Private Lending is an effective way for investors to realize passive income without having to do any work.
Video Transcript: Hi, this is Devin Elder, and in this video, I’m going to talk about how private lending works. A lot of people that I talk to that are interested in real estate are not even aware that this is an option. So, how does private lending work? I want to talk through an example of a house that my company’s done.
We can go out and buy a house for $50,000, needs a lot of work. In this case, say it needs $25,000 worth of renovations. A new roof, new flooring, paint, new cabinets, whatever, $25,000 worth of renovations. So, there’s the 50,000 to buy it, there’s the 25 to fix it. Now, when it’s all fixed up, the house will appraise at 125,000. So let me illustrate this.
If we buy it at 50, and then we put another 25 in it here, now we’re at 75, but it’s worth 125,000. So we buy it here, we fix it up, brings us to 75, and there’s $50,000 of equity left in that house. So we go to sell that house or refinance it, and that’s our profit margin. As my company as the investor. Now where do I get this $75,000 from?
Sometimes, we’ll just use cash, we’ll use the company’s cash and we’ll go buy it. The problem with using the company’s cash is, if I’m doing one, two, three, four of these projects, you can see quickly how we can tie up half a million dollars like that, right? So you tie up a lot of capital by using our own money.
Now can we get a little better margin by using your own money? Sure. But, in order to do more projects and buy more houses and have more scalability, we leverage private investors funds to fund the purchase price, plus the rehab. And we have a very high rate of interest on that, and I have another video on why we pay the high interest rate, and it’s essentially because of speed. We need to get these deals done quick, so we pay a high rate of interest, 10% or sometimes more.
We’re willing to essentially partner with a private investor and give them some of the profit in order to get these deals done faster and to be able to do more of them. So a private lender would come in and lend the 50,000, plus the 25,000, we’ll never borrow more than 75% of what the home is worth. So if the home’s going to be worth 100,000, we would never borrow more than 75,000, so there’s always a cushion of equity of at least 25%, which creates safety. I mean, the number one thing as an investor is preservation of capital.
Don’t lose any money, right, that’s the number one criteria is that you can not lose any of your principal. One of the ways we protect that with private lenders is by creating at least a 25% cushion of equity. So, that creates you know, if I were to get hit by a bus or whatever the case is, the private lender’s got a cushion of equity.
The second thing is, they’ve got a first lien position on that property, meaning they are just like the bank, if anything were to happen to me, they lay a claim to that property in the amount of their loan. In this case, if the loan is $75,000, the investor has a claim to that property in the amount of $75,000, which is another mechanism that creates safety. So you’ve got a cushion of equity, and you’ve got a first lien on the property.
Now, typically we will pay our private investors a monthly interest only payment, or sometimes we’ll pay it on the back end, but either way, on this amount of money here, an investor can realize a 10% or often greater return with what we call idle money, it could be money in a savings account, money that they have thought about putting into a CD, or money that they’ve got in a retirement account. You can use a self directed IRA.
So, private lending funds the purchase price of the house, it funds the rehab, and then when we go to sell the house, the lender is paid off their original principal plus any interest they’re owed. So it’s a nice way to make money with what I would call lazy cash that’s sitting around. Put it in an investment vehicle that’s protected in numerous ways, and of course the attorney draws up all the documents, promissory note, deed of trust, personal guarantee, all these things that are in place there, that gets recorded, we close at a title company, that gets recorded with the county.
So everything’s done the same way really as a typical bank transaction, except that we’re moving a little faster because in the investment world, speed and the ability to close a deal quickly is often the difference between winning a deal and losing a deal. Ok that’s a simple overview of how private lending works. I’ve got a link below, if you’d like a free report on an overview of private lending, this is a extremely detailed overview of the private lending process, and it may open up some thoughts to you or a new world to you of how to invest in real estate without having to do any of the work.
Because let’s face it, flipping houses, renovating houses is a ton of hard work. We have lots of crews that we developed over the years, lots of efficiencies in doing this, but it is not easy work by any stretch of the imagination. However, for folks with idle cash, it can be very simple to just invest in these projects, reap the returns, and then rinse and repeat, and get yourself in a situation of passive wealth building over time through real estate.
I hope that’s given you something to think about and check the link below for a link to our in depth guide to private lending. Thank you.