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What is Private Mortgage Lending?

By Jason Anbara | Posted on December 28, 2023

Person looking into private lending investments with stacks of coins beside a house figurine

Private mortgage lending involves individuals or entities lending their own funds to borrowers for real estate purchases or refinancing, bypassing traditional financial institutions like banks. Investors act as lenders, providing mortgage loans secured by the property, earning interest, and paying fees on the loans. This form of investment allows investors to diversify their portfolios. 

In this post, we’ll explore the details of private lending, including key differences with traditional lending and how to get into this business.

Private Lending vs. Bank Lending

When most people think about taking out a mortgage on a home, they assume they will get a mortgage from a central bank, credit union, or other financial institution. While banks do service many mortgages, not everyone qualifies. Private lending offers an alternative to those who can’t get approved by traditional lenders and fills a vital role in the mortgage market.

Traditional Lending

Traditional lenders are highly regulated and must follow specific guidelines regarding who they can lend money to and how much profit they can make off that money. 

  • Banks that offer prime loans take on the least risk, but they also make the least money back in interest.
  • Subprime lenders also work within a similar regulatory framework. While they can charge higher interest rates on their loans, subprime lenders still need to adhere to stringent rules and vetting practices.

In traditional lending, borrowers need to meet the criteria for loan approval. This generally includes a minimum credit rating, down payment, debt-to-income ratio, and other factors. While larger financial institutions can approve more loans and thus take on a larger client base, the stringent requirements for approval also isolate certain borrowers.

Private Lending

Private lenders, like traditional ones, can look unique depending on the company structure:

  • Private lenders include corporations tasked with managing a group of investors’ money.
  • They can also be individual investors, or
  • Smaller financial institutions. 

Private lenders offer loans with different terms and risk assessments than traditional lenders. These loans are often shorter-term mortgages or have higher interest rates. As a result, they have the potential to provide greater monetary dividends than traditional lending.

There are still regulations applicable to private lenders, but these tend to be moderate compared to traditional lenders. For this reason and many others, private lending is becoming a way mortgage investors can make money by offering loans to borrowers who may not qualify for a traditional mortgage or are looking for different loan terms.

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Professionals at a table with papers and a calculator looking into private lending

How Does Private Lending Work?

Larger financial institutions are strictly regulated to limit risk. Loan applicants need to show that they can meet their financial obligations and continue to make their payments every month. Private lenders can hedge their bets in other ways. For example, one way is to use the collateral to mitigate risk.

Private lenders often require applicants to make larger down payments on their mortgages or have substantial equity. They also charge higher interest rates on their loans to help offset losses that may happen if a property is foreclosed on.

Private lenders work with various investors to secure the funds for these loans. The lender then manages the money invested to balance the risk and ensure it is divided equally and invested wisely.

Why Should You Use a Private Lender?

In theory, private lending seems straightforward. Investors provide the money, which is allocated into loans. But, without the security of working with a private lender, individuals looking to invest can open themselves up to increased risk. Plus, it can be difficult to find borrowers who want to work with an individual rather than a company. Here are a few reasons borrowers prefer to work with established private lenders:

Different Loan Terms

Instead of writing ten or 20-year mortgage loans, private lenders may offer special terms. One example is a bridge loan, in which the lender may cover the cost of a down payment on a property so an individual can close on financing before selling their existing property. 

Another scenario includes real estate investors who buy, fix and flip properties. These professionals might not want a 10-year loan, thus turning to a private lender for a unique loan term so they can purchase the property, make repairs, and sell it without an extensive mortgage commitment.

Fewer Rejections

Economic downturns have an impact on how lenders operate. Protection from risk has impacted the market and edged some people out simply because they can’t meet the criteria of traditional lenders, even if they can afford the monthly payments. Private lenders provide opportunities for these individuals to own a home despite various circumstances.

Product Diversity

Private mortgage lending offers investors a unique avenue to diversify their investment portfolios. Unlike traditional limited options, it allows funds to spread across various investments. By allocating capital to diverse real estate loans, investors achieve a balanced blend of safer, lower-risk opportunities and potentially higher-yielding, riskier investments. This diversified approach enhances portfolio resilience, reducing vulnerability to market fluctuations or economic downturns. 

Can Anyone Be a Private Lender?

Becoming a private lender is accessible to individuals who meet certain criteria and have the financial capacity to participate in lending activities. However, being a private lender involves more than just having financial resources. Understanding the real estate market, legal aspects, and risk assessment is crucial. Due diligence in evaluating borrowers, property values, and potential risks is essential to mitigate financial exposure.

Moreover, being aware of Canadian lending regulations and compliance standards is imperative. Though private lending doesn’t fall under the same regulations as traditional banking institutions, adhering to legal requirements, including provincial usury laws, is necessary.

