Real estate gap funding is essentially an interim loan used to temporarily provide financing for an individual until they can secure a more permanent solution. Otherwise known as a bridge loan, gap funding is traditionally used to “bridge the gap” between the moment a borrowed money and when they can secure a long-term loan.
Due, in large part, to their short-term nature, gap loans are traditionally used by borrowers who are simultaneously waiting for long-term financing to clear and need money to cover immediate expenses. However, it’s a tool for anyone who needs access to capital while waiting for a subsequent loan to transpire. As a result, more and more real estate investors
are starting to take taking lending and the benefits it may provide between deals.
GAP FINANCING FOR REAL ESTATE
Most real estate investors will rely on private or hard money loans
for impending deals. However, it’s uncommon for most private and hard money lenders
to cover the entire cost of the purchase and rehab cost example, they will only lend a percentage of the purchase price or after-repair-value (ARV)—usually somewhere around 70% of the home’s value. As a result, most borrowers will need to secure additional capital; that’s where gap funding comes into play.
Real estate gap funding can make up for the shortcomings of most hard money lenders
. But, more importantly, gap money may cover the difference between the original hard money loan
and the remaining cost obligations. That means gap funding for real estate investors may cover the rest of the acquisition costs and the expenses incurred from rehabbing, marketing, and selling the property.
It is worth noting, however, that g. However, typically coincide with more expensive rates than their private and hard money
counterparts. Since gap loans are technically a second position (behind the original loan), they’ll compensate for the added risk with higher rates. Additionally, gap funding lenders may require borrowers to hand over a percentage of the deal’s resulting profits.
While gap funding has helped countless real estate investors carry out deals, they may not otherwise have had the chance to, it must be used conservatively.
GAP FUNDING PROS
Gap funding serves a specific purpose and is best suited for investors flipping a high volume of properties. That said, there are other benefits investors will be very happy to hear:
Gap funding is tailor-made for high-volume rehabbers, as it is ideal for those who fully intend to maintain several projects simultaneously. More specifically, gap funding mitigates the risks one may encounter from a delayed sale or any instance that unexpectedly slows down the rehab process. With gap funding, the need to wait for one deal to close before starting another becomes obsolete.
Gap funding for real estate investors may cover the difference between hard money loans and the remaining acquisition costs
of the subject property. As a result, gap funding makes it possible for many investors to acquire deals they otherwise wouldn’t have been able to.
Gap money can help investors fund more than the acquisition of a property; it can be used for rehab costs and any costs incurred from trying to sell and market the home.
Gap funding has proven very useful for investors who want to remain in a more liquid position.
GAP FUNDING CONS
Despite how helpful gap funding has proven to be for investors, it could be more situational. While it may serve as a great source of interim financing, there are some drawbacks investors need to pay particular consideration to:
The short-term nature of gap funding could be better for investors attempting to flip a single deal. The added costs are typically meant to meet the needs of those who intend to flip a high volume of properties simultaneously. Therefore, the cost of a gap loan may not be worth the price of admission for those who won’t use the funds under the right circumstances.
Due to the increased risk facing gap lenders, investors can expect to pay more interest. Typically, the rate will be 10-20% higher than traditional mortgages.
While not standard, some gap lenders will request a percentage of the proceeds from the sale of the house.
Receiving a gap loan—not unlike almost every other source of funding—will require investors to decide whether they want to pursue traditional or alternative forms of funding. If for nothing else, gap loans are made available from both institutionalized banks and private money lenders
. Those who elect to borrow from a traditional bank will need to apply, much like a traditional loan. Those who would instead work with private or hard money lenders
will need to attract interested investors. Since gap lending is technically riskier, investors must convince the gap lenders that their investment would be worthwhile. Unlike a hard money loan
, the money received from gap lenders is more asset-based than anything else. That means the better the deal, the more likely they will lend the money.
Gap Lending And Real Estate
Gap lending and real estate investing go hand-in-hand. Better yet, gap lending is the perfect financial safety net for those who need to keep current projects going or don’t want future projects to be put on hold because of current delays. Gap funding, for example, may help those who have spent all the money from their original hard money loan but still need more to complete the rehab. So instead of delaying the project and risking losing profits, investors may secure gap funding to finish renovations. Sure, the loan will come with added costs, but they are well worth the price of admission if they help see a deal through to completion.
WHEN SHOULD YOU USE GAP FUNDING?
Real estate gap funding has proven invaluable to countless investors. Quick and easy access to cash can’t
be underestimated, especially in a market as competitive as today. It is worth noting, however, that real estate gap funding isn’t necessary for every deal. But, not unlike every other type of funding, there is a time and a place where gap funding makes sense. More specifically, gap funding should be used when:
- High-end projects are more likely to realize sizable returns.
- Investors want to maintain more liquidity.
- There isn’t enough cash on hand to close a deal.
- Transitioning to a bridge loan can reduce interest payments from the initial loan.
- Cash reserves are needed to complete any unfinished construction projects on the subject property.
- Interest payments are building up due to the deal taking longer to close.
- Investors need to keep enough cash on hand if another deal presents itself.
GAP FINANCING COSTS
Gap funding has proven to be a valuable tool for securing temporary financing. That said, the optionality awarded by gap financing doesn’t come without a price; it’s usually more expensive than its traditional counterparts. Interest rates on gap loans, in particular, can range from 10% to 20% (depending on creditworthiness). Outside of higher interest rates, borrowers can expect to incur the following costs:
- Administration Fees
- Appraisal Fees
- Escrow Fees
- Loan Origination Fees
- Notary Fees
- Title Policy Fees
Gap funding has developed a reputation for supplying borrowers with immediate access to capital. It is worth noting. However, that gap funding is more than a source of money; it’s a tool used by countless investors to facilitate deals they may have otherwise had to pass on. That said, gap funding isn’t without its caveats; there is a right and a wrong time to use it. Therefore, it’s in everyone’s best interest to learn about gap lending before committing to it.
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About the Author: Dennis has been working in the real estate industry in some capacity for the last 40 years. He purchased his first property when he was just 18 years old. He quickly learned about the amazing investment opportunities provided by trust deed investing and hard money loans. His desire to help others make money in real estate investing led him to specialize in alternative funding for real estate investors who may have trouble getting a traditional bank loan. Dennis is passionate about alternative funding sources and sharing his knowledge with others to help make their dreams come true. Dennis has been married to his wonderful wife for 43 years. They have 2 beautiful daughters 5 amazing grandchildren. Dennis has been an Arizona resident for the past 40 years.