In 2019, more than 5.4 million homes sold to new owners in the United States. Though many of those buyers financed the purchase with conventional mortgages, others ended up buying a property with hard money loans.
Hard money loans are often easier for borrowers to get in the first place. However, they come at a cost. Most hard money loans have higher interest rates and shorter repayment terms than conventional mortgages.
While this isn’t a problem for borrowers that stay current on their payments, it’s tough for those who can’t. Here’s what happens if you default on a hard money loan so you can make sure you choose the right loan for your needs.
Your Interest Rates Will Go Up
Most hard money loans include a provision that increases your interest rates if you fail to make regular payments. This is the first penalty you’ll face for missing your premium payments.
Once your interest rate goes up, the amount you’ll owe on the loan increases. You’ll see that increase reflected in future premium payments.
Even if you start making payments again, the interest rate won’t go back down to its original level. You’ll be stuck with that higher interest rate for the rest of the loan’s term.
The exact amount of that increase will vary from loan to loan. If you’re worried about a potential rate increase, read through your loan’s terms and see what you can expect. Remember, it’s always best to try to make payments on time each month.
If you can’t, speak to your lender to discuss your options rather than letting the interest rate increase automatically.
You Could End Up Going to Court
Depending on where you live and the terms of your loan, the lender could end up taking you to court if you fail to repay your loan. This is the first step in the foreclosure process.
If you’re forced to go to court after defaulting on owner occupied hard money loans, don’t panic. You may not automatically lose your home. The court will review your case to determine if the lender can seize the property to settle your debt.
You can always hire an attorney to represent your case against the lender. They may be able to help you reduce your outstanding debt or come to an agreement that will make it possible for you to repay your loan.
The Lender May Seize the Property
If you’re unable to come to an agreement, the hard money lending company can legally take possession of your house. When you take out a hard money loan, the home you’re financing gets used as collateral. This helps secure the loan and encourages lenders to give you the money you need to pay for the property even if your credit score is low.
If you stop making hard money loan monthly payments, the lender can take the house and sell it to settle your outstanding debt. This is true even if you’ve made payments reliably in the past.
Once they take possession of the property, you’ll have to move out and find a new place to live.
Your Personal Credit Score Will Suffer
Anytime you default on a loan, your credit score will suffer. This is true even for hard money loans.
When you default on a loan, you’re showing the credit bureaus that you’re unable to make payments. They make a note of this derogatory mark by lowering your credit score.
The amount that your score drops will depend on how much you borrowed and how much you still owed the lender before you defaulted. The more money you owe, the more your credit score will drop.
You can still build your score back up, but it will take time. You’ll need to stay current on any other monthly payments and avoid taking out any other loans until your score goes back up.
Lenders Will Keep What You Paid
When you default on a hard money loan, you won’t be able to get a refund on the money you paid the lender. They get to keep your past payments even if they take possession of your home.
It’s another penalty for missing your required premium payments.
Unfortunately, there’s no way around this. If you default on your loan, the lender will be able to keep everything you’ve paid to date, even if you’ve paid off more than half of the loan’s balance.
Getting Future Loans Will Be Tough
Once you default on a loan, whether it’s a hard money loan or a conventional mortgage, you’ll find it much harder to get financing in the future. This is because lenders look at your credit score and loan history before giving you money.
If you have a default on your record as well as a low credit score, lenders won’t want to work with you. They’ll view you as a potential risk.
Remember, lenders want to be able to make money off of the loans they issue. Your interest payments are what allow them to do that. If you default, they won’t be able to make as much money off of your loan. They’ll view any previous defaults as red flags and may decide not to work with you at all.
That said, you’ll be able to get loans again in the future as long as you take the time to rebuild your credit score.
Now You Know What Happens If You Default on a Hard Money Loan
Relying on hard money loans to finance a home purchase is tough. Their high interest rates and short repayment terms make repaying them more difficult than conventional mortgages. However, now that you know what happens if you default on a hard money loan, you can create a strategy to avoid defaulting in the first place.
Do what you can to stay current on your monthly payments and reach out to your lenders if you think you’re going to miss a payment. The more you can communicate with your lender, the easier it will be to avoid default.
Looking for more tips to help you take control of your personal finances? Check out our latest posts.
