regarding the execution of the renovation work.
  5. Check to see if the mortgage broker and real estate agent you are dealing with are licensed with the NMLS.
  6. Think carefully before taking out a second mortgage to invest in a private mortgage.
  7. Consult a lawyer and obtain independent legal advice.
  8. Consult an accountant to find out what the tax implications are.

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