Does 100% financing make any sense?

By Ben Hedenberg
last updated Sunday, Mars 15, 2012

An important miss-belief

One of the most common miss-beliefs is that investors are prepared to make "100 percent financing" available to entrepreneurs. To many entrepreneurs believe that they don't necessarily need to invest any of their own money in a project, or to purchase real estate. If you don't have your own money it might be convenient to think that somebody else can fund your company or a real-estate deal.

During all times we have had and will have economic cycles. It is inevitable that recessions occur in any economic system. The free market economy is in-itself extremely self-healing, as fare as the political class avoid to intervene. Politicians in Europe like in US believe that they must intervene and fix things. The US government is deploying staggering amounts of money that it is spending, in the belief that it can avoid a repetition of the 1930s. But it was exactly what the FDR governemt did and what caused the long and deep depression.

The risk level is equivalent to cash invested. If someone is investing 100 percent of needed capital he is also taking a 100 percent risk to lose his money. In case the entrepreneur contributes with 50 percent and the investor with 50 percent of the capital required each party has taken an equal stake of the risk in the project. An entrepreneur who does not contribute any cash to a deal have nothing to lose if his business does not become profitable. Such deals does not make any sense to investors (lenders).

Hard money lenders are investors too and do take certain risks that they generally are very savvy to evaluate. If there are great deals to be purchased why would a hard moony lender maker all of the money available and let the entrepreneur keep all of the profit? If this was the case the lender would certainly identify their own deals and, keep the control of the transaction to realize all of the profits. No hard money lender is willing to take all of the risk in a transaction. But a joint venture as a structured partnership could make sense, whereby the lender will take over certain control of the transaction, as well as a significant share of the profits. Such a transaction is more risky than a well-secured loan, and if the investor is bringing in most of the cash required for the deal then the investor is going to require most of the profits.

During the buyers market in 2006 hard money lenders had to make 100% loans if they wanted to stay in business. The market today is very different. There aren't enough lenders to fund every good opportunity.

If an entrepreneur does not have anything to risk in the transaction then it's simply not going to be a winning scenario for any kind of investor, not even for a hard money lender.

Mony to building

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