People who want to build or invest in hotels should start with new construction hard money loans. These loans can be approved faster and with less trouble than other loans. However, people who want to buy or build should know all about the risks of this type of financing. If you don’t know these risks, you could lose money on a real estate purchase and have money problems. People and businesses should consider the main risks before getting new construction hard money loans for their hotel projects.
The hospitality business is moving quickly and is very competitive. Investors and developers who want to build modern, in-demand homes that meet the changing needs of tourists may be interested in constructing new hotels. Private lenders or business groups give short-term loans based on assets. We call these “hard money loans.” They’re easier to get and take out quickly than regular loans. The value of the finished home backs these loans.
Regarding the tricky world of hotel real estate finance, HotelLaons.Net is a trusted partner. They offer referral schemes and help agents of all levels with their money. The company helps over 200 private lenders and real estate owners with various hospitality real estate projects. These include buying land, building hotels, motels, restaurants, and vacation rentals, and investing in these properties.
Unpacking the Risks: A Deep Dive into New Construction Hard Money Loans for Hotels
The Double-Edged Sword of Higher Interest Rates
One of the most essential things about hard money loans for new hotels is that the interest rates are always higher than those on traditional loans, standard financing, or bank loans. Different investors decide how dangerous they think the loan is so these interest rates can be as low as 8% and as high as 15%. The higher interest rate is because lenders take on more risk when they give out short-term loans, often to people who might not qualify for longer-term loans or projects where a lot is unknown.
High interest rates can significantly affect a hotel construction project’s cash flow and profits, especially when the hotel isn’t open and making money yet. Costs with a lot of interest can add up quickly, making the project’s total cost much higher and possibly cutting profits if they are not handled well. When interest rates go up, getting the money needed to build the hotel costs more, making this risk even more significant.
A lot of hard money loans come from private lenders and debt funds. Private lenders get their money from investors who want to make more money. This differs from traditional banks, which can earn money from safer and cheaper sources. Since debt funds are getting more involved in the hotel business, this change affects the higher cash cost for hard money loans, making interest rates go up even more.
| Financing Type | Typical Interest Rate Range | Typical Loan Term |
| Hard Money Loan | 9% – 13% or higher | 6 months – 3 years |
| Traditional Bank Loan | 5% – 9% (can vary) | 5 – 30 years |
| SBA Loan (7a) | Prime + 1.5% – 3.75% | Up to 25 years |
| CMBS Loan | Spread over Treasury | 5 – 10 years |
| Debt Fund (Hotel Focus) | It can be higher than banks | Typically shorter terms |
The Tightrope Walk of Short Loan Terms
Another essential thing for hotel owners to consider when looking for hard money loans for new construction is that these loans usually have short terms. Hard money loans for construction projects often have terms between 6 and 36 months, though the exact length can vary. Some may even be shorter, with terms of less than 12 months. This brief time means the business project must be turned around quickly. This forces developers to finish building the hotel and start making money within a short amount of time.
A balloon payment is often part of the terms of hard money loans at the end of the loan term. This means the borrower can make regular interest payments while the loan is being paid back, but the principal amount is due at the end of the loan term. This means you need an intense way to get out of the deal, usually either selling the brand-new hotel or refinancing the hard money loan with a more standard, longer-term loan.
These short loan terms can be awful for hotel owners who might have to wait longer than planned to finish their projects. Delays in the project timeline can be caused by the time it takes to get permits, problems with the supply chain, unplanned site conditions, and problems during building. These delays can not only push back the starting date of the hotel but also the start of making money. Nevertheless, it can be challenging for the borrower to meet the payback terms of a short-term, high-interest loan. Any increase in the loan term because of delays will cost more money and make the project even less profitable.
The Crucial Role of Loan-to-Value (LTV) Ratios and Equity
The loan-to-value (LTV) ratio is essential in the lending world. It shows how much of the property’s value is owed compared to its estimated value. For money lenders, the LTV ratio is a key risk measure. A lower LTV means that the borrower has more equity in the project, which means the lender is less likely to lose money if the borrower doesn’t repay the loan.
Lenders usually want lower LTV ratios for hard money loans for hotels built for the first time than for regular loans. Hard money lenders typically lend between 60% and 75% of the property’s value for new development. Sometimes, they will lend even less, between 40% and 55% or 60% to 70%. Real estate owners usually have to put down a large amount of money at the beginning, usually between 20% and 30% of the project’s total cost, or at least 30%. Some lenders may offer higher LTVs, up to 85%, but these are usually based on certain factors and may come with tighter terms.
Due to the need for a substantial equity contribution, hotel developers must invest much of their cash in the project. There is a chance of losing money because this money could be used for other investments. Additionally, putting a lot of money into a new hotel construction project comes with many risks and unknowns. Suppose the project doesn’t do well or the real estate market drops, especially in the sensitive hospitality sector. In that case, the investor stands to lose a lot more money. An investor will lose much more money if a project backed with a high LTV doesn’t do well than if the leverage were lower.
