Loan Denied…Why?
As a private lender, we field a number of new inquiries every week from people seeking to borrow money. Unfortunately, not every inquiry results in a new loan. In fact, being diligent with underwriting the property and the borrower may be the most important step in the loan process. We thought it would be helpful to share some of the common reasons that a loan request gets denied.
1. Lack of Liquidity- Most private lenders will require the borrower to have money to invest in their project at closing (10-20%) along with adequate cash reserves (for interest payments and rehab). This “skin in the game” aligns the lender and the borrower and helps to mitigate some of the lender’s risk if the project does not go quite as planned. This money usually comes from the borrower or a borrower’s equity partner (aka “rich uncle’). If a borrower cannot show proof of liquidity, most private lenders will pass on loaning. One caveat is that lenders can get creative using cross collateral if the borrower as other investment property with significant equity.
2. Non-Business Use- Investors are often looking to free up capital they previously deployed in an investment property by seeking a short-term cash out refinance. This strategy can be useful when the proceeds of the loan are to be used specifically for business/commercial purposes since most private lenders focus only on making business/commercial loans. The borrower will usually have to sign a “use of proceeds” disclosure defining how the loan proceeds will be used. We have had a few recent requests where the loan proceeds were to be used to pay off personal debt, IRS liens, and property taxes on personal residence. In each of these situations, we passed on these loans as they would be characterized as consumer lending, which is an arena that most private lenders don’t want to play.
3. Owner Occupied- Similar to the point above, most private lenders will not lend on projects that the owner is occupying or might have the intention of occupying. The term “owner” will usually include at least “family members” and maybe even “affiliated parties.” We had a recent situation where a potential borrower seeking to refinance had leased the collateral property to a parent. Once we learned of that, we had to decline. Borrowers will usually be required to sign disclosures attesting to the property is for investment purposes and will not include and personal use. If an owner was to move in to an investment property, the underlying loan would immediately be in default. Please don’t consider this!!!
4. Lack of Transparency- Don’t try to hide things from your lender. Good lenders will do research on all potential borrowers. If you have credit issues, disclose it upfront. If you have a bankruptcy or foreclosure, disclose it. If a lender finds out information that a borrower should have shared, it will usually result in the lender never wanting to work with a borrower lacking character and transparency. We recently had a potential borrower that failed to disclose a bankruptcy, a significant judgement against them, and tax liens. Of course, we didn’t make the loan and ended up just wasting time and getting frustrated with the potential borrower.
5. Poor Communication- Similar to lack of transparency, how a potential borrower communicates with us is important. Borrowers should communicate early, often, and completely with their lenders. If a borrower is lacking in their communication during the application and underwriting process, that gives the lender an idea of how they might communicate after a loan closes. Our suggestion is to present a detailed plan/analysis (purchase, rehab, and exit), respond timely to questions, and pick up the phone and talk with your lender!
At REAL Texas Capital, we are looking to lend our funds on quality projects to borrowers with strong character (transparent, honest, good communicator) that have their own “skin in the game.” If that is you, give us a call or email and let’s get to know you and your project.
