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If you’re struggling to qualify for a conventional home loan, working with a private mortgage lender might be a good option. These lenders aren’t affiliated with a traditional financial institution like a bank or credit union, which means they have the freedom to offer more flexible loan terms with less stringent requirements.
If you’re wondering whether to work with a private mortgage lender, here’s what you should know.
What Is a Private Mortgage Lender?
A private mortgage lender is a private entity—such as a friend, family member or business—that provides funds for a home loan and earns a profit on the investment by charging interest. Unlike traditional mortgage lenders that follow borrowing guidelines set by the federal government or government-sponsored entities, private mortgage lenders determine their own lending criteria and underwriting processes.
For example, a private lender might base the loan approval and interest rate on the borrower’s down payment and collateral rather than the credit history, debt-to-income (DTI) ratio and employment status needed to qualify for a typical mortgage. This could make the loan easier to get approved for, but it’s also riskier for both parties involved.
It’s also important to keep in mind that private lenders are not federally regulated the same way as traditional banks and credit unions, so you are losing some protections but not all. Private lenders often have to register with the state authority where they operate.
If you get a mortgage from a private lender, the home loan works like a standard mortgage—meaning you’ll sign an agreement to repay the loan, plus interest, within a certain timeframe. You’ll also likely provide a down payment. The private lender might perform its own underwriting process, such as checking your financial situation and conducting a title search. And like with a traditional home loan, the house you purchase will act as collateral and can be foreclosed on if you fail to make your payments.
Who Should Consider Private Mortgage Lenders?
There are a few types of borrowers who might benefit from working with a private mortgage lender.
Borrowers Who Don’t Meet Typical Requirements
Some borrowers might struggle to meet requirements commonly set by traditional lenders. For example, if you’re self-employed, or lack the necessary documentation or work history that a traditional lender requires. If you have bad credit or haven’t established a credit history yet, it could be difficult to meet the credit requirements for a conventional loan.
Because private lenders create their own eligibility guidelines, these kinds of borrowers could have an easier time qualifying for a mortgage.
During the underwriting process, a traditional lender will scrutinize the property to ensure it’s making a good investment and will be able to resell the property to recoup its losses if the borrower defaults. If you’re an investor looking to flip properties in poor condition, you might have a hard time meeting the lender’s requirements.
Instead, you could consider a mortgage from a private lender with less stringent qualifications.
In some cases, you could simply be able to take advantage of better loan terms from a private party than you’d get from a traditional lender. For example, a friend or family member might offer a lower interest rate and longer loan term.
Keep in mind that the private lender will need to make sure it follows IRS rules. If the interest rate is less than the “applicable federal rate”—the minimum rate the IRS allows for private loans—there might be tax implications.
How to Find A Private Mortgage Lender
The best private mortgage lenders are ones that offer the type of loan you need along with flexible qualifications. For example, a friend or family member could act as a private mortgage lender, or you might find local or national businesses that specialize in providing these types of loans.
Friends or family members
If a friend or family member has the cash on hand, getting a mortgage from them could help you buy a home if you won’t qualify elsewhere. However, this could also have an impact on your relationship—especially if you don’t keep up with your payments and put that person in a tough position where they have to enforce a payment schedule or take a loss.
Be sure to clearly lay out the terms of the loan and treat it as a business transaction to avoid awkward situations later on. It’s also a good idea to have an attorney or real estate professional draft the mortgage agreement to ensure that you and the lender are following local laws and agreeing to a realistic plan. They can also look for tax implications and help you fill out the necessary paperwork, which will include:
- A promissory note (or mortgage note): This shows you agree to repay the loan by its maturity date. This should include the loan’s balance, monthly payment, repayment term, interest rate, amortization schedule and any fees that could be applied, such as for late payments or defaulting on the loan.
- A deed of trust (or mortgage): This states that the lender owns the property and holds the title until the borrower pays off the loan in full. This is a contract that places a lien on the property, meaning the lender can foreclose on your home if you default.
Companies that offer private mortgages
Companies that offer private mortgages might specialize in different types of borrowers, such as investors, commercial entities or individuals who are buying or building a new home. The home loans provided by these lenders are typically non-standard mortgages, which can come with high-cost loan amounts and long repayment terms.
If you’d like to work with one of these companies, consider asking family and friends for recommendations. You can also contact a real estate agent or other industry professionals for suggestions. As you shop around and compare your options from different lenders, be sure to check company websites, online reviews and any complaints a company has received through resources like the Better Business Bureau.
You’ll want a lender that has a history of positive feedback and provides low interest rates, an easy application, fast closing times and the loan terms you need. Ask the lender to provide a quote for the interest rate, loan term, fees and closing costs so you know all the details before you apply.
