With the current environment, many investors have built up their cash reserves waiting for more certainty in the market or for the right investment opportunity, since they are now harder to come by, both for active and passive real estate investors. But maybe you don’t have to sit on the sidelines. Imagine being able to invest in real estate in a different way, without worrying about tenants, occupancy levels, or maintenance, and for a short period of time vs a long investment period such is the case for real estate assets. And if things go wrong, someone other than you loses their money before you lose a dollar. This type of investment is what real estate lenders do. They hold a loan secured by an investment property.

How Does Lending on Investment Property Work?

If you have capital, lending is a great way to make solid returns. Short-term loans on investment properties that are securitized by the property can carry interest ranging from 8%-15% annually, along with loan origination fees of 0%-3%. The interest rate level and fees will vary dependent on the dynamics of the local market and the risk level based on the borrower, terms, and collateral. If the loan extends past maturity, you can charge an extension fee, and if the loan goes into default, you can charge default interest of 20% or more annually (the actual max rate depends on the state usury laws).

As real estate investors are well aware, real estate is one of the safest investments on the market since the investment itself is actual physical property. However, investing in real estate loans provides a very similar security because the loan or note is secured by real physical property and the lender or note holder has the right to foreclose on the property and recoup their investment.

As any investment, the greater the risk, the greater the return. For example, if a borrower defaults on a loan with a first position lien secured by real estate, the lender can seize the collateral to recover their capital and unpaid interest through foreclosure. If you hold a second position lien, you are not able to foreclose and the principal of your loan is only repaid after the first position lender is fully paid. Although you may earn a higher interest rate as a junior lender, you are increasing your risk of principal loss if the borrower ever defaults.

How Can I Invest in Loans for Investment Property?

So, how can you become a lender or invest in loans that are securitized by real estate? Like most real estate strategies, you can decide to actively lend or invest passively. To actively lend requires a lot of work and experience if you want to do it right and mitigate risk. Another option is to invest passively by investing in real estate loans or in a real estate debt fund.

To actively lend, first you have to have the capital. Then, you must find qualified borrowers and acceptable deals that meet your criteria. You have to underwrite the borrower, asset and project, ensuring that the project has the appropriate profit margin for the borrower to make money when they sell the asset or if it is a rental exit, the likelihood that the property will cash flow with a refinance. Then you’ll need to provide competitive terms for the borrower to want to borrow the funds from you. Before you fund the loan, you need to make sure that the title insurance policy and property insurance mitigate risk to you as the lender. You then have to produce loan documents that include all of the loan terms and lender protections while staying within state-specific compliance requirements. Once the loan is funded, you need to make sure that the rehab timeline is being met. You will also have to work with the borrower to provide additional funds for borrower to cover rehab costs. Along the way, you will need to collect interest from the borrower.

Phew, that was a lot! But you can also choose to go the passive route. You can leverage the time, operational infrastructure, expertise and deal flow of a real estate debt fund that is managed professionally and does all of the required work for you. For example, investors can gain access to a diversified portfolio of short-term real estate loans via our bluefox Real Estate Debt Fund (BFXV Fund I), which offers a 6%-8% preferred return, monthly distribution or compound interest option, and short lockup periods. The bluefox team finds, underwrites, originates and services the loans made by the fund. We focus on providing first position lien loans to experienced real estate investors with fix and flip projects. We create a promissory note that is collateralized by the investment property through a security instrument (a mortgage or deed of trust), and the loan has personal guarantee of payment from the guarantor(s).

You can be a private lender if you have access to capital. However, if you do it yourself, you have to invest time and energy into learning and gaining experience. Otherwise, seeking out the returns from private lending may lead to losses rather than gains. We leverage our time and experience to help investors diversify into the credit alternative asset and we believe that our criteria and approach delivers a great combination of income and risk mitigation.

‍Let’s connect to see how bluefox can help you diversify your portfolio by investing in alternative assets like real estate.