Navigating the Perils of Construction Delays and Budget Overruns
Costs can go up on construction projects, and schedules can get pushed back without warning. This is known as spending overruns. Building materials and labor costs have increased, making it harder to stick to project budgets. Problems that weren’t planned for can happen, like delays in getting the proper permits, issues with the supply chain for building materials, lousy weather, and problems on the job site that weren’t there before.
These delays and price increases can hurt people who have taken out new construction hard money loans for hotels. Firms have little money since these loans have short terms and high interest rates. If the building is delayed, people who borrowed money might have to pay more interest for longer than planned. This would put even more strain on their funds. The same thing can happen when costs increase: the project may need more money. Less LTV is required for hard money loans. Still, it can be challenging for developers to get more money if the project costs exceed the budget after investing a lot. When borrowers don’t have any extra cash, it may be hard to meet their loan obligations.
Remember that hard money lenders only care about the project’s initial value. They won’t give you extra money if the costs go up without warning. Other types of construction loans might let the loan amount be changed in some cases, but this is not one of them. This is why people who want to build hotels with hard money need firm backup plans and extra cash in case something goes wrong during the building process.
The Necessity of a Robust Exit Strategy and Refinancing Challenges
Hotel developers need a clear and workable exit plan to get out of hard money loans for new construction. These loans have short-term and balloon payments. The most usual way to get out of a hard money loan is to either sell the brand-new hotel when it’s done and stable or refinance it with a longer-term loan from a bank or credit union.
Many things, though, can make it hard to get a regular loan after a short-term hard money loan. Traditional lenders tend to be more challenging when it comes to screening. At first, they might think a project needing real money is risky. Potential lenders who want to refinance the hotel will carefully examine its financial past, occupancy rates, revenue per available room (RevPAR), and how well it has done. It might be hard to get new loans if the hotel doesn’t meet its standards or if the economy has gotten worse.
It can also be difficult for the hotel to get a new loan if delays or cost overruns occur during the building phase. Not many lenders may be willing to refinance hard money loans, which could mean the new loan has worse terms and interest rates. Refinancing may also involve fees and closing costs, which can have an even more significant impact on the developer’s funds.
Understanding Collateral Risks and the Specter of Foreclosure
Land saves money when it comes to hard money loans for new hotels. There is a big difference between these loans and other loans: the lender decides to give money based on the property’s value and potential, not the borrower’s financial situation.
Getting attention to the asset can speed up the process of getting approval. Still, it means that not paying back the loan can have serious consequences, such as the chance of losing the house. Let’s say the hotel company can’t repay the hard money loan as they agreed to. Following that, the lender can legally take back the home through foreclosure to get their money back. The builder may lose the money they spent on the hotel and the right to own it.
It’s more likely that people will not pay back hard money loans because the terms are shorter and the interest rates are higher. It’s more likely that the borrower won’t be able to return the loan if they face problems they didn’t expect, such as building delays, budget overruns, or slower-than-expected market absorption rates for the new hotel. If the renter doesn’t pay, they could lose the property, their credit score could drop a lot, and the lender could go to court to get their money back.
At first look, a hard money loan may seem easier to get than a regular loan, but producers should not forget how risky it is. Before agreeing to this type of financing, it’s essential to fully understand what you must do to pay it back and what could happen if you don’t, like eviction.
| Consequence of default | Description |
| Property Loss | Lenders can initiate foreclosure proceedings and seize the hotel property used as collateral. |
| Credit Score Impact | Defaulting on a loan, including a hard money loan, can significantly lower the borrower’s credit score, making it harder to obtain future financing. |
| Financial Loss | The borrower loses any equity invested in the project and any payments made on the loan before default. |
| Legal Action | The lender may pursue legal action against the borrower to recover any outstanding loan balance not covered by the sale of the foreclosed property, potentially leading to judgments and wage garnishment. |
The Importance of Due Diligence and Avoiding Predatory Lending
People who want to get a hard money loan need to be very careful and do a lot of research first. Private lenders aren’t closely watched like banks are, so people who borrow money from them might have to deal with bad loan terms, hidden fees, or even lenders who aren’t telling the truth. This is why you should read the loan deal carefully before signing it.
Private lenders that builders can trust should be the only ones they work with if they need to borrow hard money for new projects. Find out a lot about the lender’s past, how they’ve worked with owners of homes, and their track record. Lenders offer different loan terms, interest rates, and fees, such as application fees, closing costs, and possible early payment fines.
To get the best loan deal, people should compare these things. Another way to find good loans is to ask people you know who work in finance or real estate for suggestions. Doing a lot of study can help people who want to borrow money lower their risks of predatory lending practices and build a more substantial financial base for their hotel construction projects.
Mitigating the Risks: Strategies for Hotel Developers
- Complete Preparation and Accurate Predictions: One must carefully plan to deal with the risks of hard money loans for building new hotels. To determine if a project will work, developers must do thorough viability studies examining the market, the competition, and realistic income projections. It is essential to have accurate financial forecasts, considering how the market might change and precise cost figures for every building process. You need a thorough and well-organized business plan to get lenders to give you money for your project.
