For real estate investors considering financing options for their next project, it is important to understand the distinction between business and consumer purpose loans as there are notable federal and state regulations associated with both types of funding that could impact their effectiveness. The inherent complexities of different loan types can often be confusing and overwhelming for new real estate investors. That’s why the financial experts at F.E. Forbes have compiled the following useful guide to understanding the differences between consumer and business purpose loans to help you determine which is the right fit for your investment.
Business vs. Consumer Loans
Business purpose loans are funds that use real estate assets as collateral and are earmarked “primarily for business.” That means that over 50% of the loan total will be put towards business-related expenses while the remainder can be used for other purposes such as consumer or personal costs. Alternatively, consumer purpose loans are mainly intended to cover personal, family or household costs.
In the initial stages of real estate investment planning when investors are weighing loan options, they often discover that many lenders are only willing to extend business purpose loans. It is tempting for aspiring borrowers to fabricate a narrative to transform their desired loan into one intended for business purposes—even if that is not always the case. Doing so is not advisable as lenders typically request extensive documentation to corroborate what the funds will be used for. Honesty and transparency are important qualities for both parties—the lender and the borrower—to exhibit at all stages of the lending process, especially during the early stages when the relationship is being formed. This provides the lender with the necessary information to advise and work with the borrower to structure the most cost-effective financing option that is viable from a long-term perspective.
There are essentially five main factors that determine whether a given loan is consumer or business purpose:
- How closely related is the borrower’s primary occupation to the acquired asset? For instance, a developer using a loan to purchase a vacant lot for construction would exhibit a high correlation between his occupation and the associated purchase.
- How involved will the borrower be in the management of the acquired asset? The greater degree to which the investor is involved in personally managing the property, the more likely the loan will be deemed a business purpose.
- The ratio of profit generated by the asset related to the overall profit of the borrower. The greater of a percentage that the asset accounts for in the borrower’s annual profit margin, the greater likelihood it will be deemed a business purpose.
- The initial stated purpose the borrower provides to the lender as to what the loan will be used for.
There is significantly less regulatory red tape associated with business purpose loans as opposed to consumer purpose loans. Ideally, business purpose loans are the ideal option for real estate investors and can be a great tool to maximize investment capacity and sustainable profitability.
Invest With Confidence, Invest with F.E. Forbes
As a direct private money portfolio lender, F.E. Forbes Company provides borrowers with the speed and flexibility the traditional lenders are unable to deliver in today’s lending environment. We understand real estate investors because our family has been buying and managing San Francisco Bay area real estate for over 100 years’. We are a creative collateral-based lender that focuses primarily on property value, property cash-flow, and borrower income. When you partner with F.E. Forbes, you can rest assured that our team of financial experts will work with you to provide efficient, dependable access to the capital you need to invest confidently. Contact us today to learn more about how we can help you accomplish your investment goals!