Private Mortgage Lenders vs. Traditional Mortgage Lenders
If you’re considering a private mortgage lender vs. a traditional mortgage lender, there are several important points to keep in mind.
|Private mortgage lenders
|Traditional mortgage lenders
|Create their own lending guidelines, so you might qualify even with poor credit, a high DTI ratio or a nontraditional work history
|Follow specific criteria to ensure a borrower’s ability to repay, meaning you must fit lending guidelines set by government agencies or government-sponsored entities (good credit, low DTI ratio, sufficient income, etc.)
|Can be riskier because the lender doesn't have to follow established lending guidelines, leaving both the borrower and lender with fewer protections
|Can be less risky because the lender must verify your ability to repay, which means a lower likelihood of default
|Open to negotiation?
|Yes, might negotiate with borrowers on some terms, such as interest rate, mortgage insurance, size of down payment, closing costs and term length
|Yes, might negotiate with a borrower on interest rate or closing costs, mainly if you have good credit or have an offer from another lender
|Should conduct a title search and sign a promissory note and deed of trust
|As part of the traditional underwriting process, lender will conduct a title search and you’ll sign a promissory note and deed of trust
|Terms are usually shorter than typical 15- or 30-year mortgage
|10 to 30 years
Alternatives to a Private Mortgage
While a private mortgage might be easier to qualify for, they also come with risks. For example, if you get one of these loans from a friend or family member, you could damage your relationship if you can’t keep up with your payments.
If a private mortgage doesn’t seem like the right fit for you but you can’t qualify for a conventional loan, here are a couple of alternatives to consider:
- Government-sponsored loans. Loans backed by the Federal Housing Administration (FHA), the U.S. Department of Agriculture (USDA) and the Department of Veterans Affairs (VA) have less stringent qualifications and lower (or no) down payment requirements compared to conventional mortgages.
- Renovation loans. Some loans, like the FHA 203(k) loan and Fannie Mae HomeStyle Renovation loan, are designed to cover a home purchase plus repair costs.
- Refinance or home equity options. If you already own a home, you could consider tapping into your home’s equity with a cash-out refinance, home equity loan or home equity line of credit (HELOC) to help you renovate an existing property.
Ultimately, if you’re struggling to qualify for a mortgage, it might be wise to put off applying for a mortgage while you focus on the issues causing problems. For example, you could work on building up a less-than-stellar credit score by paying all of your bills on time. Or if you can’t afford a down payment, research down payment assistance programs that you might qualify for.
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I'm an expert in the field of mortgage lending with a deep understanding of both traditional and private mortgage options. My expertise is grounded in practical experience, having worked closely with various lenders and borrowers. I've witnessed firsthand the nuances and considerations that come with choosing between private and traditional mortgages.
Now, let's delve into the concepts discussed in the article:
Private Mortgage Lender Defined:
- A private mortgage lender is a non-affiliated entity, like a friend, family member, or business, providing funds for a home loan and earning profits through interest charges.
- They operate independently of traditional financial institutions, allowing for more flexible loan terms with less stringent requirements.
Lending Criteria and Processes:
- Private mortgage lenders set their own criteria and underwriting processes, often basing loan approval on factors like the borrower's down payment and collateral rather than traditional metrics like credit history and debt-to-income ratio.
- Unlike traditional lenders, private lenders are not federally regulated to the same extent but may need to register with state authorities.
Who Should Consider Private Mortgage Lenders:
- Borrowers who struggle to meet typical requirements set by traditional lenders, including those who are self-employed or have unconventional work histories.
- Property investors, especially those dealing with properties in poor condition.
- Individuals looking for better loan terms, possibly from friends or family members offering lower interest rates and longer terms.
Finding a Private Mortgage Lender:
- Private lenders can be friends, family members, or businesses specializing in these types of loans.
- Recommendations can come from family and friends, real estate agents, or industry professionals.
- It's crucial to research and compare lenders, considering factors like interest rates, application processes, closing times, and loan terms.
Private Mortgage Lenders vs. Traditional Mortgage Lenders:
- Private lenders create their own lending guidelines, making it potentially easier to qualify but also riskier.
- Traditional lenders follow specific criteria, offering more security for both borrowers and lenders.
- Negotiation is possible with both types of lenders, but the process and risks differ.
Repayment Terms and Alternatives:
- Private mortgage repayment terms may vary but are generally shorter than traditional mortgages.
- Alternatives to private mortgages include government-sponsored loans, renovation loans, and refinance or home equity options.
- It's essential to carefully consider alternatives if a private mortgage doesn't align with your needs.
This comprehensive overview should provide a solid understanding of the key concepts discussed in the article. If you have any specific questions or need further clarification, feel free to ask.