Clearing up common misconceptions about private lending
As traditional lenders become more risk-averse and regulations tighten, private lending provides an important option for those looking to navigate the real estate landscape. However, due to a lack of knowledge and understanding, some borrowers may view these financing solutions unfavourably. Not only is this a great educational opportunity for you to help clients understand how financing tools outside traditional channels could be their best option, it’s also an opportunity to build your book of business to include a much broader range of clients.
To help support your conversations, we’re going to debunk common myths about private lending and explore how it’s becoming increasingly relevant in the Canadian financial services landscape.
Myth 1: Private lending is predatory
Predatory lending and mortgage scams were big contributors to the 2007-2008 Great Recession, which leads some borrowers to believe that all private lenders are predatory. While that’s surely not the case, predatory lending does still exist. Given the growing popularity of private mortgages, there’s been an influx of new lenders in the private space and it could be difficult for borrowers to determine which lenders they can trust. Predatory lenders typically offer borrowers a great deal on a loan or mortgage that appears (and probably is) too good to be true. These mortgages often come with hidden fees and charges that outweigh potential benefits and savings.
When choosing a private lender, borrowers should do their due diligence and look at several factors before signing on the dotted line. These factors include the size of the lender, their range of products, their resources as well as their industry reputation and track record. A private mortgage, when secured from an ethical, reliable and transparent private lender like CMI, can be a lifeline for those who may not meet the stringent requirements of banks and other prime lenders. Leading private lenders will take the time to understand borrowers’ unique situations and offer flexible terms to align with their needs. Help clients navigate their options and consider partnering with a private lender that you can trust and recommend with confidence.
Myth 2: Private lending is a last resort option for borrowers with bad credit
It’s commonly known that a private mortgage can be the last line of defense for a borrower that has a poor credit history. In many cases, a private mortgage can even provide a path to help a borrower get back on track financially and rebuild their credit score. However, a private mortgage can also be a versatile financing option for a wide range of borrowers.
Private lenders offer the key advantage of speed and flexibility in a fast-paced real estate market where timing is critical. A quicker approval process and release of funds could be the difference between success and failure. For example, private lenders offer financing for real estate investors or self employed borrowers that aren’t able to meet the criteria needed to qualify for traditional financing. Investors that are looking to move quickly to seize lucrative opportunities – or save a deal from falling through – may turn to private lenders for fast and flexible financing. Home buyers that face stiff competition in a seller’s market can also use private mortgages to secure financing faster and fulfill their offer before other prospective buyers to give them the edge.
Increasingly, AAA borrowers are seeking private mortgage solutions for myriad reasons beyond speed and flexibility. In this peak interest environment, a prime borrower might benefit from taking out a private mortgage to access additional funds without refinancing their primary mortgage and losing a lower rate that’s locked in. Instead, a borrower could take out a second mortgage with a private lender without touching their bank-financed first mortgage.
In addition, private mortgage alternatives provide borrowers with a short-term financing solution, like bridge financing between the sale and purchase of a home or to help a family member put together a down payment.
Myth 3: Private lending is risky
When it comes to mortgages or any type of lending, there’s always risk involved. Private lenders do generally take on a greater level of risk compared to banks and traditional lenders. However, reputable private lenders like CMI do their due diligence to understand the big picture for each individual borrower and lend based on their ability to repay.
To understand a borrower’s ability to repay, underwriters work with brokers to conduct thorough risk assessments to ensure there’s an accurate understanding of a borrower’s financial profile, goals, and exit strategy. As private mortgages are generally intended to be short-term financing solutions, responsible private lenders will always examine a client’s ability to improve their financial situation with the help of the private mortgage and their plan on how they expect to exit or transition out of the private space at the end of the term. This generally involves refinancing with a traditional lender or selling the property.
Private mortgages are often also smaller loan amounts compared to traditional mortgages, which can bring down the level of risk.
Myth 4: Private lending is unregulated
Borrowers may also assume that a private mortgage is riskier due to lack of regulations. While private lending is not subject to the same rules as traditional lenders, there are still federal and provincial rules that apply.
In BC, for example, new rules are expected to come into effect later this year. The province is introducing a new mortgage services act to replace the current Mortgage Brokers Act, which will implement more stringent regulations for mortgage brokers, lenders and administrators. These new rules are expected to impact all lenders and brokers, especially in the private mortgage space, by establishing licensing efforts and increasing certain financial penalties. In Ontario, brokers must meet new education requirements to transact in the private mortgage space.
When it comes to private lending, emphasize to clients your own private lending training and accreditation as well as the importance of working with licensed and experienced private lenders.
Myth 5: Private lending is too expensive
Although private mortgages often have higher interest rates compared to traditional mortgages due to the risk profile of the average borrower, private lending rates are not always significantly higher, nor is a private option always more expensive than a traditional solution.. CMI, for example, offers flexible financing with common sense pricing to meet the needs of borrowers using strategies, such as tailoring repayment schedules and terms. In addition, traditional lenders often have a longer approval process and additional fees, which can effectively increase the cost of borrowing.
In some cases, a private lending solution is the only solution and the cost of doing nothing is greater. For example, paying excessively high rates on consumer debt. A private mortgage can be a valuable debt consolidation tool, which can save your client money. If your client has a poor credit history and multiple sources of high-interest debt in the form of credit cards and other loans, a private mortgage can consolidate these loans at a lower rate to reduce interest costs and monthly payments.
In some circumstances, as part of an overall borrowing plan, private lending can potentially result in cost savings. A good example is taking out a private second mortgage as an alternative to refinancing an existing first mortgage. A steep prepayment penalty, which can reach into the tens of thousands of dollars, can make accessing home equity through a refinance prohibitively expensive. A private second mortgage can enable a borrower to access the funds they need – for example, for a renovation or to fund a short-term unexpected need – without disturbing an existing mortgage and incurring a prepayment penalty. The term of the second mortgage can be timed to coincide with the first mortgage. At maturity, the first mortgage can be refinanced to pay out the private second mortgage.
Education is key
Alternative financing continues to play a pivotal role in the Canadian real estate market. As interest rates sit at elevated levels and traditional lending options become more challenging to access, a private mortgage can be a viable alternative for many of your clients. Educate borrowers on the value of working with responsible and transparent private lenders and ease their concerns by debunking some of these popular myths. CMI can provide valuable financing solutions to enable a variety of individuals and businesses with different backgrounds to meet their financial goals with confidence.
Not all private lenders are equal. Experience the CMI Difference. Learn why we’re the preferred partner of brokers across Canada. Submit your deal today.