Individuals considering private lending should first look into existing private lending companies to familiarize themselves with their practices. Often, having the support of an established private lender ensures the potential for better opportunities compared to conventional investments and protection from the risks and complexities involved if going it alone.

Two men staring at computer screen with graphs and investment projections

Is Private Lending Safe?

Like any investment, private lending carries inherent risks that investors should consider carefully. While it can offer potentially more money compared to traditional investment avenues, it’s essential to recognize the associated risks.

The safety of private lending depends on various factors, such as:

  • Thorough due diligence
  • Borrower credibility
  • Property valuation
  • Risk mitigation strategies. 

Assessing the borrower’s creditworthiness, financial stability, and the property’s market value is crucial to minimize potential risks. Additionally, private lenders may face risks related to market fluctuations, economic conditions, and possible borrower defaults. However, investors can enhance safety by diversifying their lending portfolio across multiple loans and property types, conducting comprehensive background checks, and working with legal and financial professionals to structure secure loan agreements.

Do Private Lenders Need To Be Licensed?

In Ontario, private lenders doing business through mortgage brokers do not need a license. However, private lenders must be licensed by the Financial Services Regulatory Authority in Ontario (FSRA) if they wish to do business with the public. Below, we’ve detailed specific types of private lenders and the details regarding their licensing requirements:

Individual Lenders

Some private loans are between individuals, such as a family member giving someone a loan or homeowner financing, which involves accepting direct payments for the property. There is no licensing requirement for this type of private lending.

P2P Lenders

Peer-to-peer (P2P) lending is an online platform connecting individual borrowers with investors willing to lend money. It eliminates traditional financial intermediaries like banks, allowing borrowers to obtain loans and investors to earn interest. Through these platforms, borrowers create loan listings with desired amounts and rates while investors fund portions of loans. P2P lending does not require licensing. 

Mortgage Brokers

Mortgage brokers may work with private lenders to bolster their own business and support a wider range of clients. Mortgage brokers need to be licensed, but many private lenders that work through them don’t because it is the broker’s responsibility to ensure that laws and regulations are followed.

How To Choose the Right Private Lender

Selecting the right private lender as an investor involves meticulously assessing various factors to ensure a secure and profitable investment. Here’s a comprehensive guide to making an informed decision:

Experience and Expertise

Seek private lenders with substantial experience and expertise in the lending industry. Evaluate their history, including the number of loans funded, successful deals, and the duration of their presence in the market. An experienced lender often demonstrates a better understanding of risk management and possesses the ability to navigate different market conditions.

Track Record and Performance

Review the lender’s track record in terms of loan performance and default rates. A reliable lender maintains a healthy portfolio with a low default rate, showcasing their ability to assess borrower risk and property valuation effectively. Analyze their historical data to gauge consistency and reliability.

Reputation and Reviews

Investigate the lender’s reputation by exploring reviews, testimonials, and feedback from both borrowers and investors. Look for reviews on independent platforms or forums to gain unbiased insights into the lender’s professionalism, transparency, and commitment to clients. Positive reviews often signify a trustworthy and credible lender.

Transparency and Communication

Prioritize lenders who prioritize transparency in their operations. Clear and open communication regarding loan terms, processes, fees, and potential risks is essential. Ensure they provide detailed documentation and readily address any inquiries or concerns, indicating a commitment to transparency and investor satisfaction.

Risk Mitigation Strategies

Assess the lender’s risk mitigation strategies and underwriting process. A competent lender implements robust risk assessment techniques, conducts thorough due diligence on borrowers, evaluates collateral, and has contingency plans in place for potential defaults. Understanding their risk management approach is crucial in safeguarding your investment.

Diversification and Flexibility

Consider lenders offering diversification in investment options and various types of loans across different geographies or property types. Flexibility in investment amounts and terms allows investors to tailor their portfolios according to their risk tolerance and financial goals.

Get Started with Private Lending

To get started on your private lending journey, connect with us at NorthLend Financial. We have vast expertise in the lending domain, ensuring a seamless entry into this investment avenue.

Our dedicated professionals offer tailored guidance, explaining various lending opportunities and structuring options. Benefit from our client-focused approach and industry knowledge as you dip into private lending. We’re here to help!

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About Our Founder

Jason Anbara, Founder, CEO, and Principal Mortgage Broker, has been dedicated to realizing the homeownership dreams of countless clients through his mortgage services business. A distinguished graduate in International Management with Honours, Jason also holds a Bachelor of Commerce from The Telfer School of Management at the University of Ottawa.

Driven by a passion for his community and the positive influence his team has on both new and existing residents, Jason has garnered multiple accolades and awards. These recognitions underscore his unwavering commitment to providing exceptional customer service.

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