Every investor wants to buy real estate for one reason or another. They might want to make a retirement fund, add an alternative source of passive income in case their primary one falls through, or they could be reducing their portfolio risk by diversifying their stock or crypto-dominated investments with real estate.
As an investor, your money might be tied into your existing assets, making it difficult to invest in real estate on short notice—this is where hard money lenders can save the day.
In situations where traditional financing is not readily available, hard money loans can offer investors the necessary funds to seize opportunities. However, understanding the return on investment (ROI) associated with them is critical; it can help you decide whether or not to apply for that loan.
Below, we will explain why calculating ROI is important and explore the key factors to consider when evaluating the ROI of hard money loans that will have you applying for one at InstaLend faster than it took us to type out this sentence.
Why Calculating ROI of Hard Money Loans is Important
The ROI of your hard money loan should always be much higher than the cost of your investment. Like regular bank loans, hard money loans have interest payments. You need to earn enough from the investment property to pay off the loan with the interest rate and have sufficient funds to tide you over.
However, it’s not just about making a profit, and it’s certainly not just about the hard money loan.
Let’s flesh out this argument to know why calculating ROI is important.
· Assess Profit Potential
Calculating ROI provides a clear picture of the profit potential of your real estate investment. It allows you to gauge whether the investment aligns with your financial goals and expectations. By comparing potential returns to your initial investment, you can decide whether you want to carry on with this kind of asset class or loan type.
· Risk Management
ROI analysis inherently involves risk assessment. Understanding the potential risks of a specific investment helps you implement strategies to mitigate those risks. This proactive approach can safeguard your capital and enhance your investment’s overall success.
· Capital Allocation
ROI calculations help you assign your capital wisely and in a manner that very nearly guarantees returns. By comparing the expected ROI of one investment to another, you can make data-driven decisions about where to allocate your financial resources for maximum returns.
It’s acting on data analytics, plain and simple, which is not always a straightforward approach. Geopolitical uncertainty, inflation, and rising unemployment rates can always make things unpredictable.
· Negotiating Loan Terms
When seeking a hard money loan, understanding its ROI implications can make all the difference between loss and profit.
You cannot always negotiate favorable terms, such as lower interest rates and fewer points, by demonstrating your ROI projections. However, you can go with an entity like InstaLend, whose loan programs are designed to maximize profit for all types of real estate investors.
· Exit Strategy Planning
An ROI analysis also aids in formulating a robust exit strategy. By knowing your potential returns, you can better decide when to sell, refinance, or hold the property as a rental for long-term success.
For instance, a rental property that requires frequent repairs would eat more into your returns than you’d like, but you wouldn’t know that unless you calculate the ROI
The chosen exit strategy significantly impacts your ROI, and informed decisions will be more likely to yield favorable results.
· Long-Term Success
ROI calculations are not just about short-term gains. They are instrumental in ensuring your real estate investment strategy aligns with your long-term financial objectives.
Understanding and keeping track of the ROI of hard money loanscontributes to a more sustainable and successful investment portfolio over time.
Calculating ROI of Hard Money Loans
Now that you recognize the importance of ROI evaluation, here are the key steps to follow when assessing the ROI of a real estate investment funded by a hard money loan.
· Acquisition Costs
Begin by calculating all the costs associated with the investment property, including the purchase price, closing costs, and any fees linked to obtaining the hard money loan. These costs will serve as the foundation for your investment.
· Rehabilitation and Renovation Costs
In the case of fix and flip loans, account for expenses related to renovating or improving the property accurately. Effective budgeting is crucial to prevent overspending. The latter can negatively impact your ROI, even if the loan terms are favorable and the interest rate is on the lower end.
· Holding Costs
Holding costs include property taxes, insurance, utilities, and loan interest payments during the time you own the property. Since these costs can vary significantly, they must be integrated into your ROI calculations.
· After Repair Value (ARV)
The ARV is the estimated value of the property after renovations are completed. It should be more than the amount you spent on the property makeover and plays a pivotal role in determining the potential profit you can generate from the investment.
Estimate the selling price for the property once renovations are finished. This price should align with current market conditions, the property’s condition, and other factors, such as the crime rate in the area, the economic condition of the neighborhood, proximity to schools, transport routes, and other important infrastructure.
· Loan Terms
Lastly, thoroughly understand the terms of the hard money loan, including the interest rate, loan duration, and any points or fees. These factors will directly influence your overall investment costs, which is why they must always be taken into account before signing that dotted line.
Invest with InstaLend: The Only Time You Don’t Have to Calculate the ROI of Hard Money Loans
When used wisely, hard money loans can be a valuable tool for real estate investors. When you apply for them at InstaLend, you’re that much closer to guaranteeing fast and hard returns on your hard-earned loan, making sound investment decisions, and setting yourself on a path to financial prosperity.
Turn that property you’ve had your eye on around with a fix-and-flip loan, purchase a fully-built home with a single-family rental loan, and make commercial investments with our multifamily term loans. Invest to your heart’s content, and you’ll be set for life.
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