Private money loans or simply private money is a term used to describe a loan that is given to an individual or company by a private organization or even a wealthy individual.
Private money is usually offered to borrowers without the traditional qualification guidelines required by a bank Top Banks in the USA According to the US Federal Deposit Insurance Corporation, there were 6,799 FDIC-insured commercial banks in the USA as of . or lending institution. The major issue is that private money loans can sometimes be very risky, both for the borrower and for the lender. With less regulation, the borrower enjoys more freedom to use the loan for less than ideal purposes.
Most private money loans follow the current prevailing interest rates Interest Rate An interest rate refers to the amount charged by a lender to a borrower for any form of debt given, generally expressed as a percentage of the principal. . However, they may be significantly more expensive. When the lender knows what the loan will be used for, it may charge a higher rate of interest if the risk level of the proposed enterprise is high.
Summary
- Private money loans are given to individuals or companies by a private organization or individual instead of a bank or other financial institution.
- Private money lenders must be diligent and discerning when offering private money to borrowers.
- Risks exist for both borrowers and lenders with private money loans.
Private Money Lenders
The mitigation of risk is paramount for a private lender because the goal is to make money. There are a number of factors that a private lender focuses on before offering a borrower a loan. Among the most important are:
- Borrower credit A borrowers credit score FICO Score A FICO score, more commonly known as a credit score, is a three-digit number that is used to assess how likely a person is to repay the credit if the individual is given a credit card or if a lender loans them money. FICO scores are also used to help determine the interest rate on any credit extended reveals how quickly and consistently the borrower has historically paid off his debts
- Pricing strategy How can the lender ensure that the cost (to the borrower) of the loan is competitive with other lenders
- Exit strategy The schedule for the borrower to settle the loan and how they plan to do it
Its also wise for the lender to perform due diligence Due Diligence Due diligence is a process of verification, investigation, or audit of a potential deal or investment opportunity to confirm all relevant facts and financial information, and to verify anything else that was brought up during an MA deal or investment process. Due diligence is completed before a deal closes. , verifying any information provided by the borrower in order to get the loan.
Regulation of Private Money Loans
All private lenders must follow federal and state usury laws, and they can be subjected to banking regulations as well. Still, not all routine regulations apply to private lenders and the loans they offer.
One of the most frustrating regulations for private money lenders is the fact that lenders are sometimes subject to limits on how many loans they can hand out if they lack a banking license. Most private lenders dont need such a license because they arent a bank or some other type of financial or lending institution. Some states have established limits on the number of loans a lender can offer before they are required to get a banking license.
Risks with Private Money Loans
A borrower may fail to fully check out the lender. Its important to know where the money is coming from. Usually, its from a few independent investors who are looking for an investment return. Making sure that the money is good and that the loan wont suddenly fall apart is important.
If the borrower begins the process of moving into a rental space and then their loan falls apart, they can find themselves in serious trouble. Borrowers may also fail to fully read or understand a loan agreement Loan Covenant A loan covenant is an agreement stipulating the terms and conditions of loan policies between a 
borrower and a lender. The agreement gives lenders leeway in providing loan repayments while still protecting their lending position. Similarly, due to the transparency of the regulations, borrowers get clear expectations of and end up with a loan they cant pay back.
Lenders face risks also. That is why it is crucial for lenders to do their due diligence to make certain that the borrower can be trusted to repay the loan. If a loan is given and the borrower uses it for a risky investment or on an opportunity that falls through, the borrower usually defaults on the loan. The lender must face the reality that they wont see all of the loan repaid, even if they take legal action.
More Resources
CFI is the official provider of the Financial Modeling and Valuation Analyst (FMVA)™ Become a Certified Financial Modeling Valuation Analyst (FMVA)® CFI’s Financial Modeling and Valuation Analyst (FMVA)® certification will help you gain the confidence you need in your finance career. Enroll today! certification program, designed to transform anyone into a world-class financial analyst.
- Annual Percentage Rate (APR) Annual Percentage Rate (APR) The Annual Percentage Rate (APR) is the yearly rate of interest that an individual must pay on a loan, or that they receive on a deposit account. Ultimately, APR is a simple percentage term used to express the numerical amount paid by an individual or entity yearly for the privilege of borrowing money.
- Interest Rate Risk Interest Rate Risk Interest rate risk is the probability of a decline in the value of an asset resulting from unexpected fluctuations in interest rates. Interest rate risk is mostly associated with fixed-income assets (e.g., bonds) rather than with equity investments.
- Monetary Assets Monetary Assets Monetary assets carry a fixed value in terms of currency units (e.g., dollars, euros, yen). They are stated as a fixed value in dollar terms.
- Private Wealth Management Private Wealth Management Private wealth management is an investment practice that involves financial planning, tax management, asset protection and other financial services for high net worth individuals (HNWI) or accredited investors. Private wealth managers create a close working relationship with wealthy clients to help build a portfolio that achieves the clients financial goals.
Financial Analyst Training
Get world-class financial training with CFIs online certified financial analyst training program Become a Certified Financial Modeling Valuation Analyst (FMVA)® CFI’s Financial Modeling and Valuation Analyst (FMVA)® certification will help you gain the confidence you need in your finance career. Enroll today! !