Real estate investors, property developers, and builders rely on a variety of financing options to do what they do. For property acquisition, commercial mortgage-backed security (CMBS) and hard money loans are fairly popular. The two are often confused due to their similarities. Make no mistake. CMBS and hard money loans are distinctly different.
Actium Partners is a hard money lender based in Salt Lake City, Utah. The firm writes hard money and bridge loans in Utah, Idaho, and Colorado. They say that the differences between CMBS and hard money loans are many and varied. Let us take a look.
1. Loan Purpose
Loan purpose is a big deal to lenders. They want to know what financing is going toward in order to better understand their risks. By its nature, the CMBS loan is a long-term loan to finance commercial property acquisitions. Funding can also be utilized for making capital improvements, building out properties, and so on.
Actium says that the vast majority of hard money loans are designed to facilitate commercial property acquisition. However, unlike their CMBS counterparts, hard money loans can actually be used to finance just about anything a lender is willing to agree to.
Businesses often turn to hard money to fund expansion. They apply for hard money loans to make capital improvements. Some even use hard money to pay off existing loans while they look for alternative lines of credit.
2. Loan Terms and Structure
CMBS loans differentiate themselves the most from hard money loans in terms of terms and structure. There are three things to consider in this regard:
- Term Length – The term on a CMBS loan is usually 5-10 years. In some cases, amortization periods of up to 30 years are applied. Hard money loans are much shorter, with typical terms from 6-36 months.
- Interest Rates – CMBS loans tend to offer lower interest rates compared to both hard money and traditional commercial loans. Rates are usually based on the U.S. Treasury rate. As for hard money loans, their interest rates are higher than traditional loans.
- Repayment – Amortization is the name of the game with CMBS loans. Interest-only options are available. Most hard money loans are structured as interest-only loans with a balloon payment made at maturity.
From a strict financial basis, CMBS loans offer more stability, more time to pay, and lower interest rates. But the advantage of hard money is its shorter term. The higher interest rates or offset by a shorter term that ultimately means less total interest paid.
3. Loan-to-value Ratios
CMBS and hard money loans differ in loan-to-value (LTV) ratios. A typical CMBS loan offers an LTV comparable to a traditional loan. LTVs on hard money loans tend to be substantially lower.
4. Underwriting and Approval
Hard money has the edge when it comes to underwriting and approval. Hard money lenders are private and direct lenders, meaning they work directly with borrowers and have access to capital from their own balance sheets. This makes them more flexible. They can make loan decisions based primarily on asset value rather than the borrower’s creditworthiness.
CMBS loans also rely on asset value for approval. But because such loans are financed by pooling other loans and selling them as securities, CMBS financing is very complex. Underwriting and approval can take a lot more time.
Both types of loans have their advantages and disadvantages. For a straight up real estate deal on a valuable property, hard money is probably the way to go. A CMBS loan is a better option for more complex deals requiring stability in longer terms.