- How to Get Emergency Funds: Because building projects are inherently risky, it’s essential to have a large disaster fund set up. If something goes wrong, like the building taking longer than planned, prices going up faster than planned, or interest rates changing, this extra money will be there. It can also help you pay off your bills when you don’t make as much as you thought you would.
- Making a clear plan for leaving: If you decide to use a short-term, high-interest loan like a hard money loan, you need a clear, workable plan for getting out of it. Also, the builders should be sure they know when they will repay the loan. Get loans from a regular lender once the hotel is built and stable. This is the best way to do it. If you want to refinance, you should do it early in the project’s growth, before the market changes.
- Carefully look into possible lenders: Research before getting a hard money loan. People who are building should look into the track records, reputations, and understanding of different lenders. If you compare interest rates, fees, and loan terms and ask people you trust for help, you can find lenders you can trust.
- Communication is key during the construction process. It’s essential to build trust, avoid problems before they happen, and stay honest with the provider by keeping the lines of communication open. If any issues might arise, let the lender know how the job is going and your overall financial situation. This will help you work together better and give you more options if something goes wrong.
| Pros of Hard Money Loans for Hotel Construction | Cons of Hard Money Loans for Hotel Construction |
| Fast approval and funding, enabling quick action on opportunities | Higher interest rates compared to traditional financing |
| Flexible terms that can be tailored to specific project needs | Shorter repayment terms create pressure for quick completion and exit |
| Less emphasis on borrower’s credit score; focus on property value | Typically require larger down payments and lower loan-to-value ratios |
| It can be ideal for short-term projects or for bridging financing gaps | Higher upfront fees and closing costs may apply |
| Can fund projects that traditional banks might not approve, including renovations | Can fund projects that traditional banks might not approve, including renovations |
Conclusion
New construction hard money loans are a simple way to get the money you need to build a hotel. They do, however, come with risks that you should carefully consider. It’s important to carefully check out lenders to avoid getting ripped off by unfair terms and practices. There are a lot of risks with this type of lending, including higher interest rates, short loan terms that require quick completion and revenue generation, needing a lot of money upfront because loan-to-value ratios are lower, construction delays and budget overruns that could ruin the project’s finances, requiring a strong exit strategy because it’s hard to get refinancing, and having to lose collateral through foreclosure if you don’t pay.
Buyers and hotel makers should consider this type of real estate financing before agreeing to it. They need to know if they can finish the project, pay for any problems, and stick to the strict plan to repay the loan. Before you can get a loan, you need to fully understand the rules, make accurate predictions, and have a clear plan B.
Hard money loans can help you quickly buy a house and give you much freedom. Before making a business choice, you should consider all the risks. Hotelloans.Net has long helped hotel owners and managers get money for projects. We can help them finish their projects on time and without stress.
FAQs
What are the typical loan amounts for new construction hard money hotel loans?
Hard money loans for new hotels can have very different loan amounts based on the lender, the size of the project, and the location. Most of the time, they are between $100,000 and $50 million, and some lenders specialize in more significant business projects. How much you can borrow will also depend on the loan-to-value (LTV) ratio and how much the lender thinks the job will be worth when it’s done.
How does the draw schedule work for new construction hard money loans for hotels?
Hard money loans for new construction usually have a draw plan. This differs from traditional loans, which might simultaneously give you the whole amount. This means that the lender returns the money in stages as the building progresses and specific goals are reached. The banker will usually check the property before each draw to ensure the work is done according to the agreed-upon plans and budget. This process helps ensure the money is used correctly during the building process.
What credit score is typically needed for a new construction hard money loan for a hotel?
Even though hard money lenders care more about the item’s value than the borrower’s credit, it can still help to have a good credit score. Some lenders may require a minimum credit score, usually around 650 or higher. A better score means you are less likely to default and more likely to get long-term financing later on. On the other hand, hard money lenders usually look at how viable the project is and how much experience the user has with building homes.
Can the loan term of a new construction hard money loan for a hotel be extended if there are delays?
For a new construction hard money loan, the first loan time is usually short, between 6 and 36 months. If there are delays in the building, getting an extension from the lender might be possible. However, this is usually only possible if the lender agrees, and there may be extra fees or changes to the loan terms, such as an increase in interest rates. It’s essential to let the lender know about any possible delays so they can look at other choices.
Are there specific types of hotel projects that are more likely to be funded with a new construction hard money loan?
People often use hard money loans for new construction to pay for different hotel projects, like building boutique hotels or limited-service hotels from scratch, and quick repairs or additions that need money immediately. People want these loans when they can’t quickly get traditional financing or need to move soon on a project to take advantage of market possibilities. Hard money lenders are usually more interested in projects with a straightforward way of making money and an intense way of getting out of the deal.
